How Big Oil Controls The Price
Social Security Administration
Efficiency 
Bringing Chinese Production Back
How Big Oil Controls The Price
Whenever things aren't going the way we'd like, we just love to try to pin blame on somebody or something. After all, if we can pinpoint blame, then we might be able to force the offender to clean up his/its act and make our lives all wonderful again.
So it goes with the
price of fuel and BigBadOil - if the price is high we want to blame all those
rotten greedy executives and rich people who supposedly control and benefit from BigBadOil.
And if the price is low ... well, we
generally just have our fun and don't think about it at all.
Demonizing American
oil companies for the price of oil may feel good, but it is just plain
pointless. World oil production 2005
averaged 83 MB/d (million barrels / day), while all US companies together
produced 4.9 MB/d of that, or slightly less than 6%. 6% !!!! And it is FALLING with time. So just how
does American BigBadOil dictate world oil prices when it controls a measly 6% of
the oil? 
US companies do not control most of the domestic consumption either. In 2005 we imported 10.1 MB/d in addition to the 4.9 MB/d we produced, or 67% (2/3) of our consumption. We do not even totally control our own gasoline supply, since we have inadequate refinery capacity and on average must import refined gasoline. With everything going right, 2005 US gasoline refinery capacity was 316.5 Mg/d (million gals per day), but average consumption was closer to 320 Mg/d. Throw in shutdowns for maintenance or damage from hurricanes or accidents and the problem is obvious.
The hard truth is that our oil companies do NOT set the price of oil, any more than our farmers set the price of grain. Oil is a worldwide commodity traded and priced by supply and demand, and the only entities with any direct control over the price are the producing country cartels, because they determine most of the supply. Supply and demand must always balance, and the mechanism for achieving the balance is price. When we speak of demand, that includes both the desire to buy and the ability to pay; desire without the ability to pay is only potential demand.
Oil trading is
pretty much an endless series of auctions, with producers and consumers
constantly jockeying for position. 
There are short-term and long-term things
that happen in the process of balancing supply and demand. Here's a basic
picture of how the market works:
The cost of producing oil serves only as a floor to the price, and is usually well below the price. The only thing limiting the rise in price is short-term demand destruction, which requires a sharp rise because most uses for oil are relatively inflexible. It is easy to shut off some wells for a while, but it is very hard to stop heating, transporting goods, or driving to work. How much an oil company profits from a sharp run-up in prices depends on how much lower-cost production it actually owns and how efficient it is.
The auction process plays out over a relatively short time of days to months. Consistently low prices obviously lead to demand growth for such a useful substance as oil. But in the timeframe of years to decades they also lead to supply destruction as new exploration and drilling drop off, oil fields decline, and high-cost wells or facilities get shut down. Conversely, consistently high prices lead to demand destruction as users cut back, switch to other fuels, or improve efficiency. They also lead to supply growth due to exploration and drilling for higher-cost sources, investment in more costly but more efficient refineries, and expansion of the more expensive alternative fuels.
Yes, there are
speculators and hedging arbitrage and a whole lot of other things that also go
on, but their effects are trivial except for brief moments when the balance is
tipping. Those that engage in this crash and burn as often as they fly high. The
vast bulk of futures trading is simply a matter of producers and consumers
locking in supplies and prices in order to carry out business with more
stability, not some great cabal operated by "secret money men".
But you cannot get folks all riled up nor sell potboiler conspiracy books based
on boring old facts, now can you?
By the way, since world production 2005 averaged 83 MB/d and US consumed an average 15 MB/d, we consumed 18% of the oil, or less than 1/5 of it. We are the largest single consumer, not the largest consumer.
The major American oils are BP/Amoco/Arco, Exxon/Mobil, Royal Dutch/Shell, Chevron/Texaco, and Conoco/Philips.
Some good sites for volumes of oil related information, without a bias:
http://www.gravmag.com/oil.html
http://www.eia.doe.gov/oiaf/ieo/oil.html
There is a
popular slogan that the purpose of the economy is to support the workers,
because without the workers there can be no production. Thus the benefits of
rising productivity should all flow to the workers.
Popular, and complete rubbish. First, the economy does not exist for any particular purpose, it simply exists. [see rant "What Is The Economy?" in the Things Explained page] And labor is only one part. It takes three: labor, capital, and resources, and all must be in balance to get good results (yes, you can get some results without a balance, just not as good). One is not more important than the others. In fact, rising productivity comes about because of the portion of production put into capital - better tools, systems, facilities, and infrastructure. Workers do not magically become faster and more efficient as the decades roll by, now do they? By the way, in this context management is part of labor, and special skills of labor are capital.
Besides, productivity rises differently in different parts of the economy. Does "worker" mean only the production workers of a given factory, or all the people in that factory, or the people in a certain industry that is doing well, and everyone else should be cut out of the benefit? And just how is this spiffy slogan to be implemented ... Bureau of Wage Dictation? Should retirees be cut out because they're not "workers" and don't receive wages? I think the whole idea of that slogan is garbage ... everybody should benefit from improving productivity. (See rant "Spread The Wealth" in Things Explained).
Though politicians
of all stripes do it constantly, trying to cast the economy as a morality
play is a fool's errand (which, come to think of it, is the one thing
politicians excel at). 
I've seen any number of claims such as this: if wages had kept pace with rising productivity since 1968, the average hourly wage would have been $24.56 in 2000, rather than $13.74. The minimum wage would be $13.80--not $5.15.
But this is oversimplifying or outright lying with statistics, because it conveniently overlooks the portion that parasitic losses have consumed from the increase in productivity. Over the timeframe 1970-2003
I'm sure there are many other items, but the point is there are numerous things consuming the extra productivity so that it is not in fact fully available for other purposes, be it workers or capital. And we haven't even begun to address the rising costs of regulatory compliance over the time period: pollution control & cleanup, safety rules & equipment, financial controls, records & reporting, etc. These things are all beneficial and proper, but they do take yet another chunk out of the improved productivity, so determining how much or even if the worker has been shortchanged with respect to rising productivity is not so simple. No Free Lunch and all that. We have as a whole decided to spend a lot of our increased productivity on other things than paychecks, whether we realize it or not, and it is ridiculous to expect to both spend and receive the same chunk of output.
Also, how much of the
increased productivity has already been distributed to consumers, and thus the
workers, in the form of
lower prices on the goods? 
Reduced prices do not
directly show up in the paycheck data, but they do
indeed spread the benefit by increasing buying power.
There is a hard
truth: wage levels are meaningless to standard of living. We can only consume
what is produced, minus the portion that must be fed back in to make it go, and
minus the portion we put into the nonproductive sectors regardless of why it is
being done or where it is going. [See rant "Economic What-Ifs" in the Explained page]. The arguments about
jobs and wages are really about who should be allowed to consume how much of
what's available. But how much is a carpenter worth, or a dentist, a crane
operator, grocery clerk, doctor, or a retiree? Can everyone say "How many angels
can dance on the head of a pin?". 
There is no
analytic answer to this, because anything ... and anyone ... is truly worth
simply what buyers are willing to pay without being forced.
The one thing you can say is that the portion truly available to be given to the everybody (not just "workers") is no greater than the rise in productivity minus whatever capital is needed to continue that rise and minus the rise in the parasitic costs. Unless these items are included in the analysis, any claim about what wages should be is worthless.
So, what should the
minimum wage be? I don't know, but any official or pundit making an argument
simply based on "fairness" is a certifiable idiot and needs to be ignored.
Some interesting links:
Brief snapshot of federal spending as % GDP:
http://www.cbo.gov/showdoc.cfm?index=3521&sequence=0
A bit deep but even handed analysis of US manufacturing competitiveness:
http://www.nam.org/s_nam/bin.asp?CID=216&DID=227525&
Healthcare spending increase as % GDP - consumes a lot of the productivity growth:
http://www.kff.org/insurance/snapshot/chcm010307oth.cfm
Taxes as %GDP 1947-2003:
http://www.senate.gov/~hutchison/RS20087.pdf
When I wrote the first rant (above) about the minimum wage, debunking some of the myths about what it supposedly "should" be, I had no idea about what might be the effects if it is raised carelessly. I have a better notion now.
Let's start with what we do know.
NOTE: as was
determined in the first Minimum Wage rant, it should be possible to raise wages
without harm by the amount of productivity growth that exceeds the various
losses. I'm talking here about the kind of pulled-out-of-their-arse numbers that
politicians always toss around.
OK, so how do these things apply to the basic economic equations from the rant "Economic What-Ifs" in the Explained page? Here they are again:
[2.0]: (Amount available to consume) = (Total economic base) - (Amount fed back in to make it go) - (Amount put into nonproductive sectors).
[2.1]: (Amount available to me) = (Amount available to consume) - (Amount everyone else is consuming). This is what we consider our standard of living.
It is pretty
obvious that the minimum wage has no effect anywhere in (2.0), unless business
curtails capital reinvestment (amount to make it go) to cover the cost, which
would eventually harm productivity growth and drive down the amount available to
consume.
What effect it has in (2.1) takes some work to figure out. The available consumption pool is unchanged. We must now break down "everyone else" into smaller chunks and ponder the effect on each chunk. Today we have pretty much a fully utilized economy, as in there are not large amounts of underused resources, productive capacity, or labor readily available to quickly expand production.
As higher wages
collide with a fixed consumption pool and raise prices, their consumption is
forced to fall. That is how the equation gets balanced. So there you have
it. Arbitrarily raising the minimum wage does improve the standard of living for
low wage workers, but it is done primarily on the backs of those on a fixed
income or relying on savings. Populist politicians and unions love to sell it on
the basis of "fairness" and "take from the rich", but that is the biggest lie
since "I did not have sex with that woman".
Social Security Administration Efficiency
Over the years I've seen a lot of claims bandied about concerning how the government compares to private industry for cost efficiency, usually based on some final cost number without any serious explanation of where it came from. And it didn't matter which was being touted as better, it all sounded the same. So I figured I'd try to find out for myself what the reality is, if possible.
I stumbled onto the Social Security Administration financial statements for 2000/2001 at
http://www.ssa.gov/finance/2001/01finstmts.pdf
and tried to make
sense of it. What I found, assuming I didn't screw up too badly, was different
than I expected. 
First, I found that the government accounts for things in a significantly
different fashion than industry, so direct comparison is tricky because the two
are not on a level playing field. A surprising discrepancy is that SSA does not
account for its cost of employee benefits
(see page 11, item 2),
because these are provided "to the government as a whole". For any operation
that is personnel-intensive, benefit costs are the second biggest item after
salaries. From what I found in a Bureau of Labor Statistics release (see link),
for office & sales employees wages & salaries accounted for 61% of total
employee cost on average. So to estimate total cost from wages & salary alone,
you need to multiply by 1.6. I guessed that 70% of the total expenses were
personnel since the facilities are mostly older and depreciated.
Second, the whole operating model is different, and gives the SSA another significant advantage.
A private company must pay to raise funds from investors. Not only does SSA not pay to raise its funds, it pushes that cost onto private companies, since they must foot the cost of collecting, accounting for, and transmitting the taxes.
A private company
must pay income taxes and the employer share of the FICA tax, which SSA does
not. 
I have no clue how to adjust for these, so I didn't try and left SSA's advantage alone.
The mutual fund companies I'm familiar with all charge based on a percentage of invested assets, which covers all the internal costs and delivery of money (benefits) to participants. It varies with the specific fund, but it averages 0.8% or so per year for the low-cost operators such as Vanguard and T. Rowe Price.
Let's see how SSA comapres on the same basis:
SSA invested assets (page 3) $1.17 tril
Total operating expenses (page 4) $7.4 bil
30% of expenses as non-personnel $2.22 bil
70% of expenses as personnel, X 1.6 $5.18 bil, $8.29 bil
Total estimated real operating expenses $10.51 bil
Expenses as % of assets (10.51 bil / 1.17 tril ) = 0.90%
So, within the slop of adjustments, SSA and private industry are pretty much the same as far as cost of delivering benefits. Of course, industry does more than merely deliver benefits because it also has to obtain the assets, manage the assets, advertise, provide statements and documentation, and so forth, so I was expecting them to be seriously more expensive.
Looking at page 3 we find another interesting number, Interest Receivable, i.e. return on the invested assets: $18.5 bil.
Return on investments (18.5 bil / 1.17 tril) = 1.6%
This was another
surprise. It is beyond pathetic 
...
you could make twice as much in the worst money-market fund at that time period.
LINKS
Some data on average benefits costs vs. wages & salaries
http://www.bls.gov/news.release/ecec.nr0.htm
Bringing Chinese Production Back
If we instituted stiff tariffs to force the production now done in China to move back here, what effect would it have on our standard of living? I've heard a whole lot of claims, mostly from union heads, that this would create a bunch of high-paying jobs and we would all be better off. And as usual I'm not going to take anyone's word for it, least of all theirs.
From the rant "Economic What-Ifs" in the Explanations page, there are two simple equations:
[2.0]: (Amount available to consume) = (Total economic base) - (Amount fed back in to make it go) - (Amount put into nonproductive sectors).
[2.1]: (Amount available to me) = (Amount available to consume) - (Amount everyone else is consuming). This is what we consider our standard of living.
Following the instructions from that rant, first let's look at equation (2.0):
So for equation (2.0) we see an unclear but likely only modest drop in the amount available to consume.
Now let's move on to (2.1). The Chinese are producing in return for consuming some portion of what's available and/or a promise of being able to consume in the future (dollars). They demand a certain amount of consumption for each unit of production, just as we do.
For equation(2.1),
then, the available amount drops and the amount everyone else is consuming
rises, and so the amount available for you falls.
Bottom line, moving Chinese production here will, on average, cause our standard of living to fall. Period. All the rest of the arguments are smoke and mirrors, or just plain lies. Some individuals who gain the specific production jobs and leave a less rewarding job will do better, but everyone else will be on the losing end. The equations must always balance. Now, whether the fall is a reasonable tradeoff to gain a benefit of some other sort is an entirely different question.
I recently saw on an internet board where someone claimed
that we could power the entire USA with 100 acres of solar cells.
I decided to check the math for myself
because the field is so clogged with a lot of bogus statistics. What really is
the practicality of replacing a significant portion of our electric generating
capacity with photovoltaics?
At noon on a perfectly clear summer day, raw solar radiation is about 1 KW per 10sqft. This same figure is often seen as 1 KW per square meter. The best efficiency of the most cost-effective photovoltaic panels (the polycrystal type) is 12%, so maximum power output at high noon is 120 W per 10 sqft. Single crystal cells can reach 16%, but their much higher cost usually outweighs higher efficiency, and cost-effectiveness is crucial for electric power sources.
An acre is 43.6e3 sqft (43.6 thousand). Peak power is then
(43.6e3 sqft) X (120 W/10 sqft) = 523 KW/acre at noon in summer.
Allowing for an average 5 hours of equivalent peak power production per day … it is lower before and after noon due to rising atmospheric losses, and lower in winter than summer ... average daily energy produced is then
523 KW/acre X 5 hrs = 2.6 MWHr/acre (megawatt hours per acre).
According to Industrialinfo.com, there are 8,163 generating plants across the U.S. with a total generating capacity of 880,000 MW. This includes fueled, nuclear and hydro, and represents a mix of big baseline and small peaking plants, with an average size of 108 MW. Since most power plants run 24 hrs a day, the average plant produces
(24 Hrs/day) X 108 MW = 2,592 MWHrs/day of total energy.
To replace one of the average power plant with photovoltaics thus requires
2,592 MWHr ÷ 2.6 MWHr/acre = 997 acres. That's 1.6 square miles if covered solidly, like a roof.
And we haven't begun to address real-world issues like dust losses (dust on panels – no one is going to wash them daily), wiring losses, storage losses (for power when there’s no sun), voltage conversion losses (panels are DC, must be converted to high voltage AC), and so on. Replacing 5% of the 8,163 plants would require a minimum of
(0.05) X
(8,193) X (1.6 sqmi) = 655 square miles solidly covered.
The better value in photovoltaic (PV) power would be to reduce the amount of fossil generated power during daylight hours, eliminating the cost, losses, and complexity of storing massive amounts of power. If we want to substitute 10% of the generating capacity with solar generated power, it requires
(0.1) X (880,000 MW) ÷ 0.523MW/acre = 84,000 acres = 264 square miles.
If the panels are spread out to shade only 10% of the ground so as to not heavily impact the ecology of the area, that comes to 2640 square miles, which is a square about 51 miles on a side. There is vastly more empty desert than that available, so from a land availability standpoint at least it appears practical to reduce fossil fuel burning during daylight hours.
From a cost-effectiveness standpoint, it is likely more sensible to simultaneously reduce electrical consumption where practical than to primarily pursue solar generation. More use of waste heat and co-generation for both heating and cooling in large buildings, raising lighting and refrigeration efficiency in residences, and reducing the amount of air conditioning would likely cost less for the same CO2 savings. New power plants, including nuclear if it returns, should located close to or inside major population centers to make the waste heat usable, especially for air conditioning large buildings. And if these plants are not safe enough to put near cities, they aren’t safe enough to put in the countryside, either.
The high density of electricity usage in cities means that it is impractical to offset any serious amount with roof-mounted PV. In suburbs a significant offset could be had by roof-mounted PV in areas of reasonable sunlight, which is most of the country, but the high land values would preclude any sort of "solar farm". Likewise, good farmland is too valuable for cropping to be lost to large PV power installations.
Editorials scream "CEO PAY OUT OF CONTROL". Story after story laments the high
ratio of CEO pay to either the lowest paid employee or the average pay of
employees. It sounds like a terrible injustice upon the workers,
and I figured the truth was likely worse than
the stories because a lot of the stories were in financial publications. So I
went looking for the data myself to get a better handle on the issue, rather
than take any journalist’s boiled-down statistics for granted.
The
first thing I came across is that the huge numbers quoted in these articles are
almost entirely stock options, usually restricted.
What are these stock options, you ask?
(see the third link for details) The options used as pay are a right to buy
stock at a certain price (usually the fair market value at the time of the grant
due to tax rules) within a certain amount of time, and the restriction is
usually "only after a minimum of X time after the option is granted", i.e. there
is a vesting time required. The quoted value of an option is the present sale
value of the underlying stock and does NOT consider the cost to
buy … it is NOT the profit. Think
of the way the full market value of your house or land counts as wealth,
regardless of the mortgage. Realize this: an option expires worthless if the
stock price never rises above the promised purchase price, so it can have a
reported value of millions and yet be worth nothing.
If the executive leaves the
company, the options usually have a short sunset time rather than the original
time span. Long story short, those huge options numbers can have very little
connection to the actual amount the recipient might get from them. If the
company did not do well, so that the stock price did not rise, they’re generally
worth nothing.
These stock options don’t cost the company any cash, but they do dilute the value of investors’ shares, which is why the financial types get steamed about it. So I looked at strictly the top executive cash pay and bonus, since that does come out of the company coffers. I was curious to see if there was any consistent pattern, and how much that cash pay took away from employee pay. Here is a brief listing of the biggest companies by revenue. I skipped over a couple of large oil companies because their numbers are so erratic due to gyrating oil prices.
|
Executive Officer Actual Cash Pay, 2004 or 2005 as available, largest companies by revenue. |
Wal Mart |
General Motors |
General Electric |
Citi Group |
AIG Group |
IBM |
|
Salary + Bonus, Top 3 Executive Officers, millions |
||||||
|
1 |
$5.3 |
$4.7 |
$8.3 |
$9.4 |
$1.6 |
$6.7 |
|
2 |
$2.8 |
$2.0 |
$8.0 |
$10.6 |
$1.6 |
$1.9 |
|
3 |
$1.6 |
$2.0 |
$8.2 |
$9.4 |
$1.6 |
$1.9 |
|
Total |
$9.7 |
$8.7 |
$24.5 |
$29.4 |
$4.8 |
$10.5 |
|
Number of employees, millions |
1.30 |
0.28 |
0.30 |
0.30 |
0.10 |
0.36 |
|
Revenue, billion $ |
$288.0 |
$193.0 |
$152.0 |
$108.0 |
$98.0 |
$96.0 |
|
After tax profit, billion $ |
$10.3 |
$2.8 |
$16.6 |
$17.0 |
$11.0 |
$8.4 |
|
Profit Margin |
3.6% |
1.5% |
10.9% |
15.7% |
11.2% |
8.8% |
|
Pay Per Profit |
0.09% |
0.31% |
0.15% |
0.17% |
0.04% |
0.13% |
|
If top 3 officers were paid nothing, employee hourly pay could rise by |
$0.004 |
$0.015 |
$0.039 |
$0.047 |
$0.023 |
$0.014 |
A
quick look at the pay rate versus revenue, profit or profit margin did not
reveal any obvious pattern. But while looking at these numbers it dawned on me
that the often-chanted metrics of ratio of executive pay versus either lowest
paid employee or average employee pay are baseless, since they fail to account
for the number of employees or size of the company. These metrics would call for
executive pay to be the same for a company of 10 employees or 100,000 – totally
stupid.
The
only thing of interest that did pop out is the last line, which shows how much
executive cash pay compares to employee cash pay. Basically,
if these execs were paid nothing at all, the biggest raise
we could give employees using that cash would be less than a nickel per hour at
best, and less than half a penny at Wal Mart. So regardless of all
the other arguments or silly ratios, the amount of money the executives cost
each employee is simply meaningless. 
This was a
big surprise to me, considering all the hype I’ve heard for so long.
OK, so what should the executives be paid, or is there any "should"? It beats me, but there are a number of things to consider:
Certainly, a large company
presents more complex management & financial issues than a small one, so the
only plausible ratio would be executive pay versus total employee pay, not the
irrational ratio to the lowest-paid or average-paid. But does some fixed ratio
to employee pay really make any sense at its core? What about total revenues?
What about profit margins and the general competitiveness of the industry?
Pardon me if I prick anybody's bubble,
but the primary function of business is
not paying employees, it is getting something done. High volume, low margin
business requires more careful detail management, where a high-tech operation
needs greater vision and coordination of approach. Different companies present
different challenges and require different capabilities, even if the "size" in
terms of employees or payroll is the same.
Then there’s the "span of
effect" issue. An employee affects only a portion of the company’s operation,
and the lower level the employee, generally the smaller the effect. But the
top executives affect the entire operation and their decisions impact both the
present functioning and the long term future. If a grunt screws up, a little
bit of product is bad or a few customers get annoyed. If the top guys screw
up, everyone in the company suffers, possibly all losing their jobs in the
long run. Is that really the wisest place
to cheap-out?
How much and what sort of compensation top
executives receive is largely determined by competition in the talent
marketplace, seeking to obtain good executives and structure their rewards to
parallel how well the company fares. Imagine you own or control a company and
you need a top executive or two. How will you go about getting a good person?
If others also want the same person you want, how will you entice that person
to work for you? If you get the wrong or inadequate person, your company may
fall behind in the marketplace or perhaps be badly wounded.
Do you want your hands tied and trust to
a flip of a coin? Even as an employee, considering that your future may hang
in the balance, do you want the top decision makers picked at random or what?
What about claim that it is unfair for top executives to receive full pay if the company stumbles? Most often a performance bonus and stock options are supposed to cover this aspect. But if a company does poorly, was it because the executives did a bad job, or did they do they best that could be expected but the situation was beyond their control? The issue looms large when a company is having problems and seeks new management. Still, fairness is simply irrelevant. Let’s say you have cancer. You could search for a doctor by offering "Doc, if I don’t get better you get only half your fee, for fairness". But would you? Good doctors are in such demand they don’t have to take such deals. Unless you’re a complete idiot, you’ll search for the best one you can possibly afford, no strings attached. The same applies for the search for good executives, particularly if survival is an issue. You could always ask and perhaps luck onto a good person willing to take the half-fee deal, but would you be wise to reject anyone who would not?
To a
degree I can understand why there isn’t a more accurate description of executive
compensation, because it turns out to be hideously complex and would cause 99.9%
of the public’s eyes to simply glaze over.
On the other hand, cavalierly waving these stock-option numbers around without
any qualifiers, such as whether there is really any profit in them, is clearly
being done for pure shock value and is a massive misrepresentation bordering on
outright lies. If these journalists had a
shred of integrity they’d stick to cash compensation plus actual profit
realized. 
At
what point does the complaining about stock options and bonuses by investors
pass from legitimate concern to simple greed for a bigger share of the profits?
At what point does the complaining by employees on the basis of "social justice" pass from
being a legitimate issue to merely a case of envy and greed (I deserve more
because they have more) dressed up in phony moralizing? Is there really any
truly sensible defining characteristic? If there is, I surely do not have any
idea what it might be. 
LINKS:
http://www.companypay.com/
http://moneycentral.msn.com/
http://www.fwrv.com/news/article.cfm?id=100644
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