Hercules vs. the Hydra

Originally published in Flourishing November/December 2012

In the June 2012 issue of this newsletter, I asked you to think about the reasons for America’s high unemployment rate.  Then in the next two issues, I wrote that government interference in the form of minimum wage laws have helped raise the unemployment rate among black inner city youth to nearly 40%; and that laws favoring union bosses over non-union workers have in many states forced wages to uneconomic levels. 

The important thing to keep in mind is that for most businesses, wages are their most significant cost.  So, when the price of labor is forced to uneconomic levels by government interference, unemployment and business failures are certain to be the result.  The principle also applies to government mandated, one-size-fits-all, health insurance benefits. All labor costs—however necessary or desirable they may seem—consume capital that might otherwise be deployed in new business investment and in creating new jobs. 

Now, as an exemplar of government overreach in other areas, let’s consider the national 55 miles-per-hour speed limit.  Passed by Congress in 1974 with the intention of reducing fuel consumption, that law—when it was obeyed—increased labor costs for the obvious reason that it required at least twenty percent more time for shippers to deliver the goods.  Because it was virtually unenforceable and widely ignored, the 55 miles-per-hour speed limit was ultimately repealed in 1995.  That alone tells you just how economically silly the law was. 

Then consider that from January 1, 2009 through December 31, 2011, the Code of Federal Regulations has increased by 11,327 pages.  According to the Office of Management and Budget, that brings the total register of federal regulations to 169,301 pages.  That’s a stack of paper 32 feet high.  I’m not sure I can throw a football that high.  Common sense tells me that every one of those pages adds to the cost of doing business.  And, what are the odds that in 169,301 pages of regulations there will be contradictory and ambiguous rules? The probability must be pushing 100%.  If I’m right, a regulatory violation is virtually guaranteed for every business in America.  That makes me suspect that the real purpose of our government is not to catch criminals, but to create them. I have to ask, “How many productive jobs could be created with the dollars it takes to pay and entertain the little Caesars who dream up 11,327 pages of regulations in just three years?”

Taxes come at businesses from virtually every legislative body, and for an unending variety of “needs”.  These costs—with the exception of most sales taxes—are not generally passed along to consumers, as is frequently claimed. It’s a myth; like labor costs, they’re usually paid out of capital.  Virtually every dollar taken out of the private economy by taxes is consumed; either by the government directly—where waste, fraud, and abuse are notoriously rampant—or by those who are the beneficiaries of government largess.  These are all dollars that won’t be voluntarily invested in the expansion of existing businesses, the launching of new enterprises, or the creation of new jobs.  Higher business taxes mean fewer jobs. 

Contrary to another myth, most entrepreneurs and business managers aren’t keen to take unnecessary risks.  In recent years, though, they’ve faced bellicose, irresponsible, and undeserved taunts and vague economic threats; all for the purpose of media attention and/or political expediency.  When the most productive people in America are collectively demonized by politicians and pundits for allegedly being selfish, predatory, unpatriotic, and unnecessary—as if every successful business in America is run by Bernie Madoff or Vito Corleone—is it any great surprise that many companies, especially relatively small businesses with 50 to 500 employees and limited legal budgets, are reluctant to expand and hire new workers?  I think not.

Finally, if this discussion wore you out or made you angry—as it just did me—I’m sorry.  But, just imagine how a business executive or small business owner must feel.  Concerned for the welfare of her employees and their families, responsible to her bankers and her investors, trying desperately to provide quality products and services to her customers—all the while dealing with government’s taxes, rules, mandates, and threats—she  must feel as Hercules felt in his battle with the Hydra.  She is my hero. mh

All of Them

Originally published in Flourishing November/December 2012

As recently as 2005, the annual average price of natural gas in the U.S. was $8.81 per thousand cubic feet (mcf)1; and gas ended that year at the astronomical price of $13.05 per mcf.  In September 2012, the cash price for natural gas was $3.52 per mcf.2  For American job-seekers, this trend could be a game-changer.

And, not that long ago, the bullies in Russia and Iran imagined they were going to corner the world market for natural gas.  Even now, there is an omnipresent threat of politically motivated supply shortages throughout Europe.  That situation may be about to change, too.

The short explanation for these possibilities is that investment in oil and gas exploration and development has exceeded $1.5 trillion in just the last three years3.  Much of that capital outlay has gone into various shale formations throughout the U.S., including the Mississippian Lime that underlies Cowley County.   

The somewhat longer explanation is that with persistent research and field experimentation in the 1980’s and 1990’s, George Phydias Mitchell, the son of an immigrant Greek sheep herder, developed technologies for drilling into shale formations horizontally, and then fracturing the rock so that oil and natural gas could flow into a concrete-sealed, steel-lined well-bore, and rise safely to the surface.4 It was largely as a result of Mitchell’s work that so much capital was attracted to shale development and hydraulic fracturing.  Mitchell sold his company to Devon Energy in Oklahoma City for $3.5 billion in 2002.

In 2011, the U.S. became a net exporter of oil for the first time since 1949.5  Within a few years, we may become the world’s biggest natural gas exporter; but that depends on the approval and completion of liquefied natural gas (LNG) export terminals. 

You might ask yourself, “What about European oil companies?  Can’t they do the same thing?”  Maybe they will, someday, but what makes North American shale formations viable as new sources of energy isn’t just geological or technological.  It’s also philosophical.  American entrepreneurial energy, which in this case is a by-product of private ownership of the means of production, including land, equipment, and mineral rights, is a critically important factor.  Julio Friedman, chief energy technologist at the Lawrence Livermore National Laboratory in California, sums it up nicely, “The mineral rights, the availability of small players to enter the market, the availability of geological data, these things are all part of an entrepreneurial model that is unique to the United States.”6

(Incidentally, the first commercial use of hydraulic fracturing occurred near Hugoton, Kansas in 1947.  The best illustration of the fracturing process that I’ve seen is at http://www.devonenergy.com.)

Incentivized by George Mitchell’s success, American oil companies have recently discovered (or rediscovered) and begun to develop more than twenty different shale formations in North America, each with more than 20 billion barrels of recoverable oil7; and, according to the U.S. Energy Information Agency (EIA), nearly one quadrillion cubic feet of natural gas. Thanks to these discoveries, North America could increase its production of oil and natural gas liquids from 15 million barrels per day (b/d) in 2010 to as much as 27 million b/d by 2022.   That would be an increase of 80% in just twelve years.  The U.S. may become the world’s largest oil exporter as early as 2017.8 

Why is this important?  It’s not because it makes us “energy independent”.  It doesn’t.  But, follow me closely, because the potential is much bigger than that:

In the fantasy world of Keynesian9 economics, it is believed that if the government will create sufficiently large budget deficits (stimulus packages), and if the Federal Reserve will print enough money to buy the government’s bonds to keep interest rates low; then jobs will be created, the economy will grow, and everyone will be fat and happy. 

But, we’ve repeatedly seen what those policies really produce: Corruption and carelessness in banking and on Wall Street; rampant mal-investment and cronyism in government programs; credit crises; and inflation. 

So, what does stimulate job creation and real economic progress?  The answer was provided by French economist Jean-Baptiste Say more than two hundred years ago:

“It is worthwhile to remark that a product is no sooner created than it, from that instant, affords a market for other products to the full extent of its own value. When the producer has put the finishing hand to his product, he is most anxious to sell it immediately, lest its value should diminish in his hands. Nor is he less anxious to dispose of the money he may get for it; for the value of money is also perishable. But the only way of getting rid of money is in the purchase of some product or other. Thus, the mere circumstance of creation of one product immediately opens a vent for other products.” 10

In economic science that’s called Say’s Law.  It’s often misrepresented and derided by those who think that deficit spending and the Federal Reserve printing press can create wealth.  But you, and I, and the Little Red Hen11 know—as Say’s Law suggests—that if one wants to reap a bountiful harvest, one must actually plant and nurture a fertile seed.  And, that is precisely what America’s oil industry entrepreneurs have done—in spades.  Thanks to their tireless efforts and their colossal investments, we’re seeing lower energy prices, a rebound in manufacturing, a cleaner environment, and thousands of good new jobs.   

Consider, for example, that companies as diverse as GE and Cummins are now partnering with smaller companies to develop products for the emerging natural gas transportation market.  And, why wouldn’t they?  Natural gas is now $1.50 to 2.00 per gallon cheaper than gasoline or diesel.  Natural gas refueling stations are springing up all across the country, and as many as one thousand commercial truck fleets are already sporting natural gas engines.12  (Paul Abram of Abram Ready Mix in Beloit, my friend and former employer, just sent me an article from Heavy Duty Trucking magazine, which shows Ferrara Brothers Ready Mix of New York City, using trucks powered by Cummins’ compressed natural gas (CNG) engines to deliver concrete to the World Trade Center.)

Then, there is the matter of electricity generation.  In previous issues of this newsletter, I’ve touched on the  lousy economics of solar and wind power, but natural gas is also making changes in the electric utility industry by driving down the demand for coal.  In 2004, natural gas provided for less than 18% of all electricity generation in the United States, while coal accounted for nearly 50%.  In 2012, natural gas will provide for more than 30%, and coal will provide for less than 38%.13   I wouldn’t write coal off completely, though. It’s still a plentiful, inexpensive, and with the latest technology, clean source of energy. 

Natural gas is not just a fuel, it’s also a key ingredient in many chemical manufacturing operations.  Chevron Phillips Chemical Company (a joint venture of Chevron and Phillips Petroleum) is planning to spend $5 billion to build a new, state of the art ethylene plant in Baytown, Texas, along with two polyethylene plants and related infrastructure.  According to the company’s executive vice-president Mark Lasher, the chemical industry is likely to spend up to $30 billion on such plants in the next few years.14  Confirming this, Dow Chemical has announced that it will build a new ethylene plant in Freeport, Texas, spending more than $4 billion and creating 2,000 new jobs.15.  Most of the remaining $20 billion or so will likely come from Sasol Limited, Formosa Plastics Corporation, and Royal Dutch Shell. I expect many more such announcements.

According to a report by the global research combine IHS-CERA, posted on the Exxon/Mobil website16, there were 37,000 new jobs created directly by the oil and gas industry in 2011.  That activity drove the creation of another 111,000 new jobs in industries that serve the energy producers.   But that only  begins to tell the story.  The technological transformation of the energy industry, led by the horizontal drilling and hydraulic fracturing innovators, couldn’t have been predicted, or even believed, as recently as ten years ago.  Yet today, the “unconventional” gas and oil industry employs, directly and indirectly, more than 1,300,000 Americans.  The average starting salary for petroleum engineers, for whom demand is rising, is now $79,000 per year.

As a further demonstration of Say’s Law, it might be interesting to discover how many jobs are ultimately made possible by the production of oil and natural gas.  With a moment’s reflection, you’ll probably realize that you don’t need a calculator or a degree in labor economics.  The answer is: All of them.  That is the reality of today; and it’s our assurance—if we will let it be—of a prosperous tomorrow.  mh

**************

Notes:

1.  U.S. Energy Information Agency (EIA).

2.  Ibid., EIA

3.  Citi/GPS, Energy 2020: North America, the New Middle East? 2012, p 3.

4.  http://newsok.com (Mitchell, who was born in 1919 in Galveston, graduated first in his class from TexasA&M.University.  He served in the U.S. Army during WWII, attaining the rank of Captain.)

5.  Oil: The Next Revolution, Leonardo Maguerri, Belfer Center, Harvard Kennedy School, 2012, p 20.

6.  CTIT/GPS, Energy 2020.

7.  Ibid., Maguerri

8.  Ibid., Citi/GPS

9.  Refers to Lord John Maynard Keynes, whose 1936 book, The General Theory of Employment, Interest, and Money,  has corrupted the science of economics for three generations.

10.  J. B. Say, A Treatise on Political Economy, 1803; available in PDF at http://www.econlib.org/

11.  The Little Red Hen is a children’s story, popularized in the 1940’s and 1950’s, emphasizing personal initiative and a work ethic. Truly a classic.

12.  http://www.marketwire.com

13.  http://www.bloomberg.com

14.  http://www.downstream.com

15.  Ibid.

16.  http://www.exxonperspectives.com

Kansas–An Appreciation

Originally published in Flourishing September/October 2012

Several months ago, I was reconnected with an old friend and classmate (Washington Elementary, Hays; and she also happens to be a former newspaper editor).   I sent her a copy of one of my favorite books.  She sent back a note to the effect that the book had been quite informative, and she returned my act of friendship by sending me one of her own favorite books, The Web of Life, by Richard Louv.

Richard was born in Brooklyn in 1949 and now lives in California, but he is a graduate of the William Allen White School of Journalism at the University of Kansas.  So, quite naturally, The Web of Life draws significantly on Richard’s experiences of the Sunflower State.  Here is a sampler from one of the book’s many beautiful essays, Flyover Land:

…from Salina to Arkansas City, I can see giant rolls of hay that look like mammoth shredded wheat, and the long hedgerows of Osage Orange trees planted as windbreaks during the Depression…

…Cream-white waves of tall grass.  The wind coming across, always the wind.

…The land is soothing and nurturing and layered with mystery.

…Now and then a half-hearted dust-devil skips across the fields, and nodding pump jacks suck oil from beneath the land, their heads and necks moving up and down like prehistoric birds.

…In most places of Kansas, the land is like some long symphony with repeating themes and subtle notes, but never monotony.

…square-box white farmhouses stand up large with lonely dignity, and of course the windmills and silos are there…

…So much of this land was lifted up during the Dust Bowl years and flung into the air and so many of the people landed in California.

…Now, the fields are ripe, rich in color—the rust of sorghum, the gold of cut wheat, the deep black of plowed earth, and all the lines of trees in different shades of green; some turned by sudden shadows from moving clouds tar black against yellow grass, cedars and hedgerows leaning like herds of something forgotten into a wind that has stopped.

…More trees here than a century ago.  Now past the Smoky [Hill] River…

…At night this land turns endless and bottomless.  On some nights there is nothing but stars.  On other nights frighteningly violent storms and hours of calm just as frightening, and then sometimes God’s fingers or perhaps the devil’s claws reach down, and twisting, scrape across this long, sinuous back with a roar that one can only describe if one has heard it.

…The flyover land is breathing land.

This is where East becomes West.  This is where the sensuous hills of Kentucky and Illinois and Missouri meet the hard, spare rockiness and dryness of the masculine West.  These are the plains of fertility.  This is not the heartland, really.  It is the seedland. 

So, why am I sharing this with you?

Because, we are in business to help families flourish—literally.  And, as my friend said she learned from her experience as the editor of a small town Kansas newspaper, community and family life are the sometimes fragile networks that help us form our values and connect those values to our daily lives.  The Web of Life is an eloquent reminder that we are at our best when we savor and celebrate the things that connect us to our families, our friends, and our neighbors.  (Happy Birthday, Andrew!) mh

An Autumn Weekend in New York

Originally published in Flourishing September/October 2012 

At 7:00 AM on October 4, 2012, Linda and I boarded a United Airlines flight bound from Wichita to Chicago, where we changed planes and proceeded to New York City.  For the third time in four years, I was attending Nick Murray’s Behavioral Strategies Conference. Nick has long been recognized as our industry’s foremost writer, speaker, and mentor; and I’m proud to say that we’ve become friends.

While I was attending the conference on Friday, Linda was busy planning our agenda for Saturday.  However, she also found time to attend “Joan’s Coffee Hour”, where she visited with Nick’s wife, their daughters, and the spouses of other conference attendees.  She came back to our room with Joan’s autograph, of which she is immensely proud.

If you’ve been in my office, you may have seen a framed print of Frank Lloyd Wright’s original conceptual drawing of the GuggenheimMuseum.  It’s in the corner behind the glass in my (open) office door. I’ve been a fan of Wright’s work since my mother first introduced it to me, perhaps fifty years ago; she wanted me to become an architect.  Linda bought that print for me over twenty years ago as a Christmas present, and as a way to celebrate my transition from the construction industry to the retail financial services business.  Typically then, Linda put visiting the Guggenheim at the top of our to-do list for Saturday.

As many of you know, Linda is afflicted with rheumatoid arthritis, which can make walking difficult for her – and uncomfortable.  So, you know it was an act of love that she insisted on hiking the entire 2.4 miles from our hotel at 49th Street and Lexington Avenue to the Guggenheim on Fifth Avenue at 89th Street – and back again. 

Once at the Guggenheim, we took the elevator to the 6th Level, and then descended the spiral ramp that allows the museum visitor a leisurely and continuous viewing of the art on display.  As it happened, the Guggenheim is currently featuring an astounding exhibition called “Picasso in Black and White”.  It’s fair to say that I’m not a fan of Picasso’s work, but being in the presence of such famous pieces – and in Wright’s final act of creation, the building itself – was both inspiring and a bit intimidating.  Lucky for me, in one of the museum alcoves, we had the opportunity to view works of art—like Wright’s Guggenheim—that I could understand and enjoy.  In particular, I loved a large painting by Camille Pissarro entitled The Hermitage at Pontiose (1867), and In the Vanilla Grove, Man and Horse (1891), by Paul Gaugin. Both made me feel at home.

But, what did I learn at the conference?  I’d like to answer that question forthrightly, but I long ago discovered that learning from Nick is—like art appreciation—mostly a right brain function. A month from now—after my intuitive mind and my deductive mind have had time to talk to each other—some of what I learned may appear with some clarity in this newsletter.  It’s more likely, though, that it will just show up without warning in something that I say or do to help a client.  mh

The Unemployment Question (Part Two)

Originally published in Flourishing September/October 2012

Last month I discussed the effects of minimum wage laws, particularly on young and unskilled workers.  I showed that by mandating a cost of labor in excess of that labor’s value to employers, the government causes high levels of unemployment among these groups of workers.

Similarly, by mandating that companies recognize and negotiate with unions, government often causes even highly-skilled workers’ wages and benefits to rise to uneconomic levels.  Since companies have budgets with limited income and fixed costs—like land, machinery, and buildings—higher wages and benefits mean that fewer workers can be employed.  Of course, companies can try to raise their prices to cover their higher labor costs, but I invite you to ask any GM or Chrysler shareholder how that worked out. 

In 2007, just before the housing and credit meltdown, The Center for Automotive Research1 estimated that Detroit’s automakers were paying $6365 per hour for production labor and benefits, while Toyota was paying 4750 in its American auto plants.

At about the same time, CNBC reported2 that U.S. automakers had a future burden for union-negotiated healthcare benefits of $1,500 per car, which Toyota and other non-union auto manufacturers did not have.  Indeed, GM was referred to as a “benefits” company, not as an auto manufacturer.  In 2007, GM lost $38.7 billion – a loss of $4,055 per car sold. In that same year, Toyota earned a profit of $17.1 billion – a profit of $1,874 per car sold.  

In 2008, the U.S. auto industry lost more than 400,000 jobs.  Most have not returned. 

When government chooses sides in the business arena—sooner or later—both sides will lose.  mh

(The Unemployment Question will conclude in the next issue.)

+++++++++++++

1.  Katie Merx, “UAW Contract: Nuts and Bolts,” Free Press, September 29, 2007.

2.  Phil LeBeau, “GM and UAW Seal Deal: Was the Strike Worth It?” CNBC, September 26, 2007.

Ideas Having Sex–Redux

Originally published in Flourishing September/October 2012 

Some time ago (April 2011), in an article entitled Ideas Having Sex, I shared with you one of my favorite books, The Rational Optimist1, by Matt Ridley.  In contrast to the financial media, who have a vested interest in promoting crises and conflicts, Ridley’s fundamental message is that optimism is the rational approach to life.

According to Ridley, who is a Scottish geneticist, human beings long ago learned the benefits of voluntary and mutually beneficial exchange.  (You may have noticed that those who have not learned the art of such exchange are most often found to be criminals or demagogues.)  The art of voluntary and mutually beneficial exchange, especially here in America, has become part of our cultural DNA.  We call it “win-win”, and it explains why our unique experiment in economic freedom created a cultural and economic expansion that snowballed into an empire of benevolence and wealth.

Tom Gardner, co-founder of the Motley Fool newsletter companies, recently endorsed2 Matt Ridley’s theme, “Exchange is to cultural evolution as sex is to biological evolution.”  And the extension, “Most powerful of all is the exchange of ideas.”  Paraphrasing Gardner:  …while the exchange of hard goods is at any given moment a zero sum enterprise, an idea can be shared to an infinite degree – hundreds or even billions of people can benefit from a single idea.   Moreover, ideas may combine with a virtually infinite number of other ideas, thus creating exponentially expanding human benefits; as, indeed, they already have.

Gardner points out that in today’s networked world, the benefits of voluntary exchange of ideas include greater literacy, greater transparency, more shared best practices, and deeper empathy and mutual awareness than ever before in human history.  Our lives are richer because of the Internet and wireless communication technology. 

I recently thought to download from Amazon’s Cloud Player to my iPod a song I’ve always enjoyed and taken inspiration from, Lacy J. Dalton’s hit single, The Boys of 16th Avenue3.  It was written by Thom Schuyler in 1983, and recorded by Dalton in the same year.  It celebrates the “million dollar spirit” of aspiring young musicians, who give up everything else to follow their dreams to Nashville.  I hadn’t heard it for a long while, but when I played the song a few days ago, I was struck by this line:

There’s cowboys, drunks, and Christians,
Mostly white and black and blue.
They’ve all dialed the phone collect to home
From 16th Avenue.

Forget for a moment the remarkable fact that my iPod (for which I paid less than a hundred dollars) has more computing power than all the Apple computers on the planet in 1983; what struck me about those lyrics was—though I’ve placed more than a few collect calls in my time—that I can’t remember the last time I saw a telephone booth.  And, who among us does not now carry a smart phone they can’t live without? 

I have no opinion on the future of smart phones; the iPod, or of Apple, the company that makes and sells it; or of Amazon, the ubiquitous, world-wide Internet shopping mall.  But I’m very sure that the future of the world economy is not in the hands of criminals or demagogues.  These people do exist—indeed, they swarm—and they are an impediment to progress.  But, the future is, as it has always been, in the hands of the creators—people who today may have, like the boys of 16th Avenue in 1983 or the cofounder4 of Apple in 1976—little else than a million dollar spirit, one good idea, and a burning desire to manifest their talents in the marketplace of voluntary exchange.  Today, ideas are dispersed, democratized, and mated with other ideas at light speed; and many are then concretized in the lives of millions of people through investors like you and me, and the managers and marketers and laborers of the world’s great companies.  The iPod is just one example. 

The proliferation and mating of ideas has been expanding human horizons for nearly one hundred thousand years; and that omnipresent, long-term trend is not seriously threatened by today’s faux-populist politicians or by the vainglorious sideshow we call “network news”.  Still, I can appreciate that despite decades, centuries, and millennia of accelerating improvement in the human condition, our contemporary politicians and pundits have the volume and circuitry to influence our thinking in ways we may not fully realize.  For example, during every market setback, I hear people echoing CNBC and its ilk with questions like,  “But, what if the economy/market doesn’t recover?”  I know that some advisors, in response to such queries, are telling people to turn off the television, and that’s probably fine advice, as far as it goes.  But, I still think it wouldn’t do any harm, and it might do much good, for investors to read—for calming, historical perspective—books like The Rational Optimist, by Matt Ridley.  For another setback is surely coming, though we cannot know when or from what level. mh

1.  http://www.amazon.com/The-Rational-Optimist-Prosperity-Evolves/dp/006145205X

2.  http://newsletters.fool.com/   (subscription required)

3.  http://en.wikipedia.org/wiki/Thom_Schuyler

4.  Steve Jobs, by Walter Isaacson, Simon and Shuster, October 24, 2011.