out of every 100 new field wildcats drilled are likely to find a field large enough

to be profitable.

squeeze.

The industry has been caught in a closing vise known as the cost-price

Since the base period 1957-59, used by the Government in measuring price and cost trends, hourly wages in the industry have increased by more than 30 percent. The cost of oil field machinery has risen by over 15 percent. The average cost of drilling and equipping new wells (not shown on the chart) increased by almost 20 percent in the short period from 1964 to 1967. development of new reserves grows deeper, more difficult and more costly - despite technological advances that have moderated, but not offset these increased costs.

Inexorably the search for and

In contrast, the price of crude oil has remained below the 1957-59 level. The average price in 1968 was 2 percent less than the 1957-59 price, as compared with the above-mentioned increases in costs and an increase of 8.7 percent in the level of wholesale prices for all commodities.

The result of the cost-price squeeze and the inroads of inflation are demonstrated by the center section of the chart which shows the trend of crude oil prices in constant 1956 dollars. In terms of real purchasing power, the producer has lost 52 cents per barrel since 1956, or almost 20 cents out of every dollar. The relatively low prices for crude oil have a double-barrel effect. In addition to the cost-price squeeze, the decline in the real price for crude oil results in a lessening in the value and effectiveness of percentage depletion.

Maximum depletion at 27-1/2 percent has declined by 14.3 cents per barrel, or 19 percent, in constant dollars since 1956. Not only, therefore, has the price of crude oil become increasingly inadequate in relation to replacement costs, but also the depletion provision has become correspondingly less adequate as a measure of the capital value of the crude oil being depleted. A maximum percentage depletion rate

of 34 percent in 1968 would have been required to prevent the loss in the real value of maximum depletion since 1956. Today, many producers find it more advantageous to sell properties under the capital gains treatment, rather than to con.inue

to operate.

To sum up the situation as to incentives for petroleum exploration and development in the United States, there is an obvious need for more - not less economic stimuli. A comprehensive study by the National Petroleum Council (the official industry advisory group to the Government, appointed by the Secretary of the Interior) concluded that declining U. S. exploration and development could be attributed to "decreasing profit prospects for new investments."

Further declines in economic incentives and further decreases in prospective profitability for new investments would result from any adverse change in petroleum tax provisions. The adverse change that would have the greatest immediate and disruptive effect on drilling, particularly for independent producers, would be any lessening in the effectiveness of the present treatment of intangible drilling expenses.

DECLINING SECURITY IN U. S. OIL SUPPLIES

The foregoing discussion has dealt briefly with deteriorating conditions in the domestic petroleum producing industry. The resulting threat to national security is illustrated by the next and final chart.

Fourth Chart

Total additions to U. S. proved reserves of liquid hydrocarbons have been falling progressively behind our national requirem ats for petroleum products. In the four year period 1956-59, additions to reserves were larger than total U. S. consumption.

In the latest four year period, total consumption had out-run additions

to reserves by almost 2.5 billion barrels. As a result, the ratio of proved reserves to total consumption dropped steadily from 10.8 in 1956 to 8.7. Meanwhile, imports of foreign oil rose from 16 percent of 1956 domestic requirements to 22 percent in

1968.

A statement by the late President John F. Kennedy concluded that, "The depletion allowances which affect over 100 items should be considered primarily as a matter of resources policy and only secondarily as a tax issue." He went on to say that, "Its purpose and its value are first of all to provide a rate of exploration, development and production adequate to our national security and the requirements of our economy...The oil depletion allowance has served us well by this test."

More recently, a comprehensive study by the U. S. Department of the Interior entitled "United States Petroleum Through 1980", published in July 1968, concluded: "Both intangible expensing provisions and percentage depletion have been long standing and durable features of the tax treatment of the petroleum industry, despite repeated efforts to change, reduce or eliminate them. They are an integral part of the petroleum industry's structure of income and expense, and the available evidence suggests that any substantial change in them would have a direct and significant effect upon the future availability and cost of oil and natural gas."

Percentage depletion and related tax provisions have been ingrained for

many years in the economic and financial processes of the petroleum industry. Any adverse change in these provisions would have repercussions of vast proportion, including the following:

1. The flight of capital from the industry and disruption of
investments, with a chaotic adjustment in industry financial

processes.

2.

Sellouts and mergers among smaller industry units, already a
concern, would be greatly accelerated with a resulting increase

in corporate concentration in the production and control of

petroleum.

3.

4.

5.

6.

Contraction of the industry would result in a reduction in

the multiplicity of independent effort that has been so

important in the exploration for new reserves.

Severe impairment would occur in the economies of the thousands
of oil communities throughout 32 producing states.

Reduced petroleum activities would be followed by reduced markets
for steel, other basic materials, and hundreds of supplying and
servicing organizations sustained by petroleum production.

Unquestionably there would be less crude oil and gas found

and developed in the United States. The alternatives would

be either a more concentrated industry at greater cost and much
higher prices to consumers, or greater dependence on foreign oil.
Neither of these alternatives would be in the interests of the

consuming public or, most important, the security of this Nation
and the rest of the Free World.

CONCLUSION

Any change in percentage depletion, the treatment of intangible drilling expenses or related federal income tax provisions designed for the purpose of

increasing tax revenues from oil and gas production - would result in less oil and gas and/or higher prices. This fact has been recognized even by academic critics

of depletion who have acknowledged that the effect of these tax provisions is tu expand investment and output

thus bringing down mineral prices.

Because of the depressing and widespread repercussions of adverse changes

in petroleum tax provisions, it is unlikely that such changes would increase federal

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