Our satellite TV service includes a bunch of educational channels, including one from the University of California at Berkeley. A faculty member there named Harry Kreisler hosts an interview program called "Conversations with History" which I record, and often watch. I very much enjoyed one a few weeks back with Cosmologist James Peebles from Princeton. Another good one was with philosopher Hubert Dreyfus. A complete list of Kreisler's interviews are available via the link above.
The interview this week was with Elizabeth Warren, a professor of Law at Harvard. She has done extensive research and writing on the topic of personal bankruptcy in the US, and has been an advisor to some public officials on this topic.
Professor Warren said she went into this area of research with the assumption that most people who declared bankruptcy were undisciplined consumers who spent well beyond their means and used bankruptcy as an easy way to dump their debts. What she found was that the skyrocketing backruptcy rates were being driven by two elements: a) the dependence of families on two incomes because of the rising costs of goods, especially housing and education; and, b) the relaxation of consumer protection laws relative to credit which have been enacted as a result of extensive lobbying by the financial services industry. The consequence is that families are using more and more credit to fund middle class lifestyles, and when any burp in income happens (layoff, sickness, etc), the credit terms are so oppressive so as to drive people quickly to bankruptcy.
By the way, she tells an interesting story of an encounter with Hillary Clinton. When she was the First Lady, Mrs. Clinton invited Professor Warren for a brief chat about some of her research. The professor quickly made her point about the potential damaging impact of the new consumer financing bill working its way through Congress. Mrs. Clinton understood, and presumably expressed that concern to the President. When the bill made it's way to President Clinton's desk, it was vetoed. However, later as Senator Clinton, she voted for the same bill. As the professor said, it was dispairing to see that the power of lobbyists and the campaign contributions they direct, could cause this kind of behavior in a US Senator (trust me, this isn't a Hillary bashing -- this happens in politics all over our country).
She made a connection I hadn't thought of: people are spending a lot of money on housing because the price of the home you buy often reflects the quality of the school system. In other words, if you want your kids to go to a good school, the price of admission is an expensive home. This dynamic is widening the gulf between the haves and the have-nots in the society. While there is a growing number of families who can afford upscale housing in nice school systems, and still be able to build wealth and send their kids to college, an exploding number of families are barely able to afford their suburban homes, are building little wealth, and must send their kids off to college with student loans. Many of today's children will start their adult life already tens of thousands of dollars in debt, and their parents will be of little help because they are also strapped.
Professor Warren makes the case that the future of America depends on having a well-educated workforce, meaning through college, and that these dynamics are threatening that. I'm not so sure this is exactly true, although I believe we must have a competitive workforce in terms of skills and labor rates.
But I completely agree with her on one thing -- the middle class of our country is in danger of disappearing, and it is the middle class which currently funds just about everything in our society. As the economies of the world begin to normalize, the equalibrium point is only a little higher for most countries, but way below the standards Americans have enjoyed for the past 50 years.
Showing posts with label Economics. Show all posts
Showing posts with label Economics. Show all posts
Thursday, May 24, 2007
Wednesday, May 2, 2007
Sharing America, Saving America
An old friend sent me a link to a presentation about population growth and immigration. This point of this presentation is simple: American cannot allow immigration to continue at current levels and maintain our way of life.
Some would say this is an outrageously selfish viewpoint. America is a land of plenty, these people would say, and we have a moral responsibility to share the bounty with the rest of the world. While I understand that perspective, I doubt that there are many people who really want to practice it. I expect that the Great Depression would seem like a time of plenty compared an America after a sudden massive influx of immigrants.
The current population of the More Developed Countries (MDCs) is 1.2 billion, of which 300 million, or 25% live in the United States. The natural population growth rate of the MDCs is 775,000/yr (0.6%), but net immigration is nearly 2 million, half of which is coming into the United States.
The population of the rest of the world, the Less Developed Countries (LDCs), is 5.4 billion, with a natural growth rate of 77 mllion/yr. This is 1.4% annual growth, or 22 times the rate of the more developed nations. Net immigration in the LDCs is negative 2 million, as one would expect.
How many of those 77 million new people each year should be allowed to come to the United States? If we're taking half of all immigrants now, should we be taking 38 million or so new folks each year? This would increase our annual growth rate to 3.21%/yr, or 50-fold. Meanwhile, the growth rate for the rest of the world would be lowered only 50%.
Let's put that in perspective. This 38 million is about the same as the population of the entire state of California. Or New York and Pennsylvania put together. It is more than three times the population of Ohio. Per Year.
Can you imagine what America would be like if an influx of this magnitude were allowed?
One of the characteristics of MDCs is a stable population. For many reasons, family sizes are smaller in MDCs, to the point that some countries are projected to have negative growth. For example, Sweden's natural growth rate is projected to be -0.1% by 2025. Even China, after a few decades of purposeful population control, is projected to achieve a natural growth rate of 0.2% by 2025.
Meanwhile, the people of the LDCs continue to pump out kids. While women in the US bear on average 2.1 children and in China 1.7; in Somalia the average is 6.8 and the natural population growth rate is 2.9% per year.
The mission of America is to not let the rest of the world pull us down unto poverty. Rather, I believe it is our mission to practice some tough love. For a country to get our assistance, I believe it must show that it has taken the appropriate steps to bring its population under control. China figured out how to do it -- it just takes the willpower.
All population data is from the US Census Bureau International Database.
Some would say this is an outrageously selfish viewpoint. America is a land of plenty, these people would say, and we have a moral responsibility to share the bounty with the rest of the world. While I understand that perspective, I doubt that there are many people who really want to practice it. I expect that the Great Depression would seem like a time of plenty compared an America after a sudden massive influx of immigrants.
The current population of the More Developed Countries (MDCs) is 1.2 billion, of which 300 million, or 25% live in the United States. The natural population growth rate of the MDCs is 775,000/yr (0.6%), but net immigration is nearly 2 million, half of which is coming into the United States.
The population of the rest of the world, the Less Developed Countries (LDCs), is 5.4 billion, with a natural growth rate of 77 mllion/yr. This is 1.4% annual growth, or 22 times the rate of the more developed nations. Net immigration in the LDCs is negative 2 million, as one would expect.
How many of those 77 million new people each year should be allowed to come to the United States? If we're taking half of all immigrants now, should we be taking 38 million or so new folks each year? This would increase our annual growth rate to 3.21%/yr, or 50-fold. Meanwhile, the growth rate for the rest of the world would be lowered only 50%.
Let's put that in perspective. This 38 million is about the same as the population of the entire state of California. Or New York and Pennsylvania put together. It is more than three times the population of Ohio. Per Year.
Can you imagine what America would be like if an influx of this magnitude were allowed?
One of the characteristics of MDCs is a stable population. For many reasons, family sizes are smaller in MDCs, to the point that some countries are projected to have negative growth. For example, Sweden's natural growth rate is projected to be -0.1% by 2025. Even China, after a few decades of purposeful population control, is projected to achieve a natural growth rate of 0.2% by 2025.
Meanwhile, the people of the LDCs continue to pump out kids. While women in the US bear on average 2.1 children and in China 1.7; in Somalia the average is 6.8 and the natural population growth rate is 2.9% per year.
The mission of America is to not let the rest of the world pull us down unto poverty. Rather, I believe it is our mission to practice some tough love. For a country to get our assistance, I believe it must show that it has taken the appropriate steps to bring its population under control. China figured out how to do it -- it just takes the willpower.
All population data is from the US Census Bureau International Database.
Saturday, April 21, 2007
Labor Unions: Solution or Problem?
I ran across this posting on the blogsite of the Ohio Civil Service Employees Association, the union representing folks who work for various Ohio state agencies. The thrust of their post was a conclusion that Bob Bernanke, the Chairman of the Federal Reserve had suggested that the American economy is suffering because we don't have enough unionized workers filling the middle class -- as though increased unionization of workers would solve the problems of our economy.
America seems to have become a nation of special interests. We don't know how to work for the common good anymore. There is an association for every big and little group, and they spend all their time carving out narrow positions that benefit their members, regardless of the impact on the whole. This writer for the public workers' union has become so polarized with his union rhetoric that he could grab these few observations from Bernanke and turn it into a call to embrace unions as the solution to our problem. Here is my response:
I believe you may be putting words in Dr. Bernanke’s mouth.
Another way to look at his statements is as an indictment of the unions. The failure of the unions to do their part to keep the American manufacturing workforce employed has resulted in the shrinking of the working class to the point that it is comprised mostly of public employees who now enjoy some of the best wages and benefits in our economy.
I grew up in a manufacturing town where many workers were members of the Oil, Chemical and Atomic Workers Union. My father-in-law was employed by the largest company in the area, and he was a member of OCAW. Repeatedly through our life, the union went on strike for better wages and better benefits. Sometimes the strikes lasted many months. During one particularly long strike, the company simply moved a significant portion of its manufacturing operations to a non-union facility in Texas, never to return. Eventually the issues were resolved, and my father-in-law went back to work because he had enough seniority. But the jobs that had been relocated to Texas never returned, and the younger workers lost some of the best jobs they could ever have.
Unions have a role; I'm not anti-union. There is little question that had the unions not fought for worker safety and decent pay and benefits, our country would be worse off. Nor do I deny that I individually benefitted from growing up in a union town, where my Dad could make a comfortable wage and have excellent benefits.
There aren’t many middle-class manufacturing jobs left in my hometown. My father and my grandfather both had 40 year careers with the same employer, but nearly all the kids of my generation had to leave to find work. So now instead of a viable manufacturing economy, my hometown has rich folks (mostly bankers, lawyers and doctors), poor folks (both the African-Americans of the inner city and those living in rural poverty), and lots of unionized public employees and health workers in the middle class.
The key to prosperity in any economy is the ability to bring in money from outside the economic zone. A city prospers when its commercial entities can sell a product outside the city. Not only are people put to work, but the public facilities and public services can be funded by reasonably taxing revenues on the sales of good shipped outside the region. That revenue is money from outside the economic zone – Other People’s Money.
To sell products outside the economic zone, the prices have to be competitive. During the first thirty years following WWII, the US had a virtual monopoly on the combination of manufacturing capabilities, a skilled work force, and the capital needed to be a global supplier of manufactured goods. We could charge premium prices for our exported products and in turn pay premium wages to our workers.
But in the last twenty years, other countries have developed all these things as well, and their labor force is willing to work for a lot less than the prevailing wage here. We also got sloppy and let other countries take our product quality edge away as well. Consequently, most manufactured goods can be made overseas with both higher quality and lower cost.
So we have a choice to make: regain our competitiveness in terms of quality and cost, or continue to shrivel into a welfare state where the only people working are those employed by the government.
Welcome to the Soviet Union. That worked out well. One would argue that the most successful communist country ever, the People’s Republic of China, understands that full employment for its workers still means being competitive on the world market. The middle class in China and India may never have the material wealth of the Americans of today. But they are coming from such poverty that even a low-paying job creates a huge lift in economic status.
The Golden Age for the US is over unless we step up to the challenge of competing with the Chinese and the Indians. American labor unions can either help lead our country back to manufacturing competitiveness, or drag us to third world status. It’s either take the pain now, or leave the mess for our children.
America seems to have become a nation of special interests. We don't know how to work for the common good anymore. There is an association for every big and little group, and they spend all their time carving out narrow positions that benefit their members, regardless of the impact on the whole. This writer for the public workers' union has become so polarized with his union rhetoric that he could grab these few observations from Bernanke and turn it into a call to embrace unions as the solution to our problem. Here is my response:
I believe you may be putting words in Dr. Bernanke’s mouth.
Another way to look at his statements is as an indictment of the unions. The failure of the unions to do their part to keep the American manufacturing workforce employed has resulted in the shrinking of the working class to the point that it is comprised mostly of public employees who now enjoy some of the best wages and benefits in our economy.
I grew up in a manufacturing town where many workers were members of the Oil, Chemical and Atomic Workers Union. My father-in-law was employed by the largest company in the area, and he was a member of OCAW. Repeatedly through our life, the union went on strike for better wages and better benefits. Sometimes the strikes lasted many months. During one particularly long strike, the company simply moved a significant portion of its manufacturing operations to a non-union facility in Texas, never to return. Eventually the issues were resolved, and my father-in-law went back to work because he had enough seniority. But the jobs that had been relocated to Texas never returned, and the younger workers lost some of the best jobs they could ever have.
Unions have a role; I'm not anti-union. There is little question that had the unions not fought for worker safety and decent pay and benefits, our country would be worse off. Nor do I deny that I individually benefitted from growing up in a union town, where my Dad could make a comfortable wage and have excellent benefits.
There aren’t many middle-class manufacturing jobs left in my hometown. My father and my grandfather both had 40 year careers with the same employer, but nearly all the kids of my generation had to leave to find work. So now instead of a viable manufacturing economy, my hometown has rich folks (mostly bankers, lawyers and doctors), poor folks (both the African-Americans of the inner city and those living in rural poverty), and lots of unionized public employees and health workers in the middle class.
The key to prosperity in any economy is the ability to bring in money from outside the economic zone. A city prospers when its commercial entities can sell a product outside the city. Not only are people put to work, but the public facilities and public services can be funded by reasonably taxing revenues on the sales of good shipped outside the region. That revenue is money from outside the economic zone – Other People’s Money.
To sell products outside the economic zone, the prices have to be competitive. During the first thirty years following WWII, the US had a virtual monopoly on the combination of manufacturing capabilities, a skilled work force, and the capital needed to be a global supplier of manufactured goods. We could charge premium prices for our exported products and in turn pay premium wages to our workers.
But in the last twenty years, other countries have developed all these things as well, and their labor force is willing to work for a lot less than the prevailing wage here. We also got sloppy and let other countries take our product quality edge away as well. Consequently, most manufactured goods can be made overseas with both higher quality and lower cost.
So we have a choice to make: regain our competitiveness in terms of quality and cost, or continue to shrivel into a welfare state where the only people working are those employed by the government.
Welcome to the Soviet Union. That worked out well. One would argue that the most successful communist country ever, the People’s Republic of China, understands that full employment for its workers still means being competitive on the world market. The middle class in China and India may never have the material wealth of the Americans of today. But they are coming from such poverty that even a low-paying job creates a huge lift in economic status.
The Golden Age for the US is over unless we step up to the challenge of competing with the Chinese and the Indians. American labor unions can either help lead our country back to manufacturing competitiveness, or drag us to third world status. It’s either take the pain now, or leave the mess for our children.
Friday, August 4, 2006
The Price of Gas, Part II -- Gouging & Inflation
Gouging – most people don’t understand what this term means, or at least when it is a bad thing. Folks see Exxon/Mobil posting $10B earnings in a quarter and say we’re being gouged at the pump for gas. Meanwhile they pay a higher price/gal for bottled water without blinking an eye. If the oil companies are operating substantially without government subsidy, then I think they should be able to keep raising the price until they feel they’ve maximized profits. Of course, they do get government subsidy in the form of tax incentives, so that makes things a little messier. But we won’t wean ourselves off petroleum until we are individually driven to change our behavior and seek alternatives. Classic economic theory would argue that the best thing for our country would be for the oil companies to raise the price, generate huge profits, and pay out a substantial fraction of those profits as dividends. That releases capital to be invested into other enterprises, some of which are likely to seek what comes after oil (which might not be limited to energy – it might be about further upgrades to the telecom system so that telecommuting is even more practical).
To me, gouging happens only in the face of a disaster, when an absolutely essential commodity is in the hands of a few, and those few raise the price to exorbitant levels, taking advantage of the situation. This happens rarely, and almost never in this country. What would you say if a cabbie in Manhattan on 9/11 said he would give you a ride, but for 10x the meter? If you a pregnant woman who needed to get to a hospital, I’d call that gouging. If you were a snotty upper East sider, I might say it’s just capitalism.
Inflation is another concept most people don’t understand. Properly defined, inflation occurs when the government adds currency to the economy faster than the growth in GNP. Having gas prices go up is not inflation. A key component of capitalism is the process where a producer raises prices to the point that consumers seek alternative answers to their needs and desires. If increasing gas prices causes me to lack the disposable income to buy other stuff I would like to have, then I am motivated to solve the problem of higher gas prices. I might buy more efficient car, or use more mass transit, or move close enough to my job and food source that I don’t need a car anymore (which is why poor people across the globe flock to cities).
Things are somewhat neutralized if my employer feels some obligation to raise my pay enough to offset the increase in gas price. But this still isn’t inflation. Presumably the employer must divert some resources away from other things to raise my pay. The employer might try to raise the price of their product to pass the cost on down the food chain. That still isn’t inflation, because the buyers of those products have the opportunity to pay the higher price or find another supplier. The rise in oil prices definitely has a ripple effect through the economy, but it’s exactly what needs to happen. Everyone feels a little piece of motivation to solve the macro problem.
Inflation happens when the government comes to the conclusion that the economy is slowing down, and that a way to stimulate it is to make money cheaper. They do this by massively increasing the amount of debt instruments they offer at the primary auction, in which the primary bond traders bid on the instruments by offering how much interest they are willing to pay. When government bonds are plentiful, they bid lower rates, which causes that influx of money to get passed on to the economy at a lower rate. When debt is cheaper for employers, they might be able to restructure their debt at a lower rate and free up some cash flow to pay higher salaries and higher prices for their other purchases. At the end of the day, nothing has changed as far as relative price (e.g. everything except money costs 1% more), and there is no motivation to change behavior.
But these money supply infusions are an addictive drug. The underlying dynamics aren’t changed, and the free market forces which would flow from the behavior changes driven by individual purchasing choices get squelched and perverted. As the new money is absorbed into the economy, it can seem like things are okay, but they're really not. Lenders begin to take note that long term debt is getting risky because the buying power of a dollar is being diluted, and so they increase lending rates. That wave works its way through the economy as higher borrowing costs for everything from houses to credit card debt to school loans.
The Fed is doing exactly the right thing by keeping the money supply under control (they don't control interest rates, they control the money supply -- notice that they talk about interest rate 'targets' they hope to achieve by controlling the amount of Treasury debt that place on the market -- see above). The last thing in the world we want is for them to dump a bunch of money into the economy to lower interest rates in the short term, because it starts a dangerous cycle and ultimately causes interest rates to go up.
So the let the gas companies charge all they can get away with. It's good for all of us.
To me, gouging happens only in the face of a disaster, when an absolutely essential commodity is in the hands of a few, and those few raise the price to exorbitant levels, taking advantage of the situation. This happens rarely, and almost never in this country. What would you say if a cabbie in Manhattan on 9/11 said he would give you a ride, but for 10x the meter? If you a pregnant woman who needed to get to a hospital, I’d call that gouging. If you were a snotty upper East sider, I might say it’s just capitalism.
Inflation is another concept most people don’t understand. Properly defined, inflation occurs when the government adds currency to the economy faster than the growth in GNP. Having gas prices go up is not inflation. A key component of capitalism is the process where a producer raises prices to the point that consumers seek alternative answers to their needs and desires. If increasing gas prices causes me to lack the disposable income to buy other stuff I would like to have, then I am motivated to solve the problem of higher gas prices. I might buy more efficient car, or use more mass transit, or move close enough to my job and food source that I don’t need a car anymore (which is why poor people across the globe flock to cities).
Things are somewhat neutralized if my employer feels some obligation to raise my pay enough to offset the increase in gas price. But this still isn’t inflation. Presumably the employer must divert some resources away from other things to raise my pay. The employer might try to raise the price of their product to pass the cost on down the food chain. That still isn’t inflation, because the buyers of those products have the opportunity to pay the higher price or find another supplier. The rise in oil prices definitely has a ripple effect through the economy, but it’s exactly what needs to happen. Everyone feels a little piece of motivation to solve the macro problem.
Inflation happens when the government comes to the conclusion that the economy is slowing down, and that a way to stimulate it is to make money cheaper. They do this by massively increasing the amount of debt instruments they offer at the primary auction, in which the primary bond traders bid on the instruments by offering how much interest they are willing to pay. When government bonds are plentiful, they bid lower rates, which causes that influx of money to get passed on to the economy at a lower rate. When debt is cheaper for employers, they might be able to restructure their debt at a lower rate and free up some cash flow to pay higher salaries and higher prices for their other purchases. At the end of the day, nothing has changed as far as relative price (e.g. everything except money costs 1% more), and there is no motivation to change behavior.
But these money supply infusions are an addictive drug. The underlying dynamics aren’t changed, and the free market forces which would flow from the behavior changes driven by individual purchasing choices get squelched and perverted. As the new money is absorbed into the economy, it can seem like things are okay, but they're really not. Lenders begin to take note that long term debt is getting risky because the buying power of a dollar is being diluted, and so they increase lending rates. That wave works its way through the economy as higher borrowing costs for everything from houses to credit card debt to school loans.
The Fed is doing exactly the right thing by keeping the money supply under control (they don't control interest rates, they control the money supply -- notice that they talk about interest rate 'targets' they hope to achieve by controlling the amount of Treasury debt that place on the market -- see above). The last thing in the world we want is for them to dump a bunch of money into the economy to lower interest rates in the short term, because it starts a dangerous cycle and ultimately causes interest rates to go up.
So the let the gas companies charge all they can get away with. It's good for all of us.
Thursday, May 11, 2006
The Price of Gas
The price of gas has gone up 100% in the last year. Whose fault is it?
You know, it's the question which is the problem, and the symptom of the state of affairs in the United States today. Our country has become so huge and so complex that it is all but impossible to manage. Even at the township level, where I am most directly involved, the rhetoric is not about what is good for our community, but rather what is good for particular individuals.
Maybe things have always been this way in politics, and I'm just finally getting old enough to recognize the reality. That reality is that we have a shadow government which is "owned" by a small set of greedy and ambitious individuals, and the elected officials are pretty much their hand-picked pawns. As I commented in another blog entry, the difference between Democrats and Repblicans is negligible, and the struggle over who is in control of the White House and Congress isn't about ideology, but rather which set of puppetmasters get the keys to the kingdom for the next term. Of course, many of the puppetmasters play both sides.
So gas prices might be where they are because the puppetmasters have decided that this is the price the economy can withstand, in the same way drug pushers have to figure out how much their addict-customers can afford to pay. The pushers don't care whether the addicts thrive, only that they survive to buy drugs another day. Maybe that's exactly what the puppetmasters are thinking, and they'll keep pushing up the gas prices a little at a time, forever.
But it could be that gas prices are what they because of purely market-driven supply-and-demand microeconomic forces. Why is it not okay for the oil companies to push up gas prices until they see demand soften?
We have to be assured that the oil companies aren't engaging in price fixing -- where they get together and conspire to raise prices. But let's for a moment believe that they aren't. Why isn't it okay for them to keep raising prices until they see a decrease in demand? It's not like there is some law that says gas has to be cheap. Gasoline is not the easiest stuff in the world to make and distribute after all. First you have to find the crude oil (expensive), then you have to get it out of the ground (expensive), then you have to transport it (expensive), then you need to refine it into gasoline (expensive), then you have to transport it to market (expensive), and then you have to sell it at carefully engineered and operated gas stations (expensive). And we get to buy it for less than $3.00 gallon.
Compare that to the cost of soft drinks. Those are made from water (available pretty much everywhere), corn syrup (the grain elevators are stuffed and there's another crop on the way), and a few chemicals for color and taste. The manufacturing step is pretty straightforward compared to gasoline, and the logistics chain is much simpler. Nonetheless, we consider $4.50 for eight 20oz bottles of Gatorade to be a good price (per the current Kroger ad). That works out to $3.60 per gallon by the way.
Many folks note that the oil companies are making record profits with the gas prices so high, and think it is immoral. But don't we, the buyers, make the choice whether or not to pay that price? Our memories are so short. Back in the 1970s, we were all driving those big gas-guzzling Detroit battleships when gas was 50cents/gallon. Then the oil crisis hit, and Americans flocked to little American cars like the Ford Pinto and the Chevy Vega -- and to Hondas, Datsuns and Toyotas.
But then the oil prices stuck around $1 per gallon for the 90s, and we bought SUVs by the millions and continued moving further and further into the suburbs. It only took us a decade to forget the pain of high gas prices and go right back to gas gluttony. So now we start another changeover, with the early adopters buying up all the hybrid vehicles while SUVs are sitting unsold at the dealerships.
From a pure economic standpoint, it's entirely understandable that the oil companies should test the price elasticity of their product. Elasticity is the relationship between changes in price and changes in demand. The price/demand relationship is said to be elastic if raising prices lowers demand (and lowering prices increases demand), and inelastic if changes in the price don't have much effect on demand. The price/demand relationship for gasoline seems to be completely inelastic right now: regardless of the change in price, our demand stays the same. If I were the oil companies, I would keep pushing up the price until some weakness in demand is created, and then would try to figure out which combination of price and demand yield the maximum profit. That's what every other enterprise tries to do -- why is it inappropriate for the oil companies to do the same?
But you really have to be sure the oil companies are actually competing with each other. Many industries will have a 'price leader' who is big enough to set a price point for their product. Everyone else can be expected to cluster around whatever price that leader set. But some will sell for less and try to snag a little bit of the market on price alone. Others might try to charge more than the price leader by adding features or services to the product. Sometimes the little corner vendor grows up to be Wal-Mart, taking the market away from the leaders (when is the last time you shopped at Montgomery Ward?).
I guess I believe the big oil companies are still competing with each other, in the same way Coca-Cola competes with Pepsi. Coke and Pepsi spend millions on advertising to convince us that there is a really difference in between two products which are about 99% the same (water, sugar, food coloring), and they do so because taking away one point of market share from the other is worth a great deal of money. The gas companies also spend a vast amount of money on advertising? If they aren't competing with each other, why advertise at all?
I also think it's appropriate for the oil companies to make decent profits because it will give them capital to find more oil, and maybe even develop new energy sources. I heard it once said that if the railroads understood themselves to be in the transportation business, we would now be flying New York Central Airlines. But they viewed the airplane as a fad and not the future of transportation (Western Union made the same mistake with the telephone). I hope the railroads are figuring out that passenger rail travel may come back in vogue, and are investing in appropriate equipment, personnel and facilities to catch an increase in demand.
In the same way, I hope the oil companies are viewing themselves as energy companies, and are using a lot of that profit to develop better ways of making and distributing ethanol and hydrogen. They should also be the largest researchers in areas such as batteries and fuel cells. Otherwise, they should pay out some huge dividends to release capital to investors who can put it back into companies who are investing for the future. Either way, they should not be ashamed about making a profit. It's those profits which fund growth and innovation. Even if you tend to left-wing politics, you need profitable businesses to pay corporate taxes to fund your programs. Robin Hood is unemployed if there aren't any rich folks...
Bottom line, if you don't like the gas prices, get a cheaper car, use public transportation, ride your bike to work, or find some other solution. The oil companies don't owe you a cheaper price. Isn't our economy healthier in the long run if we let these high prices be the impetus to lessen our addiction to oil?
You know, it's the question which is the problem, and the symptom of the state of affairs in the United States today. Our country has become so huge and so complex that it is all but impossible to manage. Even at the township level, where I am most directly involved, the rhetoric is not about what is good for our community, but rather what is good for particular individuals.
Maybe things have always been this way in politics, and I'm just finally getting old enough to recognize the reality. That reality is that we have a shadow government which is "owned" by a small set of greedy and ambitious individuals, and the elected officials are pretty much their hand-picked pawns. As I commented in another blog entry, the difference between Democrats and Repblicans is negligible, and the struggle over who is in control of the White House and Congress isn't about ideology, but rather which set of puppetmasters get the keys to the kingdom for the next term. Of course, many of the puppetmasters play both sides.
So gas prices might be where they are because the puppetmasters have decided that this is the price the economy can withstand, in the same way drug pushers have to figure out how much their addict-customers can afford to pay. The pushers don't care whether the addicts thrive, only that they survive to buy drugs another day. Maybe that's exactly what the puppetmasters are thinking, and they'll keep pushing up the gas prices a little at a time, forever.
But it could be that gas prices are what they because of purely market-driven supply-and-demand microeconomic forces. Why is it not okay for the oil companies to push up gas prices until they see demand soften?
We have to be assured that the oil companies aren't engaging in price fixing -- where they get together and conspire to raise prices. But let's for a moment believe that they aren't. Why isn't it okay for them to keep raising prices until they see a decrease in demand? It's not like there is some law that says gas has to be cheap. Gasoline is not the easiest stuff in the world to make and distribute after all. First you have to find the crude oil (expensive), then you have to get it out of the ground (expensive), then you have to transport it (expensive), then you need to refine it into gasoline (expensive), then you have to transport it to market (expensive), and then you have to sell it at carefully engineered and operated gas stations (expensive). And we get to buy it for less than $3.00 gallon.
Compare that to the cost of soft drinks. Those are made from water (available pretty much everywhere), corn syrup (the grain elevators are stuffed and there's another crop on the way), and a few chemicals for color and taste. The manufacturing step is pretty straightforward compared to gasoline, and the logistics chain is much simpler. Nonetheless, we consider $4.50 for eight 20oz bottles of Gatorade to be a good price (per the current Kroger ad). That works out to $3.60 per gallon by the way.
Many folks note that the oil companies are making record profits with the gas prices so high, and think it is immoral. But don't we, the buyers, make the choice whether or not to pay that price? Our memories are so short. Back in the 1970s, we were all driving those big gas-guzzling Detroit battleships when gas was 50cents/gallon. Then the oil crisis hit, and Americans flocked to little American cars like the Ford Pinto and the Chevy Vega -- and to Hondas, Datsuns and Toyotas.
But then the oil prices stuck around $1 per gallon for the 90s, and we bought SUVs by the millions and continued moving further and further into the suburbs. It only took us a decade to forget the pain of high gas prices and go right back to gas gluttony. So now we start another changeover, with the early adopters buying up all the hybrid vehicles while SUVs are sitting unsold at the dealerships.
From a pure economic standpoint, it's entirely understandable that the oil companies should test the price elasticity of their product. Elasticity is the relationship between changes in price and changes in demand. The price/demand relationship is said to be elastic if raising prices lowers demand (and lowering prices increases demand), and inelastic if changes in the price don't have much effect on demand. The price/demand relationship for gasoline seems to be completely inelastic right now: regardless of the change in price, our demand stays the same. If I were the oil companies, I would keep pushing up the price until some weakness in demand is created, and then would try to figure out which combination of price and demand yield the maximum profit. That's what every other enterprise tries to do -- why is it inappropriate for the oil companies to do the same?
But you really have to be sure the oil companies are actually competing with each other. Many industries will have a 'price leader' who is big enough to set a price point for their product. Everyone else can be expected to cluster around whatever price that leader set. But some will sell for less and try to snag a little bit of the market on price alone. Others might try to charge more than the price leader by adding features or services to the product. Sometimes the little corner vendor grows up to be Wal-Mart, taking the market away from the leaders (when is the last time you shopped at Montgomery Ward?).
I guess I believe the big oil companies are still competing with each other, in the same way Coca-Cola competes with Pepsi. Coke and Pepsi spend millions on advertising to convince us that there is a really difference in between two products which are about 99% the same (water, sugar, food coloring), and they do so because taking away one point of market share from the other is worth a great deal of money. The gas companies also spend a vast amount of money on advertising? If they aren't competing with each other, why advertise at all?
I also think it's appropriate for the oil companies to make decent profits because it will give them capital to find more oil, and maybe even develop new energy sources. I heard it once said that if the railroads understood themselves to be in the transportation business, we would now be flying New York Central Airlines. But they viewed the airplane as a fad and not the future of transportation (Western Union made the same mistake with the telephone). I hope the railroads are figuring out that passenger rail travel may come back in vogue, and are investing in appropriate equipment, personnel and facilities to catch an increase in demand.
In the same way, I hope the oil companies are viewing themselves as energy companies, and are using a lot of that profit to develop better ways of making and distributing ethanol and hydrogen. They should also be the largest researchers in areas such as batteries and fuel cells. Otherwise, they should pay out some huge dividends to release capital to investors who can put it back into companies who are investing for the future. Either way, they should not be ashamed about making a profit. It's those profits which fund growth and innovation. Even if you tend to left-wing politics, you need profitable businesses to pay corporate taxes to fund your programs. Robin Hood is unemployed if there aren't any rich folks...
Bottom line, if you don't like the gas prices, get a cheaper car, use public transportation, ride your bike to work, or find some other solution. The oil companies don't owe you a cheaper price. Isn't our economy healthier in the long run if we let these high prices be the impetus to lessen our addiction to oil?
Friday, January 27, 2006
Intelligent Design -- Liberal Style
I've finally figured it out...
... The Liberals actually believe in Intelligent Design while Conservatives believe in evolution. Sounds backwards, right? But hear me out:
A key characteristic of Conservative thought is that there should be minimal interference from government, allowing individuals to seek their own potential, with the opportunity to both excel and fail. This is exactly the way natural selection, or evolution if your prefer, works.
On the other hand, Liberals feel that the economic system needs to be managed and controlled. In their opinion, a purely market-driven, free-choice economy will fail to invest in the "right" things, therefore the government has a responsibility to substitute its will upon the public. In other words, Liberals don't really believe in allowing natural selection to take place without outside influence. They believe in Intelligent Design alright, and furthermore believe they play the role of the Designer.
I entered into this line of thinking while shaking my head at our Governor's announcement that starting with the high school Class of 2011, students in Ohio would have to show proficiency in Algebra 2, Chemistry and Physics in addition to all the current standards.
The public education system in this country is one of the greatest examples of liberal thinking -- the government knows what's best for everyone. The government mandates the existence of public schools, requires taxes to be paid to support them, and sets standards for student proficiency.
Meanwhile our economy is a train wreck in progress. The Governor's pronouncement is a bad idea because it will take resources away from the brightest students and redirect it to students who have neither the aptitude or desire to learn about math, chemistry, and physics.
He cites the increasing global competition for labor, and says that by having better trained high school graduates in Ohio, our state will be able to compete for new jobs more successfully. He forgets that the problem isn't that our workers are undereducated compared to other countries. In fact, the probability is that the skills of our workers versus those in other regions of the US and other countries compare favorably. The issue is that our cost of labor is much higher than the rest of the world. That is the legacy of 100 years of unions and government expansion, not a problem with how much education our residents acquire in high school. If you are going to add any subject matter to the high school curriculum, how about Economics?
The governor's plan will be expensive. It will cause either an incremental funding load to pay for the additional teachers required to teach everyone these subjects, or it will take away resources from "optional" programs in the school systems (e.g. programs for gifted students). He may be a Republican, but he's thinking like a Democrat in this case. I'm glad he's out of office this year.
If we want to fix our schools, we need to allow the kids and parents to have a choice where they go to school. I'm okay with a national policy which says every kid should have a chance to go to school, and would support vouchers as a way to make sure every kid has the money to do so. Schools that deliver the results the customer wants (ie - the parents & students) will attract kids and money, and those who fail to deliver will starve and die. Kids who have aptitude and desire will seek out the schools that will actually give them an education in their chosen field. The rest can be trained in a trade, or join the military, or be free to starve to death. America is the land of opportunity, not the land of guarantees.
Liberals: you support evolution -- this is how it works. Quit playing Intelligent Designer.
... The Liberals actually believe in Intelligent Design while Conservatives believe in evolution. Sounds backwards, right? But hear me out:
A key characteristic of Conservative thought is that there should be minimal interference from government, allowing individuals to seek their own potential, with the opportunity to both excel and fail. This is exactly the way natural selection, or evolution if your prefer, works.
On the other hand, Liberals feel that the economic system needs to be managed and controlled. In their opinion, a purely market-driven, free-choice economy will fail to invest in the "right" things, therefore the government has a responsibility to substitute its will upon the public. In other words, Liberals don't really believe in allowing natural selection to take place without outside influence. They believe in Intelligent Design alright, and furthermore believe they play the role of the Designer.
I entered into this line of thinking while shaking my head at our Governor's announcement that starting with the high school Class of 2011, students in Ohio would have to show proficiency in Algebra 2, Chemistry and Physics in addition to all the current standards.
The public education system in this country is one of the greatest examples of liberal thinking -- the government knows what's best for everyone. The government mandates the existence of public schools, requires taxes to be paid to support them, and sets standards for student proficiency.
Meanwhile our economy is a train wreck in progress. The Governor's pronouncement is a bad idea because it will take resources away from the brightest students and redirect it to students who have neither the aptitude or desire to learn about math, chemistry, and physics.
He cites the increasing global competition for labor, and says that by having better trained high school graduates in Ohio, our state will be able to compete for new jobs more successfully. He forgets that the problem isn't that our workers are undereducated compared to other countries. In fact, the probability is that the skills of our workers versus those in other regions of the US and other countries compare favorably. The issue is that our cost of labor is much higher than the rest of the world. That is the legacy of 100 years of unions and government expansion, not a problem with how much education our residents acquire in high school. If you are going to add any subject matter to the high school curriculum, how about Economics?
The governor's plan will be expensive. It will cause either an incremental funding load to pay for the additional teachers required to teach everyone these subjects, or it will take away resources from "optional" programs in the school systems (e.g. programs for gifted students). He may be a Republican, but he's thinking like a Democrat in this case. I'm glad he's out of office this year.
If we want to fix our schools, we need to allow the kids and parents to have a choice where they go to school. I'm okay with a national policy which says every kid should have a chance to go to school, and would support vouchers as a way to make sure every kid has the money to do so. Schools that deliver the results the customer wants (ie - the parents & students) will attract kids and money, and those who fail to deliver will starve and die. Kids who have aptitude and desire will seek out the schools that will actually give them an education in their chosen field. The rest can be trained in a trade, or join the military, or be free to starve to death. America is the land of opportunity, not the land of guarantees.
Liberals: you support evolution -- this is how it works. Quit playing Intelligent Designer.
Thursday, January 26, 2006
E=mc2 for everyone
From the Columbus Dispatch, January 26, 2006:
Bad idea Governor.
I'm okay with the notion that there is are a core set of subjects in which every high school graduate should be able to demostrate proficiency. But I don't see the sense of including Algebra 2, Physics and Chemistry in that set. Other nations take a more pragmatic view of school: sort the kids out by skill, potential and motivation before they get to high school. Some will go to schools which focus on science and mathematics. Others go to arts academies. Some go to learn a skilled trade.
The countries recognize that resources aren't limitless, and that an effort to raise the knowledge level for all students takes away resources from that fraction that can really make a difference. Our country thrived when it was contribute or starve. Only now are we seeing the harm of expending ever-increasing resources on protecting the weakest in our society -- creating a tax burden drag and preventing resources from being used to nurture our most promising young people.
Another thing most of those countries have -- compulsary military service. Most serve as enlisted personnel where they learn a skill, then those who wish can attend college. Some will attend college first, deferring their service until they graduate, and then serve as officers. Rich or poor, everyone serves -- notice that Prince William, the future King of England, is just beginning his military service.
You can't make Ohio a better place for business with this approach. Ohio was an economic powerhouse in the past century because: a) heavy industry grew around the Great Lakes; and, b) immigrant labor was cheap. Today, the major economic regions of the US are on the coasts -- east, west and south -- because state governments and unions in the Great Lakes region got greedy and ran industry out.
Major corporations have very little geographic or national loyalty. They move their production facilities to wherever their total costs are minimized. That includes cost of raw materials (including transportation), production labor costs, tax burden, and the cost of distribution. Once upon a time that meant the Great Lakes. Today it means Asia.
We've made it very hard for heavy industry to survive in the US. If we are going to participate in a global economy, then the steel workers in Cleveland are going to have to work for the same wages as the steelworkers in China. The information industry workers in Columbus are going to need to compete with the talented folks in India. The auto workers in Toledo need to work for the same wages as their opposite numbers in Korea. And the state government needs to get out of the entitlement business.
In which class will you teach our kids that they'll never have it as good as their grandparents? That's a new thing in the history of America...
To better prepare Ohio’s high-school
graduates for college or work, Gov. Bob Taft proposed a bold new plan yesterday
during his final State of the State address that would require all students to
take more math, science and foreign-language courses.
Starting with students who graduate in 2011, a new core set of courses
would be required, including Algebra 2, physics and chemistry.
The new requirements would apply to all high-school students whether
they plan to attend college or not, although parents could sign a waiver opting
out of the courses and accepting the consequences.
For example, students
opting out wouldn’t be able to attend a state university under Taft’s
plan.
Bad idea Governor.
I'm okay with the notion that there is are a core set of subjects in which every high school graduate should be able to demostrate proficiency. But I don't see the sense of including Algebra 2, Physics and Chemistry in that set. Other nations take a more pragmatic view of school: sort the kids out by skill, potential and motivation before they get to high school. Some will go to schools which focus on science and mathematics. Others go to arts academies. Some go to learn a skilled trade.
The countries recognize that resources aren't limitless, and that an effort to raise the knowledge level for all students takes away resources from that fraction that can really make a difference. Our country thrived when it was contribute or starve. Only now are we seeing the harm of expending ever-increasing resources on protecting the weakest in our society -- creating a tax burden drag and preventing resources from being used to nurture our most promising young people.
Another thing most of those countries have -- compulsary military service. Most serve as enlisted personnel where they learn a skill, then those who wish can attend college. Some will attend college first, deferring their service until they graduate, and then serve as officers. Rich or poor, everyone serves -- notice that Prince William, the future King of England, is just beginning his military service.
You can't make Ohio a better place for business with this approach. Ohio was an economic powerhouse in the past century because: a) heavy industry grew around the Great Lakes; and, b) immigrant labor was cheap. Today, the major economic regions of the US are on the coasts -- east, west and south -- because state governments and unions in the Great Lakes region got greedy and ran industry out.
Major corporations have very little geographic or national loyalty. They move their production facilities to wherever their total costs are minimized. That includes cost of raw materials (including transportation), production labor costs, tax burden, and the cost of distribution. Once upon a time that meant the Great Lakes. Today it means Asia.
We've made it very hard for heavy industry to survive in the US. If we are going to participate in a global economy, then the steel workers in Cleveland are going to have to work for the same wages as the steelworkers in China. The information industry workers in Columbus are going to need to compete with the talented folks in India. The auto workers in Toledo need to work for the same wages as their opposite numbers in Korea. And the state government needs to get out of the entitlement business.
In which class will you teach our kids that they'll never have it as good as their grandparents? That's a new thing in the history of America...
Tuesday, February 8, 2005
Investing in the Stock Market
Lots has been written about the bursting of the tech bubble in 2000. I've read a few of those books since the start of the New Year. I think most of them are by the same people who in 1995 were saying we were in a New Economy, and you had to get on the train or get left behind. Writing a book about the train wreck is just one last gasp of hucksterism.
Here’s what I think happened in 10 simple points:
Here’s what I think happened in 10 simple points:
- The creation of 401(k) plans during the Reagan presidency redirected a massive amount of capital into the stock market. I worked for a global telecommunications company at the time, and I remember an interesting meeting with one of our clients, who was a major name in the finance world. She said that her firm was actually having a great deal of challenge trying to find appropriate investments for the billions of new investment dollars pouring into their mutual funds from the 401(k) accounts. All this money needed to be invested, causing exactly what microeconomics predicts: as the demand for investment instruments exceeded the supply, the prices of the available instruments were bid up. That is, stock prices went up because all the mutual funds were buying from the same pool of available stocks.
- The people dumping money into the 401(k) plans were oblivious to the fact that prices were going up because they were dumping more money into the market, and instead rejoiced that the Dow and the Nasdaq indexes seemed to keep climbing, making their mutual funds share prices to go up in response. Their net worth grew at double digit annual rates, and everyone who could started maximizing their IRAs and 401(k) contributions.
- Consumers began taking note of the amount of wealth appearing in their “retirement” portfolios, and, feeling pretty well off, went on a consumer spending spree of epic scale. Many of those purchases were made on credit, but heck, their net worth still looked pretty good.
- New companies began being formed for the sole purpose of getting to the stage where an Initial Public Offering (IPO) of their stock could be brought to market. Most any company with a good story could get venture funding with this goal in mind. Any company that could tie its products to Internet technology was golden. The new status symbol wasn’t a Rolex watch or a BMW, it was to be one of few who get on the “friends and family” lists and therefore have the opportunity to buy a new stock at the initial offering price. This is where the main scam begins:
- The investment bankers and the owners of the company would deliberately underprice the initial offering of the stock. The textbook purpose of a stock offering is to raise capital for the company to operate with, and the company then hopefully generates an operating return for the shareholders.
But during those bizarro days, the object was to bring out the IPO at a share price high enough to get sufficient capitalization for the company to stay alive for a little while, but low enough to leave a lot of room for the share price to be bid up. For example, let’s say a new company thinks it will need to spend $10million to get to a point of being cash flow positive (able to fund its ongoing operations from the sale of its products). It might then sell 1 million shares to its underwriters for $10/share. The underwriters are usually one or more of the big investment banks. This is the one and only transaction that puts any money in the treasury of the company.
At that point, the underwriters own all the shares, except the fraction retained by the original investors and founders. The underwriters set a public offering price to a number large enough to give them a nice profit as they sell off their shares to the market.
Let’s say they pick $11 for this stock. So for all the shares they sell, they make $1 per share. To make sure they sell these shares as quickly as possible, they will have spent weeks going around the country with the management doing a “dog & pony show” to pre-sell the stock to as many investors as possible. So on the day of the IPO, the underwriters will likely sell every single share of stock they bought from the company for a tidy profit.
Now the company has its $10 million and the underwriters their $1 million profit. But we’re still not done. While some of those initial shares went to the folks on the “friends and family” list, a lot of the rest went to secondary sellers who don’t really want to hold the stock as an investment. If the stock has been hyped up successfully in the days leading up to the IPO, the demand will be high, and those secondary sellers will start taking bids from all the mutual funds and individual investors who want in on the stock. It was not unheard of for a stock to get bid up 5 to 10 times its offering prices THE FIRST DAY.
Let’s say that in the case of this stock, the price went to $50 on the first trading day. Seems like the company is leaving a lot of money on the table. Why didn’t they make the underwriter pay closer to $50 for the stock? After all, if $10million was enough to get going, wouldn’t $50million be better? The answer is simple: everyone is in on the scam! The company’s management, the initial investors, the underwriters and the even the secondary sellers all benefit from having the stock price run up the first days. If the company took in $50million in capitalization, the management and initial investors would need to actually invest that money in operations to generate a return. That’s a lot of pressure, and it would take time. But by underpricing the stock and letting the market bid it up, the management, underwriters, friends & family all see their money multiply immediately. Sure the management probably has some vesting schedule on their options that makes them wait for their payoff, but they were still going to get a pot of money in a few months -- if the could continue to tell a good story prior to the money running out. - The crazy thing is that an insanely overpriced stock like this one would still attract buyers for a long time. As long as the company was still in its development stage, and not expected to generate a profit in the near future, folks were willing to believe the dream (or “drink the Kool-Aid” in a macabre reference to the Jim Jones-led tragedy in Guyana a couple of decades ago), and want to buy in so as not to miss the presumed rocket ship growth yet to come. This was the bubble starting to grow.
- There was that time of fantasy were everyone in America thought they were an investing genius because their 401(k) continued to multiply, and they began playing the stock market with some after-tax money and making some bucks there too. The Bricks and Mortar retailing world was crumbling before their eyes, and they thrilled to be riding the wave into the future.
To sit on the sidelines investing in CDs and dividend-paying stock was seen to be falling behind. The public began to feel it was more risky to hold cash and CDs than it was to hold stocks. I believe that at this point, we went into the mode of a two-currency system. One currency was American greenback dollars, and the other was equities. You held wealth in dollars only long enough to make a purchase (of more stocks, a house, fancy car, etc). Otherwise you held your wealth in equities. The trouble was that folks forgot that there is no government backing behind stocks like there is cash and bank deposits. The more subtle problem was that they didn’t realize that there was rampant inflation in equity prices (the supply/demand phenomenon). - Then in 1999 and 2000, many of those thousands of IPO funded startup had burned through their initial money, and had not yet reached a self-sustaining economic state. In a market that experienced 99% good news and optimism over the past decade, this wave of failures were a shock. The savvy investors who had always seen this as a bubble had started getting out beforehand ended the 20th century as very wealthy folks (look up the legend of Joseph Kennedy deciding to get out of the market in early 1929 after getting a stock tip from his shoeshine boy).
For the ordinary American who never understood why stock prices went up in the first place, the first big hits took some the smile off their faces. Nonetheless, most stuck with a market that had returned 20% annual growth. After all, they could recoup a 30% loss in value in 18 months, right? Most didn’t understand the math there either: the 70% they were left with had to generate a 43% return to get back to their original level. A 50% loss required 100% growth to get back to the original point. Still, they thought, it could happen. - Then some of the really big companies started to fail. Enron and Worldcom were the pins that finally burst the bubble. Nonetheless, many people rode their portfolios to 20% or less of the peak value because they felt it just had to come back. After all, this kind of thing had never happened to them.
- But it’s happened before. A wise person once said that those who ignore history are doomed to relive the past. My father, who was a young man during the Depression, had warned me repeatedly over the past 20 years that “those damn Republicans” were dismantling all the controls and safeguards that had been erected by FDR in the aftermath of the depression.
He was right.
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