Oil Companies Earn Billions. No S#!%.

Think Progress posted a threadbare canard of the left - "big oil" is reaping obscene profits. The ideas posited in the article are so hackneyed as to be wearisome. Yes "big oil" makes big profits, because they sell billions of units of product. Apparently simple math is not the strong suit of the authors. And they show contempt for the reader when they assume the reader won’t see through the demagoguery or that the reader is too stupid to do the math for themselves.

To ensure that we are all on the same page, a review of some basic mathematics may be in order. In case the authors are unaware, a mathematical concept has been developed that may help the authors understand what is going on here – it is called percentages. And it is percentages that can help us to understand what to make of the "outrageous profits" – that is, if we are really interested in understanding the profits in context.

If a manufacturer builds 50 TVs per year and it costs $300 in parts, labor and overhead to build the TVs and he then sells them for $600, is that an outrageous profit? If consumers are happy to pay $600 for the TV because of the perceived added value to their lives, then whether it is outrageous or not, they may pay that amount. However, that is a 100% profit.

If that same manufacturer sells the TV for $323.70 is that an outrageous profit? Is 7.9% fairer? Less outrageous? 7.9% is about what "big oil" makes on average in profit. This is less than periodical publishers (53.1%), software companies (23.2%), cigarette makers (22.5%), beverage brewers (20.3%), railroads (15.5%), agricultural chemical manufacturers (15.2%), soft drink canners (15%), makers of toys and games (9.7%) and specialty eateries (9.2%). (Source: Yahoo!, 12 Mar 2012)

(For scale, it is worth considering that he would have to make over 4,200 units, or about 2 per hour working 8 hrs/day, in order to see his first $100k in profits – that comes after paying salaries and benefits to employees, rent/mortgage, light, heat, property taxes, maintenance, etc., etc., etc. and before reinvestment in new equipment, research, et al.)

But if the TV guy (who at some ordained quantity, only known by leftists, stops being a decent producer of needed goods and becomes demonic, "big TV") sold ten million TVs – which assumes he can even produce ten million – at 7.9% profit, he would report an obscene profit of $237 million. These enormous earnings would translate to $2 billion in profit over ten years. "That’s right, a profit figure with" 9 "zeros – count them:" $2,000,000,000. This demagogic slight of hand employed by the authors might be humorous if it weren’t so contemptuous and tendentious. It assumes the reader is too stupid to understand or too partisan or care that no matter what the total dollar amount of the profit, the percentage is well below many other industries. Only those lacking a basic high school education or the Kool Aid drinker would be taken in by such a specious presentation of the data.

Any company that is producing something will necessarily maximize profits for the shareholders. However, this is limited by how much a buyer is willing to pay. Oil companies, like most companies, are price takers, not price setters. If a TV manufacturer decides to include a 100% profit in the price of its TV, the buyer may decide that the added value of having a TV in the home is not worth the price. This desire to price 'set' is mitigated by the market when another company sells the product cheaper – maybe deciding to produce the product with less profit. The second company can undercut the competition and gain a larger portion of the market share. This will have the effect of driving down prices at the first company if they want to stay in business. The business then 'takes' the price that the market allows.

If the consumer sees sufficient self-benefit in the exchange, he will pay an additional sum that is profit for the business because he acknowledges that the business is able to provide the good or service in a more efficient manner than the consumer could. This is the tacit acknowledgment of comparative advantage. The cost of a good or service can be lowered because of specialization, economy of scale, division of labor and other factors that lower production costs and increase productivity. Profit is not necessarily bad. It can be an indicator that the consumer is willing to pay for efficiently produced, low-cost goods and services. And barring corruption, large profits are likely the result of someone, or some group, finding a way to increase production in a way that reduces production costs thereby increasing the profit margin. It is quite simplistic and utterly lacking nuance to think that profit equals theft.

So even though you might be able to build your own house by doing the framing, plumbing, electrical, roofing, concrete, heating and air conditioning, window installation, insulation, cabinetry, sheet rock, texturing, flooring, landscaping, etc, by yourself, you also might be willing to pay each of these specialty trades a bit of profit to do the work because you may not possess the skill, tools, time, knowledge, experience and expertise to perform the tasks. And even when paying them the profit you may still conclude that it is advantageous because they do it so much more efficiently than you could. And when larger companies do this on a larger scale they make larger profits. This is really all the article highlighted, albeit smugly. Well, duh.

Oil is a fungible product and its price is largely determined by the world oil market. However, additional supply can bring down prices just as increased demand can raise prices. The former is acknowledged by leftists when they propose that prices would drop if supply is increased via the U.S. Strategic Petroleum Reserve. The article laments that a certain oil industry leader "opposes selling a small amount of reserve oil from the nearly full U.S. Strategic Petroleum Reserve to lower gas prices, which would provide some relief to drivers." So, apparently, even small increases in supply can create downward movement of prices to the tune of 18 to 72 cents per gallon. But when conservatives expand this idea to "drill baby drill", it is debunked as the cackling of simpletons. To the leftist mind, a "small," one time infusion from the SPR have miraculous effects on price while large infusions from ANWR or the Keystone pipeline wouldn't change a thing.

The article states, "It makes absolutely no sense to remain susceptible to a volatile global oil market. Instead we need to reduce our dependence on oil, which is priced globally and partly set by the OPEC cartel." I think most Americans would agree to that. But many think that bolstering domestic production might be a sensible part of a larger solution. And that doesn't make them a bunch of wackos.

As for speculators, they speculate based on their assessment of the future markets and geopolitical conditions. They assess conditions and speculate on the future – it is a risky business. Sometimes they win and sometimes they lose. Why doesn’t anybody cry for them when they lose?

The futures market isn’t necessarily a bad construct. It can moderate the price and risk of commodities and reduce uncertainty. An airline can reduce risk by locking in fuel prices with futures. Otherwise, ticket prices would jump around in response to the spot market. Would that be better?

And then there is the oil lobby. I bet the authors couldn't muster so much as a yawn when thinking about the amount of money labor unions spend on lobbying and campaign contributions. But who can blame them. It would undermine their demagoguery.