Wednesday, September 29, 2010

Marcellus Shale Debate

Here are a couple links - here is another

The PA state house just passed a bill mandating a tax on drilling. There are some who think drilling for gas in Marcellus Shale indicates the end of the world as we know it. While others want this industry completely left alone.

This is an interesting issue from an economist's point of view. The issue with drilling in Marcellus Shale with gas have both the political left and the political right using economic logic to support their views. Sometimes - both groups use economic logic correctly, which is quite rare.

How the left might use economic logic to defend their point: "Drilling for gas in Marcellus shale potentially creates externalities. With unknown pollution effects, if something goes wrong everybody is going to have to pay (in terms of dirty water or other contamination) for the oil companies drilling. Therefore, this drilling should be taxed to correctly account for the externality."

This is a perfectly sound argument. Those (who are farther on the left) who call for a ban are not using sound economic logic unless they think the damages are so horrifically bad that there is no way a price could be put on them. This is unlikely.

How the right might use economic logic to defend their point: "Drilling for Marcellus Shale accomplishes two great things for our state and country simultaneous: it provides jobs and it reduces or dependence on foreign energy sources. We absolutely need this drilling now, during a recession, to provide jobs to our region."

Again, this is a perfectly sound argument. Those (who are farther on the right) who call for no taxes, however, don't have as strong of an economic argument. Some claim that it will kill the industry, but given other states impose taxes on gas extraction, this won't happen unless taxes are too large.

To call for no taxes means you should have one of two positions: The first would say there is no potential for a negative externality (side-effect). To argue for no taxes, you would have to be supremely confident that no spills would happen that would damage the environment (which would be pretty silly given recent history). The second potential argument for no taxes is thinking of it like an economic stimulus. Lower taxes during a recession can help spur growth -but since the state of PA must (by law) have a balanced budget - more taxes here means lower taxes elsewhere, so this type of tax decrease would have to be offset by a tax increase elsewhere. Hence, this second argument isn't sound.

Most economists would agree that there should be drilling with a tax in place. The amount of the tax is of tremendous importance - too much would essentially ban drilling, and too little wouldn't compensate for the negative externalities.

The state senate now takes up the matter - where the size of the tax will be a crucial issue.


  1. Dr. Rousu, I've been reading your blog and enjoy most of what I see. However, on this Marcellus Shale tax question, I think you've left out an important objection to the "no tax" crowd--and it may just be a matter of you putting out the economic theory vs. the specifics of the current proposals.

    That is, that drillers already pay for "externalities" in ways that are more efficient than a tax--that is, permit fees they pay to the state to begin drilling, fines for any environmental damage (indeed the fines for previous spills have exceeded the cost of cleanup), and bonding & road maintenance agreement to fix road damage and even improve roads. Of course, gas drillers also pay taxes common to every business--and these taxes are deemed enough to cover the externalities of other industries.

    Additionally, the push for the tax, and use of the revenue, was not at all linked to the externalities of drilling, making this tax more punitive than Pigouvian. The major proposals were to use to fund General Fund state spending, as well as the "Environmental Stewardship Fund" or "Growing Greener"--which largely subsidies alternative energy companies.

    Also the statement "more taxes here means lower taxes elsewhere, so this type of tax decrease would have to be offset by a tax increase elsewhere" is a bit utopian--more likely, more taxes here mean higher spending elsewhere, rather than cutting state spending. Were there a proposal to use a natural gas tax to reduce the state Corporate Income Tax or state income tax, that would be a much more worthy proposition.

  2. You wrote: "putting out the economic theory vs. the specifics of the current proposals."

    I usually don't pay too close of attention to specific policy proposals (too much headache), so you are correct. We agree that the optimal tax, if enacted, would involve reducing taxes elsewhere or at a minimum preventing tax increases if there is a budget shortfall. I don't see a need for increased state spending.

    I still think there is a modest negative externality. If a small firm caused a big enough spill, however, it is likely they would choose to go out of business instead of pay large clean up costs, one reason one could argue for a tax. Also, a resource is being extracted and used now instead of having the potential to use it later - which also could warrant a modest tax. My ideal tax rate would be smaller than the current proposals, however.

    Thanks for reading (and commenting).