End Big Oil’s tax breaks now

May 26, 2011, 1:00 PM UTC

It’s time to truly level the playing field and give all forms of energy a chance to compete.

To hear some tell it, we have lost our collective appreciation for free markets. So writes CNBC anchor Joe Kernan in his new book about “defending our kids from the liberal assault on capitalism.” Or former BB&T CEO John Allison, who offers $2 million grants to colleges that create “courses in capitalism.” And I agree. Specifically, we’ve forgotten one of capitalism’s most fundamental promises: New companies deserve the opportunity to succeed.

That’s why I assume Joe, John, and their Randian peers must be furious with Senate Republicans for recently defeating a Democratic proposal to end billions of dollars in tax breaks for American oil companies.

The D.C. debate over fossil fuel handouts was, of course, framed within a short-term political prism. Democrats hoped to blunt criticism that they don’t care about deficits, while Republicans wanted to rally their tax-phobic base. But ending oil and gas subsidies should be about something much larger: creating a marketplace in which renewable-energy companies can compete fairly with fossil-fuel incumbents. For too long we’ve heard petroleum advocates say that solar, wind, and biofuel are failed experiments. They’ve had their chance, but have been unable to demonstrate cost-effectiveness.

What this ignores, of course, is that American oil and gas companies have had a century of built-in advantages. For example, they are allowed to deduct “intangible drilling costs” — including labor and drilling fluids — the moment a well is tapped (even if it proves to be dry). And then there’s the “depletion allowance,” which allows certain extractors to shelter around 15% of a well’s production from the IRS. And deductions for royalties paid to foreign governments. And the oil and gas liability cap that remains at just $75 million, more than a year after the BP (BP) rig explosion. Then there’s Section 199, which allows profitable oil and gas companies to deduct 6% of net income.

To be sure, there also are tax breaks for green-energy companies. But most of those handouts are temporary — including low-interest loans from the 2009 stimulus — with renewables receiving only around 5% of some $20 billion worth of federal energy tax breaks (excluding subsidy-rich ethanol, which is a separate but equal tax tragedy). Some of these subsidies are very important to individual companies, but the renewable-energy industry’s best long-term play is to support the elimination of all federal energy handouts. “If the playing field is truly leveled by a good-faith proposal to eliminate all subsidies for fossil fuels and renewables, I am very confident that renewables will compete effectively,” says Josh Green, a venture capitalist focused on the clean-tech market.

Solar-energy-generation costs, for example, fall around 8% each year as technologies improve and capacity expands. U.S. Energy Secretary Steven Chu recently said that he could see solar and wind “being cost competitive without subsidy with new fossil fuel” by the end of this decade. Imagine how must faster the gap could close if the competition wasn’t on government-prescribed steroids.

The oil industry counters by claiming that the elimination, or even reduction, of its federal largesse will cost both production and jobs. Hogwash. U.S. oil companies drill domestically for one reason: Their product can be found here. And that will continue as long as there is local supply and global demand. If U.S. crude oil production was tied directly to taxes, then it should have grown between 1999 and 2007, when federal subsidies doubled. Instead, it actually fell 14%.

What oil companies truly fear, I think, is unshackled innovation — and even a modest loss of market share. Rather than trying to outsmart the upstarts, the oil companies spend their time trying to scare us into codifying their supremacy. ConocoPhillips (COP) CEO James Mulva recently said that a Senate proposal to end $4 billion of oil subsidies was “un-American.” No, Mr. Mulva, it’s pro-capitalism.