Biden should not repeat Jimmy Carter’s windfall profits tax mistake

President Biden recently went on TV to denounce the “outrageous profits” of the major oil companies and declare that he would push Congress to enact a tax on their excess profits.

But “excess profits” are in the eye of the beholder, and oil companies have always been the target of political scrutiny any time they report large profits or the price of gasoline rises.

It is still surprising that Biden would embrace a so-called “windfall profits tax” on oil companies when it proved to be an utter failure the last time it was tried under President Jimmy Carter. It would be a mistake for Congress to bring life to this proposal as the lame-duck session approaches.

The Crude Oil Windfall Profit Tax of 1980 was intended to capture the excess profits of the major oil companies after Carter and Congress lifted the federally imposed price controls on domestically produced oil, effectively deregulating the oil and gas market. Despite its name, the policy didn’t tax the income of oil companies, it placed an excise tax on the difference between the market price of oil and a fixed base price. The new tax was expected to raise some $393 billion over the following decade. 

Not only did the tax fall short of expectations, but it also increased our dependence on foreign oil, according to the nonpartisan Congressional Research Service. They found that “From 1980 to 1988, the WPT may have reduced domestic oil production anywhere from 1.2 percent to 8.0 percent … [while] Dependence on imported oil grew between 3 percent and 13 percent.”

There were several reasons why the tax was eventually repealed in 1988. First, it was an administrative burden to the Internal Revenue Service and a compliance burden to the oil industry.

Next, since oil prices collapsed during the 1980s, the tax generated only $80 billion over a decade — a fraction of what had been projected.

As a result of the domestic oil industry falling on hard times, “Congress came to view the windfall profit tax as a burden on an industry that was becoming severely depressed due to the sharp drop in oil prices and due to the volatility of oil prices.” 

That may have been the last time anyone in Washington felt sorry for the oil industry.

The 1980s experience was not unique. Excess profits taxes were levied on all companies during World War I and World War II when lawmakers thought firms were profiting from the war effort. Their results foreshadowed the 1980s experience. The war taxes were burdensome to administer and comply with, and they stifled innovation. There was also considerable debate over what constitutes “excess profits” versus “normal profits.” As Treasury Secretary Frederick Vinson said at the time, “The difficulty is that calling profits excessive does not make them excessive. Calling profits normal does not make them normal. Normal profits and excessive profits look alike.”

Since there is no objective standard for normal or excess profits, do we really want politicians to make that decision?

Biden is hardly alone in responding to political pressures to call for higher taxes on oil companies. Lawmakers in at least 15 European countries have responded to public anxiety over rising energy prices by either enacting or considering excess profits taxes on their energy companies.

But what may be good politics can often be very bad tax policy and worse economics. History has shown that windfall profits taxes inevitably backfire. Biden should not repeat Jimmy Carter’s mistake.

Scott Hodge is president emeritus and senior policy advisor at the Tax Foundation, a Washington, D.C.-based think tank.