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Planned Economies Do Not Work – Part IV

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Kudos to Congressional Republicans for defending capitalism and rejecting central economic planning. On Tuesday, Senate Republicans denied their Democratic colleagues the 60 votes needed to end debate and pass a windfall oil profits bill. The bill would have put a 25 percent tax (windfall oil profits tax) on profits over what would be determined “reasonable” when compared to profits several years ago. It would have regulated energy futures traders in order to limit market speculation. It would have made price gouging of oil and gas a federal crime during a declared energy emergency by the president. Lastly, it would have given the Justice Department authority to bring charges of price fixing against countries that belong to the OPEC oil cartel. The measure was meant to address and punish those that are responsible for high prices at the pump – namely big oil companies, speculators and oil producing countries. Of course, these Washington contrived villains are not ultimately responsible for high gas prices. Even if they were, the measure would not have solved the problem. It would only have made it worse.

It is amazing what short memories proponents of a windfall profits tax have. In 1980, Jimmy Carter enacted one and from 1980 to 1988 (the last year of the tax) there was a 3 to 6 percent decrease in domestic oil production. This happened because the tax increased the marginal cost of production, thereby reducing the quantity of gasoline produced. A decrease in gas supplies without a corresponding decline in demand means even higher prices at the pump. In a best case scenario, if the tax had been enacted oil companies would pass the tax expense on to consumers in the form of higher prices and we might have to wait in long lines to fill up or be subject to rationing.

Windfall profit taxes are also bad because 41 percent of oil company stocks valued at over $267 billion are currently held in various forms of pension plans and retirement accounts. The tax would cause the values of these accounts to dwindle causing negative effects on national savings and our senior population. Rest assured, while the Democrats believe a windfall profits tax is the right thing to do, the measure’s vengeance would have been mostly felt by the American consumer.

The Democratic bill would have also required traders to put up more collateral in the energy futures markets and would have opened the way for federal regulation of traders who are based in the United States but use foreign trading platforms. The Democratic leadership in Congress clearly believes that a group of speculators have gotten together all of a sudden to conspire to inflate the price of oil futures in order to reap huge gains at the expense of the rest of us. Talk about conspiracy theories. This belief ignores the relationship the current value of our dollar has with oil prices. The rise in oil futures is a direct result of investors trading debased dollars for a commodity that has had, has, and will have into the future enormous value because of its necessity for the world economy. If the government attempts to control the price of oil through regulation of futures trading, it potentially will have the same result that price controls have had in other sectors of the economy – a shortage of the product because the profit motive for producers is either limited or eliminated altogether. Once again the opposite effect of what Congress is trying to accomplish will happen. The price of gas will increase because Congress’s policy will cause a decrease in supply.

Two other provisions of the bill would have made domestic gasoline price gouging a federal crime and given the Justice Department the authority to sue countries in the OPEC oil cartel that price fix. Common sense indicates that when the raw material that goes into a finished product increases significantly in price, the price of the finished product will also increase significantly. There is no doubt that oil companies make large profits, but that profit is needed by them to carry out exploration, excavation, and refining of their product. As to the Justice Department having the authority to sue another country, this is just indicative of how arrogant and wacky supporters of the bill have become.

In essence, the Democratic windfall profits bill was nothing more than election year pandering. It was an attempt to show the electorate that Democrats are on their side when it comes to dealing with bad guys – oil companies, speculators, and OPEC. However, not only would the bill have exacerbated the current energy crisis by adding costs to oil production, depleting national savings, and causing gasoline shortages, it was misdirected in terms of who is ultimately to blame for high gas prices.

The primary culprit responsible for high oil prices are the monetary central planners at the Federal Reserve Bank. According to Ron Paul, the Fed has roughly tripled the amount of dollars and credit in circulation since 1990. It has added 4 trillion dollars to the money supply in the last 3 years alone. This has caused a serious devaluation of the dollar. The Kwacha, which is the Zambian currency, has gained 33% against the dollar in 3 years. Zambia is a much poorer country than the U.S. and its money is on the rise against our greenback. Because the dollar is the international currency of exchange for oil, the debasement of the dollar is responsible for the high price of oil. It is also easy to understand why investors (speculators) are dumping dollars in favor of commodities, specifically oil.

While the politicians in Washington and their friends in the media continue their campaign of blaming greedy business men, unscrupulous investors, and shady foreigners for our gas woes, remember that a rise in prices almost always is caused by too much money chasing too few goods. The supply of oil is fine; it is the too much money part that Congress needs to deal with.

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About Kenn Jacobine

  • http://www.republicofdave.com Dave Nalle

    Some good points here, Kenn, but I’m afraid I have to contest one of your points. Much though we all hate fiat money and all the bogus currency the government has printed, it is not actually responsible for more than a fraction of the increase in oil prices.

    For example, in the 3 year period when so much money was printed, the value of the dollar dropped only 15%. Mathematically that means it only increased the nominal price of a barrel of oil by about 9%, nowhere near enough to account for the massive increase in the price per barrel in that same period.

    And if we look at the numbers for the last 7 years, since Bush started printing more money to deliberately deflate the value of the dollar, you see the price of oil increasing almost 200% while the value of the dollar has gone down only 44%. That 44% decrease in dollar value accounts for only an 81% increase in the price per barrel, so the remaining 3/5 of the increase in oil prices MUST have a different cause.

    Sorry, but the math just doesn’t back up your claim.

    Dave

  • jamminsue

    The only part of the bill that I would have supported was the speculators being required to pay 100% of their bid for the futures, same as the “regular” stock market speculator has to pay for his stock. When I found out that the speculators only have to front 25% that concerned me.

    Isn’t that how the stock market was a contributor to the Great Depression? I know of other issues, but that was one of the biggies, right?

  • Clavos

    jammin,

    “speculators being required to pay 100% of their bid for the futures, same as the “regular” stock market speculator has to pay for his stock.”

    Under NASD and NYSE regulations, an investor can buy stock on the NYSE with as little as 50% initial margin. Maintenance margin can be as low as 25%.

    Individual brokerage firms can establish their own requirements (higher, not lower), but usually don’t.

  • bliffle

    Leverage is obtained by buying options, not the stocks or commodities themselves.

  • Clavos

    And your point would be?

  • Kenn Jacobine

    Dave,

    I did say that “The primary culprit responsible for high oil prices are the monetary central planners at the Federal Reserve Bank.” There is a demand issue also from India and China. Additionally, our foreign policy in the Middle East has caused speculation – will the U.S. invade Iran and oil supplies cut? So the Fed in my view is not the only cause of the high cost of gas. The article’s point was that planned central economies do not function as well as totally free markets. Free markets are not perfect, but they are the best way to go and I will always be unapologetic about that view

  • bliffle

    Command economies don’t work but neither do “free market” economies since they soon devolve into monopolies administered in much the same way and with the same disastrous results as command economies.

  • bliffle

    If the congressional republicans were really opposed to managed economies they would stop promoting subsidies to oil interests as well as opposing windfall profits taxes. Subsidies and taxes are two sides of the same coin.

  • bliffle

    If the congressional republicans were really opposed to managed economies they would stop promoting subsidies to oil interests as well as opposing windfall profits taxes. Subsidies and taxes are two sides of the same coin.

  • http://www.republicofdave.com Dave Nalle

    Kenn, control on the money supply and interest rates and regulation of banking does not necessarily mean that trade in general is not free. It’s certainly possible to have controls and regulation on finances while having pretty unregulated trade in most other areas, and that seems like a functional balance between the stability of managing the financial sector and the dynamic growth that goes with free trade in other sectors.

    Dave

  • Kenn Jacobine

    Dave,

    The problem is that central banks do not provide stability to the financial markets. Look at 20th Century U.S. economic history – Great Depression, various recessions, 1970’s inflation, and today’s crisis. I am afraid that today’s crisis is going to be the mother of all economic crisis. The Fed has backed itself into a corner – recessionary economy with inflation and no where to go on interest rates. Can anybody say stagflation?

    Further, the Fed was founded with one purpose – to protect big banks from failure and allow them to participate in risky behaviors to achieve huge profits. JP Morgan was at the front of fighting for a central bank and among its rewards was the Fed guaranteed “purchase” of Bear Stearns.

    Lastly, the inflation caused since 1913 is huge. Inflation is a hidden tax which allows the politicians to spend at will while our savings and the financial integrity of our currency is destroyed. I just don’t see how the current Fed is a benefit to the U.S. as a whole?

  • http://www.republicofdave.com Dave Nalle

    Last I checked large profits are GOOD for the economy. More people making more money including bank shareholders seems like a very desirable thing. Plus I’m pretty sure none of us would benefit from the failure of a bunch of big banks, even if that were the sole function of the Fed.

    As for stability, your assertion that the Fed somehow caused the depression, the inflation of the 1970s and all of our current problems is absolutely unsupportable. It just doesn’t square with the facts.

    The Fed did not cause US manufacturers to overproduce in anticipation of non-existent foreign markets in the 1920s. It didn’t cause the oil shortage, high taxation and terrible government policies of the 1970s, and while it may have created opportunity for misbehavior in the current situation it certainly didn’t cause it.

    And do you know why Morgan ended up supporting a Federal bank? Because when the Treasury ran out of gold in 1895 as a result of the Panic of ’93, Morgan had to basically front them $65 million in gold against a $100 million bond issue to keep the government solvent. Morgan rightly concluded that a gold-based currency system was too vulnerable and needed rational control.

    Dave