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Argentina's Plan For Windfall Tax On Energy Is A Dangerous Move

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Last month, U.K. Finance Minister Rishi Sunak imposed a windfall tax on oil and gas majors as the government tries to alleviate the country's worsening cost-of-living crisis. Chancellor Sunak said that the levy would be taxed on energy companies that were making "extraordinary profits" due to the spike in commodity prices. This is hardly a stretch, considering that energy giant BP Plc. (NYSE:BP) reported soaring underlying profits of $6.2bn (£4.9bn) last term--more than doubling last year's $2.6bn. The British government has imposed what it calls a "temporary targeted energy profits levy" with a so-called "investment allowance" levied at 25% to incentivize oil and gas firms to reinvest their profits.

And now, the Argentine government plans to borrow a leaf from the British playbook.

Argentina's president Alberto Fernández has vowed to pursue a special tax on company profits boosted by the war in Ukraine. The bill aims to levy an additional 15% tax on companies with profits of over 1 billion pesos (about $8.3 million) in 2022 whose profit margin is either more than 10% in real terms or is 20% higher than in 2021.

The measure is seen as an attempt by Argentina's center-left government to reduce the fiscal deficit and contain runaway inflation, which is now approaching 60%.

"This is an immorality, an indecency, which as the State we cannot allow," Fernandez has said, repeating his plan for a once-off special tax in 2022 on companies that have seen their profits soar thanks to the Ukraine crisis.

Although the Argentine government has not divulged which industries or sectors will be targeted by the new tax, the country's mercurial oil and gas sector could be in the crosshairs considering that energy companies have been the biggest beneficiaries of the war due thanks to limited supplies and soaring oil and gas prices.

Related: U.S. Oil Rig Count Jumps As Crude Holds At $120

But that could be inimical to the country's energy sector that is on a rebound from a multi-year slump.

Energy Rebound

The COVID-19 pandemic and 2020's oil price collapse hit Argentina's hydrocarbon sector especially hard, leading to fears that it may never fully recover. However, the country's energy sector has lately managed to sputter back to life against all odds.

After five years of decline in oil production, Argentina has managed to reverse the trend, with oil production reaching a record 578,000 barrels per day in April, good for a 13% Y/Y increase, while natural gas production grew 12%Y/Y to 127 million cubic meters. The government is optimistic that oil production will increase by 70% and gas production by 30% over the next five years.

For nearly a decade, the national government in Buenos Aires has pinned its hopes on fueling an economic revival by exploiting the massive hydrocarbon wealth of the Vaca Muerta shale play. Located in the oil-rich Neuquén province, the massive shale play is estimated to hold recoverable hydrocarbon resources consisting of 16 billion barrels of oil and 308 trillion cubic feet of natural gas, making it the second-largest shale gas deposit in the world. That makes it comparable to the prolific U.S. Eagle Ford shale but with the added advantage that Vaca Muerta's dry gas window has proven to be commercially viable.

But a windfall tax could undo some of the progress by Argentina's energy sector, if we could draw some parallels to the UK situation.

Offshore Energies UK (OEUK), an organization that represents the offshore oil and gas industry, has warned that the country's one-off tax on the profits of energy companies could be harmful.

"This is an industry that thinks and plans long-term, so sudden new costs, like this proposed tax, will disrupt planning and investment and, above all, undermine investor confidence", Deirdre Michie, chief executive of the body, has said.

Ms Michie has pointed out that energy was already the country's most highly taxed industry, paying 40% on their offshore profits, and operators would send the Treasury £7.8 billion this financial year.

The energy industry needs a stable and predictable regime, and whereas a windfall tax may not affect projects already underway, it's likely to deter investments under consideration which could be critical for a fragile sector on the mend.

On the brighter side, the Argentine government has relaxed tough forex exchange rules to encourage the development of Vaca Muerta. Argentina will allow energy firms easier access to foreign currency, allowing them to bypass strict currency controls that are designed to protect Central Bank reserves but limit investment in the key sectors, including hydrocarbons. In the new plan, each firm that surpasses its 2021 production levels will be able to access foreign currency equivalent to 20% of its improved production, while natural gas firms will be able to access 30% of the value of any incremental injections into Argentina's pipeline network.

By Alex Kimani for Oilprice.com

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