I thought now was a good time to remind people of the tax breaks received by the oil and gas industry. Unless you want to drain America faster, you want to eliminate those subsidies. Some conservatives might agree. Unfortunately there's not much money here. The latest budget documents (big PDF file, p. 287) show small change in the mere hundreds of millions. Same for this useful, compact overview of energy tax policy from the Congressional Research Service.

The big oil/gas tax break was the percentage depletion break, but the tumult of the 70s cut that down to size. It would be fair to say this break besides going to wealthy people caused over-exploitation of oil and gas -- causing us to use up domestic reserves faster than would have otherwise been the case, delaying development of alternative fuels. Next time you hear somebody braying about the environmentalists, try using that one.

These breaks amounted to destruction of wealth -- negative GDP. A proper income tax would allow deductions for cost of production. Say you sell a widget for $10 and it costs you $8 to produce it. Your income tax base is $2. Duh. With a 35% tax rate, your tax is 70 cents. Suppose a dollar of your eight dollar cost is allowed as a tax credit. Now you're looking at a negative tax of 30 cents. (This does not depend on the Gov mailing you a check. The idea is that the subsidy offsets other taxes.) You invest more in widgets than other stuff since your rate of return is higher.

Even more fun -- suppose you get a tax credit of $3 for every widget. Besides having a negative tax, you can have negative production. Suppose your costs per widget went up to $11. You can still make a profit, even though your cost exceeds what people are willing pay. Taxpayers are supplementing your market proceeds, turning a lousy investment into a good one.

In social terms, you are distorting allocation -- making more widgets and less of something else. You make widgets more valuable than they actually are. You are wasting capital. The problem with right-wing apologies for tax breaks is they love profits but hate economic growth.

People are getting exercised by talk of windfall profits taxes (WPT). It would be nice if we just had an ordinary, clean corporate income tax (CIT), rather than the swiss cheese the CIT has evolved into, with much help from both parties.

That aside, there is nothing horrible about a WPT. It won't reduce gas prices. It might increase them, but probably not much. In the same vein, the impact on investment is not likely to be great either. And do we want more investment in oil and gas, or in less exhaustible, cleaner alternative sources of energy?

I'll tell you a secret. The Armey-Forbes-Hall-Rabushka flat tax is a windfall profits tax, not just on oil but on all capital. Since you can immediately deduct all capital investment, the effective tax on future "normal" returns to that investment is reduced to zero. Only above-normal, windfall returns are taxed. In the same vein, below normal returns are subsidized. (The reason is that if the normal rate of return is the discount rate and the marginal tax rate is constant over time, the present value of future taxes due equals the tax savings from the deduction.) But I digress.

Here's a fun paper (via Andrew Samwick) proposing that oil-importing countries tax oil imports. If supply of oil is relatively fixed, the price doesn't change much. Instead of paying it all to foreigners, we pay the Gov, and the Gov could rebate the tax to consumers. (Or it could build more midnight trains to Georgia.) Either way, money staying here stimulates consumer spending and U.S. employment, negating the complaint that a production or excise tax discourages output. The key is that the tax reduces the wealth transfer to foreigners. It unstimulates somebody else's economy.

For the same reason, a tax cut would have exactly the wrong outcome. If supply is inelastic, the cut redounds to the benefit of sellers, not buyers. The Gov might as well just send checks to the Saudis. More money leaves the country, depressing consumer and/or government spending.

The prof says the production cost of oil is about $14 per barrel. Now the market price is $75. How much would supply fall with some reduction in these windfall profits? It would be fun to find out.

Short term measures aimed at big problems that have been a long time coming are always dicey. I've got a few ideas. Make it cheaper to use mass transit, and don't let Amtrak go off the rails. This might get some cars off the road and ease pressure on prices. State governments already give transportation subsidies to welfare recipients. There should be some way to provide subsidies for weatherization -- doors, windows, insulation -- preferably not through tax credits. The IRS has its hands full as it is. My co-blogger Gar Lipow makes a case for strengthened regulation on fuel economy and home construction.

Over the long run fossil fuel based product prices will and should go up, unless you prefer sending young men and women off to war.