Companies are struggling to make returns in the current oil price environment. Both Shell and Total have announced declines of about 70% in their year-on-year profits in Q3 2015 and are exploring all avenues to reverse this slide. Investment budgets have been cut back and, to get the green light, new projects must demonstrate high rates of return under low oil prices. As a result, new projects in countries that impose a high fiscal burden appear significantly less competitive in the corporate portfolio.
All of which should result in governments offering lower taxes to encourage investment. But are they?
Some are. The UK reduced tax rates and increased investment allowances in its March 2015 budget. Argentina, China and Kazakhstan have also reduced the rates of certain levies. This leaves more cash in the producers' pockets and the government's hope is that they will choose to spend it on new projects in the country. Others, like Colombia, have introduced fiscal incentives that will reduce the tax payable on new developments, but keeps the tax rates high on existing production.
But several are not. Russia has increased the tax payable by existing producers, at least while oil prices are below US$70/bbl. A main reason for this is that the Russian government relies on oil and gas taxation for over 40% of its total government budget. When the oil price – and oil tax – falls, so does its ability to spend, so the country looks for ways to boost the budget. Oil and gas production is the most obvious target.
This trend can be seen in other jurisdictions that are dependent on oil and gas taxes. The state of Alaska relies on oil taxation for 90% of its income but in 2015, this is projected to be less than half of the 2012 amount. As a result, the state has been exploring ways to maximize oil tax revenues, including delaying payments of tax credits. In Iraq, despite crude exports rising by a quarter, government revenues from oil are down by a third and cost recovery payments to the oil companies have become problematic.
One tactic that governments are exploring is to trade lower tax rates in the future, should oil prices return to high levels, in exchange for a higher share of revenues now under the current low oil prices. North Dakota introduced such a change in its extraction tax rates in April 2015. Linking fiscal terms directly to the oil price level is a feature of several fiscal systems and reduces the need for government intervention as oil prices fluctuate.