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A 92% Tax Rate?!?!

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May 18, 2008 – Comments (8)

Over the past several months I have blogged about why I believe high oil prices are here to stay on a number of occasions.  While I believe that oil will eventually peak, I don't think that we are there yet.  The problem is not that we are running out of oil but that much of the low hanging fruit has already been picked.  The remaining oil is in difficult / expensive places to get at like deep under the ocean or in countries that have severely underinvested in their infrastructure, such as Nigeria, Mexico, Venezuela, and most of all Russia.  This week's Economist had an outstanding article on why Russian oil production has peaked and how it is unlikely to increase in the near future.

Russia levies obscene taxes on oil companies.  Its base oil tax rate is 65% at prices over $25 per barrel (the last time that I checked we were slightly above that price level).  Then it adds all sorts of production, corporate, payroll, etc... taxes on top of that which can skim up to as much as 92% of oil companies profits per barrel!!!!  No wonder no one wants to invest in new oil fields in Russia.  Talk about an absurd, short sighted tax policy that discourages investment (we're probably headed in that direction ourselves with all of the "windfall" tax ideas that have been thrown around in this Presidential election).

Over the past seven years, Russia has accounted for 80% of the increase in the world's non-OPEC oil production.  The increase in Russian oil production has basically matched the increase in demand for oil from China and India.  However, we may have seen the last of the increases in Russian oil production for a long time.  April marks its fourth consecutive monthly decline.  It now sits at more than 2% below the peak level of production that it hit in October 2007.

The problem isn't a lack of oil, Russia still has plenty of it.  The problem is the country's absurd tax policy has discouraged companies from investing in finding and drilling in new places.  Instead, oil companies have been using all sorts of techniques to squeeze every last drop of oil out of the maturing existing fields, which Russia offers tax breaks on.

Even if the Russian government sees the light, and that is doubtful, it can take a number of years before a new oil field is developed.  As one can imagine, Russia's mismanagement of its resources is very bullish for oil prices and it is partially responsible for the high prices that we have seen, and will likely continue to see.

Deej

8 Comments – Post Your Own

#1) On May 18, 2008 at 11:22 PM, Hezakiah (91.89) wrote:

Maybe Russia will finally get a clue...

http://www.iht.com/articles/2008/05/15/business/energy.php?page=1

Nothing much of substance here, but the stock market (RTS) is sure hoping that things are going to change.  RSX is up about 14% in the last two weeks. 

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#2) On May 18, 2008 at 11:53 PM, vicpicks (< 20) wrote:

Hi Deej,

You might find today's article from the Telegraph interesting. The last paragraph says,

"Russia rivals Saudi Arabia as the world's largest oil producer and is estimated to have the largest natural gas supplies. Energy earnings are funding a $189 billion (£97 billion) overhaul of its armed forces."

http://www.telegraph.co.uk/news/worldnews/europe/russia/1976314/Russia-accused-of-annexing-the-Arctic-for-oil-reserves-by-Canada.html 

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#3) On May 19, 2008 at 12:13 AM, EScroogeJr (< 20) wrote:

Hmm, encourage tens of billions of new investment only to see prices tumble as the result? Doesn't look like a good idea.

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#4) On May 19, 2008 at 3:33 AM, AnomaLee (28.73) wrote:

As a chipper Mexico's oil production has likely peaked and their largest oil fields could be in decline as well. The same problem of ridiculous tax rates is going on with our best friend Hugo Chavez down in Venezeula who charges a tax rate above 50% to all foreign oil drillers and miners. 

They have more accessable oil than anyone else in the world that I am aware of. It may be inferior sour crude oil, but at current price levels I don't think it matters much. Unfortunately, they have an idiot economically oppressive leader and businesses would rather go drill in the Canadian Tar Sands where it would be far more expensive if they dumped their outrageous tax rates.

Peak oil production is no myth and we're no where close to the top. We shouldn't be burning hydrocarbons anyway. 'Til then invest for times...

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#5) On May 19, 2008 at 12:16 PM, leohaas (32.36) wrote:

Sure, Russia's taxes on oil are sky high, but it is already an improvement over the Soviet days, when the effective tax rate was 100%.

But look at this from Russia's perspective (or any other oil producer). Long-term, the price of oil is only going up. That means oil producing nations should currently produce as little oil as possible, preserving larger future profits. That is why the Saudi's are not increasing their production. And neither will the Russians. So the high taxes do work to their advantage!

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#6) On May 19, 2008 at 3:12 PM, ATWDLimited (< 20) wrote:

It works, and it is called protectionism, the same thing many of us here are against, but I am for. ITs how nations agin wealth, Saudis, Russians etc, are loaded with money, and are ensuring that they are sources of products at home, and abroad, by keeping the price just right. What we need is to frill here, we goat alot o iol our selves, a ton on of coal and a lot of methane in the oceans, so lets use it and stop waiting for the rest of the world to get things we want, and cut their own profits, its not ever going to happen, so lets use our own supply.

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#7) On May 19, 2008 at 4:08 PM, abitare (88.86) wrote:

good post.

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#8) On May 22, 2008 at 12:17 AM, russiangambit (29.37) wrote:

All true, but keep in mind, that not all oil companies in Russia have pure free market mentality, i.e. their goal is not necessarily to increase shareholder's value. Gazprom, for one will not decrease production to decrease taxes, it will only do so if the government tells it to. As government receives huge tax on Gazprom's oil, the government is probably encourging Gazprom to pump more oil.

What you say, applies to smaller independent oil companies to some degree. However, Russians are so used to the state taking everything it can from them, this is just business as usual.

In addition, there are talks about changing this tax law to encourge more exploration. In fact, Russian oil stocks jumped on this news 20% just last week.

 

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