November 29, 2005
Of Price and MenBy Selwyn Duke
It has long been said that money can come between friends. But as the recent hysteria over rising oil prices reminds me, it can also come between the human mind and sound economic principles.
There has been much talk about 'price gouging' by the oil companies, as we witnessed the average gasoline price rise to about $3.10 before falling to pre—Katrina levels most recently. But as I listened to well—paid pundits pillory the oil industry for being slick, I was left wondering: what is gouging?
Now, lest I be misunderstood, I hasten to point out that, no, I don't own stock in Exxon or Chevron (and I'm not Michael Moore — I really don't!) and, yes, I like filling up without taking out a second mortgage as much as anybody. Likewise, though, it would also please me to buy cheap—to—produce processed grains at reasonable prices. Yet, whenever I walk into a supermarket I find boxes of cereal routinely priced at around $4.00 each. Is that gouging? I mean, couldn't they turn a tidy profit at $2.00 per unit? Perhaps, but my solution is to wait for sales or buy the no—frills brands and, believe it or not, sometimes I refrain from buying the kind of cereal I'd prefer. And it occurs to me that if everyone else followed suit, prices would come down. But, hey, all of you out there across the fruited plain constitute the market, and if that's what the market dictates, so be it.
And speaking of slick, one could also wonder about how lawyers are compensated. Many attorneys earn hundreds of dollars an hour, sometimes using man's law to fleece mere mortals for acts of God. Lawyers also take a third of cash awards when working on contingency, generally speaking. And when they participated in the legalized theft of money from the tobacco companies, their haul in New York State alone amounted to 650 million dollars. What does that mean? Maybe that we'll have another John Edwards as a senator.
Back to the point, though, is this gouging? Wouldn't $75 an hour suffice? And over a half a billion dollars for avaricious middlemen in three—piece suits? No comment is necessary, except that, once again, such is what the market dictates.
Of course, cereal and surreal settlements are far from the only examples of exorbitant profits, for there are many. Among them, however, are not those reaped from gasoline by Big Oil, as they are relatively paltry. A study in the late 1990's demonstrated that the average profit made by oil companies off a gallon of gasoline was only 7.3 cents. But what about more recently, during the record—breaking hurricane season that big oil supposedly used as a pretext for raping America? Well, during the third quarter of 2005, ConocoPhillips reported that its robber—baron profit on a gallon of fuel was, get the Digitalis, nine cents.
Moreover, while we may long for bygone days when you could pay for your gallon of gas with a couple of coins, it is a better deal now than it was a half century ago. Gasoline cost about thirty cents a gallon in 1950; factoring in inflation that translates to about $2.32 today. With the average price per gallon at $2.201 as of November 21, this is yet another example of how free—market forces serve to better our lives.
Mind you, it's also significant that we are deriving these benefits despite a very bleak supply/demand picture. Demand is increasing markedly due to the motorization of leviathans India and China and the doubling of cars on American roads since 1970. Exacerbating this is the myriad of unrealistic environmental regulations, which have hampered domestic oil exploration and extraction and have prevented the building of new refineries. It's truly staggering: we haven't constructed a new refinery in thirty years.
But this piece isn't only about oil. You see, I've long been both fascinated and irked by my fellow man's reaction to the prices of things and, more specifically, to price increases. For instance, it occurs to me that even our highest gas prices would bring the widest of smiles to faces across the pond, since Europeans are accustomed to ponying up about $6 for a gallon of their petrol. Why would they react so differently? Obviously, the answer is expectation.
Governed by emotion as opposed to a sound grasp of economic principles, we become conditioned to expect certain goods and services to be delivered at certain prices. Gas should be this much, lawyers that much and cereal its sum. Now, if a price increases in the usual, incremental fashion — let's say, a rise in gas of a penny every few months — like the proverbial frog in a frying pan of water we sit contentedly in place. Let a rise be sudden, however, and ire follows suit.
As always, the problem with reacting emotionally is that it clouds people's judgment, blinding eyes to relevant facts. The laws of economics — which is synonymous with saying, 'the laws of human nature' — apply regardless of the product, service or situation. Let's examine the basics.
The principle of supply and demand influences prices, like it or not. When supply is reduced or demand increases, or both, prices rise. This has two effects: it causes people to reduce their consumption and increases profits, and both these things have positive secondary effects. Obviously, to reduce consumption is to have conservation, and greater profits provide an incentive to create more of the product that captures producers the windfall. Everybody wins.
Next, capping prices leads to shortages, like it or not. This is because it reduces profits and consumers' incentive to conserve. This is why we had gas lines under Jimmy Carter in the 1970's and Russians had bread lines in the Soviet Union. One reason why gas prices rose in the wake of Katrina was that the disaster shut down 25 percent of our domestic oil production capacity and 10 to 15 percent of our refining capacity, thereby reducing supply. The reason why we didn't have shortages was that, this time, the government was smart enough to not cap prices. But with the fuzzy economics and pie—in—the—sky thinking that prevail, next time our media—stoked fit of anti—corporate anger may just result in a cure that's worse than the disease.
Among the guilty is self—proclaimed man—of—the—people Bill O'Reilly, who has been pounding the anti—oil company drum for a couple of months now. He complained that gas was more expensive despite the fact that the oil companies were selling supplies that were purchased at pre—Katrina prices. What seems to elude him is that fact that — again, regardless of the product or service — current market value always factors into price adjustment. So, no, this doesn't make oil company executives villainous gougers — just normal people.
I'll illustrate this point with two examples, one fictional and one real—life. Let's say I have been buying widgets for a dollar a piece and selling them for two. Then, due to malevolent, pervasive, terrorist—created nanobots that target widgets, their wholesale price skyrockets to $100 a unit. Now, would O'Reilly insist that I continue to sell them for two dollars? The fact of the matter is that if I did so, it might make restocking my inventory impossible, since my base—price has increased one—hundredfold.
Since that may be a tad too fanciful and clich�d for some, let's consider something more down—to—earth: real estate. Properties have appreciated precipitously because of the housing boom of the past decade. In point of fact, there are people who purchased homes for $75,000 in 1995 and sold them this year for $300,000. Is that gouging? I mean, c'mon, couldn't they just take $110,000 and go quietly? Even adjusted for inflation they would turn a profit. It's like Gordon Gecko's creed, 'Greed is good.'
Or, maybe not. Obviously, if sellers don't capture market value, they won't be making what's necessary to purchase another property in today's world. Where would they live?
Wait, Duke, widgets and homes aren't oil, say you? That's funny, 'cause that's exactly what Bill O'Reilly said. His argument is that oil is different because it's vital to the economy, but that's the pie—in—the—sky thinking to which I was referring. I shall repeat: the laws of economics/human nature apply regardless of the product, service or situation, like it or not. Wishing it to be otherwise doesn't alter reality.
Bill O'Reilly wishes hard, though. He lamented the fact that the oil companies made twice as much last quarter as they did per quarter two years ago, a fact that O'Reilly views as proof positive that these behemoths are 'gouging.' However, the curmudgeonly commentator's emotionalism aside, there's a very simple reason why Big Oil has a glut of cash: they have already made much of the investment necessary to find the crude and build wells and pipelines, so now they can reap the rewards. Moreover, oil has leapt from $20 a barrel to $60 on the international market, something over which domestic oil companies have little control because they don't produce enough black gold to influence prices.
But the stake through the heart of O'Reilly's argument could be the fact that the industry reports lower retail profits than Wall Street expected, suggesting that they actually absorbed some of the cost on the marketing side.
Finally, many oil companies do boast huge raw—number profits, but this is deceptive because these companies are enormous. For instance, ExxonMobil reported a profit of 25.33 billion in 2004, besting every company on the Fortune 500 list. This isn't surprising, however, given the fact that it is set to overtake Wal—Mart as the nation's largest corporation. Nor is it damning, for in terms of gross profit margin the oil giant ranked only 127th on the list. Its margin currently stands at a modest 10.7 percent.
Of course, though, many may still side with O'Reilly, who is trying to shame the oil companies into reducing their profits for the good of the country. When addressing the doubling of profits, O'Reilly opined, 'They can maybe make them 2/5.'
Undeniably, they could voluntarily reduce what they charge for their crude, but this reminds me of a conversation I had about nine years ago with a starry—eyed, liberal neighbor who was supportive of the scheme to socialize medicine. Try as I might, I just couldn't disabuse her of her misguided notions, as she just kept on rehashing something to the effect of: 'This is so important, it shouldn't be about profit. They should be doing it for the right reasons.'
Yes, wouldn't that be grand. People shouldn't commit crimes either; New York City drivers shouldn't be rude, jihadists shouldn't blow up children, lawyers shouldn't accept obscene contingency fees, cereal should be $1.50 a box, and the lion will lie down with the lamb. I also would appreciate it if hard gym floors that provided resistance to heads that make unfortunate, high—velocity contact with them wouldn't cause contusions of the brain, being as I suffered same when I was thirteen. Because, you see, not getting brain damage is really, really, really important. But something being important doesn't grant it a special dispensation from the laws of physics . . . or the laws of economics.
It's not that I don't believe in charity, it's just that I actually know what it is and isn't. When a person voluntarily sacrifices some of his profit so he can help his fellow man, it's charity. When the government forces a person to sacrifice some of his profit to help his fellow man, it's called something else: bad economic policy. What's the difference from an economic standpoint? In the latter case incentive is removed while in the former it is not.
Incentive to earn is reduced when you prevent people from doing what they want with their earnings. Thus, whether or not people's incentive to earn will be reduced when their money goes to charity simply depends on whether or not that is something for which they want money. Forcing someone not inclined to give to charity to do so has the same effect as preventing the Sisters of Mercy in India from giving: it reduces the desire to acquire money.
Ah, but shouldn't everyone be motivated by the higher calling to help others? Sure, but a fact of human nature is that most people won't be and, one last time, the laws of economics/human nature apply in all situations . . . like it or not. You can't legislate away the frailty of man.
Incidentally, since I mentioned healthcare and my neighbor, I'll relate something germane. On Thanksgiving Day a doctor to whom I'm very close mentioned that many of the people presently entering the medical field are bottom of the barrel and that 'medicine is in more trouble than people think.' Part of the reason for this is that doctors are working longer hours with greater malpractice risk, and the profit motive has been reduced. Thus, the field attracts fewer of the best.
Ah, the fruits of government intervention, the nectar of which creates deadly problems, such as waiting lists for many procedures up in Canada. Do you perceive a pattern — gas lines, bread lines, healthcare lines? Well, don't despair. Just make sure you achieve party apparatchik status before the dark day comes, then you may still get decent healthcare.
The bottom line is that medical care may be expensive, but to use a variation on a Dr. Walter Williams line: would you rather have great healthcare available at $250 an hour or no great healthcare available at $50 an hour?
And now to the question oft—asked in this piece: what is gouging? The truth is that it's something for God to judge, not the government. The communists thought they knew what people 'should' be giving and making and they reaped the whirlwind. From each according to his means and to each according to his needs? If you enforce that principle through government, the result will be fewer people with means and more people with needs.
Lest I be misunderstood, I'm no apologist for big business. Since my brain damage was only temporary, I'm wise enough to be cynical about virtually all worldly institutions. What concerns me, though, is that these misunderstandings about economics make people easy prey for demagogues who demonize big business and use prejudice against it as a pretext for creating even bigger government, as they transmit their subliminal 'workers of the world unite' message and galvanize support for more control over the private sector.
Regardless of how you feel about oil, lawyers, widgets or cereal, there's no question that our economic prescriptions are more consistent with our visceral passions than with sound principles. We afford some the right to free commerce and divest others of it, and often the only rhyme or reason evident is that we somehow, some way have come to believe that we have a right to the fruits of some people's labors at prices that suit our fancy. It's that expectation and conditioning of which I spoke.
But I'll tell you what my conception of a true gouger is: big government.
I find it appalling. People come unglued over commercial price increases or the possible emergence of a quasi—monopoly. Yet, the very same folks utter nary a word about a government that forcibly extracts fifty—percent of our income every year with its monopoly over the life of every American.
For sure, periodically we witness brouhahas over two—dollar Automatic Teller Machine fees, as if these businesses strong—arm us into availing ourselves of their service at the point of a gun. But the beauty of the free—market is that we are provided with alternatives. If you don't like Coke, you can drink Pepsi or RC; if you don't like Ford, there's always Chevrolet, and if you don't like ATM's, just mosey on up to the teller's window. But what are our options if we object to a robber—baron federal government that has overstepped its bounds, overfilled its coffers and overspent its treasury? Moving to a different country is impractical and moving to another state is ineffectual. For, regardless, from sea to shining sea the same intrusive central authority holds sway. This is the monopoly I detest.
Then there's the salt in the wound. While Uncle Scam fleeces us to support his bloated budget replete with pork, his minions present themselves as economic saviors who have come to deliver us from the evil of those who are our economy's rising tide.
But even during the recent gas price—spike, the government was the biggest villain of all. While oil companies were making that nine cents per gallon, gasoline taxes amounted to about forty cents per gallon on average (sixty—three cents in New York). Yet, as the oil men were vilified by oily, posturing politicians who purported to be in the common man's corner, how often did we hear our compassionate leaders propose rescinding gas taxes? Truly shameful, indeed. It is not only the government's right but its duty to keep its claws out of the taxpayer's pockets as much as possible. However, it has no right to meddle in the private sector based merely on collective caprice.
But meddle it does. Not too long ago oil executives were asked to appear before two Senate committees to justify their profits. Good job, Barbara Boxer and company, you've even convinced a few hapless sheep that you really care. I'd like to see someone grill the politicians and force them to justify their confiscatory taxation.
After all, if taxation accorded with the intentions of the Founding Fathers, most of us would have thousands more to spend each year. Then we wouldn't have to worry about paying a few dollars extra for gasoline or a couple of bucks on ATM fees. We would have plenty more for our children's education, for healthcare, and many other things the nanny state says it's going to help us with after it both drives up their costs and steals the very money we would use for their acquisition.
So, Uncle Scam, save the sanctimony and the posturing, spare me the paternalistic offerings and patronization. You can steal what's mine, but don't spit down my back and tell me it's rainin'. It's an insult to my intelligence.
Selwyn Duke is a frequent contributor.