Reaping Rewards from Human Capital

by Don Boudreaux on April 24, 2007

in Prices

Here’s a letter that I sent yesterday to CBS newsman Charles Osgood (Fordham, ’54; Economics) after I listened to this broadcast of The Osgood File:

Dear Mr. Osgood:

Today you insinuated that oil retailers who sell a particular inventory of gasoline at a price higher than they expected to receive when they first purchased that inventory are misbehaving.  You’re mistaken.

You attended Fordham University in the 1950s, investing in yourself in the hopes of earning a good living.  Surely your real income today is much higher than you, when you were in college, expected it to be.  Are you misbehaving by accepting from CBS a salary that is higher than you once anticipated?  Of course not.  But just as it is legitimate for you to reap benefits from increases in the market value of the asset that you invested in (namely, yourself), it is legitimate for oil companies to reap benefits from increases in the market value of whatever assets they invest in.

Sincerely,
Donald J. Boudreaux

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{ 13 comments }

Bill Millan April 24, 2007 at 1:06 pm

I like a stock analogy best. If you own MS, and it goes up in value in China, it goes up world wide. No one expects you to sell a share of stock for less than "Mr Market" is willing to pay.

Yet they expect you to sell oil based on what you paid for it.

SheetWise April 24, 2007 at 1:20 pm

Ask Charles Osgood if he will sell you his house for what he paid for it plus a reasonable profit — let's say the T-Bill rate.

Rational people sell things for what they cost to replace, not what they cost when purchased.

But I've never heard Charles Osgood accused of being a rational man.

Don Lloyd April 24, 2007 at 2:17 pm

Don,

The problem is the difference between economics and accounting. Accounting makes use of historical prices that, for economics, are sunk costs. For economics, and for business attempts at profit maximization (and loss minimization), it is estimates of future replacement costs that are important.

Regards, Don

dave smith April 24, 2007 at 5:03 pm

For gas retailers, replacement cost determines price, not the cost initially paid.

A good example is from insurance. If you built a house 30 years ago, and it burned down, would you expect the insurance company to pay you what you paid for the house, or what it costs to rebuild?

Cade Roux April 24, 2007 at 8:58 pm

Unfortunately, they have it both ways.

When Katrina and Rita hit oil production in the Gulf, retail prices went up immediately in anticipation of higher costs, not later when the higher costs were incurred.

The misbehaving is when they lie about the real reasons.

M. Hodak April 24, 2007 at 9:26 pm

The listeners to The Osgood Report don't have the patience or disposition to hear the "real reasons," which include other people (gasp) maximizing their gains.

Ray G April 24, 2007 at 10:07 pm

It all hinges on the objectivity of what is "fair."

Which works fine as long as I'm the world dictator. But as soon as I let someone else in on the game, it just all goes to pot, so we better stick something not so easily abused.

Python April 24, 2007 at 10:10 pm

Cade,

What retailer is expected to give reasons why prices are the way they are? And even if they did, why would you believe them?

Oil prices went up from the hurricanes for 2 reasons: prices to replace the gas they were selling went up quickly as landfall was more assured (check the futures prices), and the market paid the higher prices.

Actually, only the latter reason needs to be true for prices to change.

I don't believe "they" (whoever that means), came out and lied about reasons. Please cite references because I've read that accusations before but I've never read the actual "lies".

saravanan April 25, 2007 at 2:13 am

Mr.Donald J. Boudreaux, At a general conception you are right but not particularly, when as an buyer individual gets more than what he gives, he is happy to receive it, why should he deny it when something that extra comes free which he is not ordering for. How your expecting a buyer to understand giver point of view. It is unnecessary.

Russell Nelson April 25, 2007 at 2:20 am

This is an example of the old fallacy that price should be related to cost.

Jason April 25, 2007 at 3:19 am

Did anyone see a 30-day price-match guarantee when they filled up? Reverse things: Retail gasoline prices drop rapidly. When you fill up, do you feel guilty for misbehaving? Or, you book a hotel room in advance and the price of the room later triples. Any urge to handover your “extra” profits?

Chris Meisenzahl April 25, 2007 at 7:59 am

You nailed it. ;-)

Mr. Econotarian April 25, 2007 at 12:08 pm

The real lie is that anyone, including the oil companies, actually understand all the "real reasons" for market price levels.

All vendors try to maximize profit, and if a price level results in lower profit due to fewer number sold because of too high a price, or too little revenue because of too low a price, they change their price.

The demand curve cannot ever be 100% predicted a priori.

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