Perfect Storm report now live
As many readers will know, I’ve spent a long time researching a major report on the fundamentals of the economic outlook. This report is now available for download here.
The central theme is that we are at the confluence of no less than four critical economic trends. Whilst each is disturbing enough in itself, the combination of all four of these trends can indeed be described as a “perfect storm”.
First, the Western world is still mired in the fall-out from the ‘credit super-cycle’, a bubble so vast that it makes Dutch tulips, British south sea stock, the 1840s railway boom and “the roaring twenties” look like “little local difficulties”.
Second, globalisation is now being exposed as a disaster which has driven a critical wedge between Western nations’ consumption and their production. Third, policymakers and the public do not even have access to data reliable enough for an accurate appraisal of the predicament.
Most important – given that the economy is an energy dynamic, not a monetary construct – the critical surplus energy component is now in rapid and seemingly-irreversible decline. Policymakers – blinded both by short-termism and by a focus on the monetary token rather than the energy reality – have yet to recognise the real problem.
The critical harbingers of the coming challenge are becoming ever clearer, in rising energy costs and in related pressures on energy-enabled resources as diverse as minerals, food and water. As the dysfunctional relationship between monetary claims and energy capabilities deteriorates, we can expect inflation to be stirred into a mix that is looking increasingly volatile.
Trackbacks & Pingbacks
- Energy and growth: Terrifying Tim from Tullett | Quick-Markets by Maria Freydell
- It's time we stood up to the vicious bullies of the 'caring' liberal-left – Telegraph Blogs
- No debt repayment plan for Sydney’s toll-ways
- The Slippery Grip of Growth - Guest Post by Hawkeye » Golem XIV - Thoughts
- Japan: a gamble too far? | Blog | Public Finance International
- La verità in faccia | controappuntoblog.org
Reblogged this on Orcop: A Connected Community?.
Your perspective on the economy and the debt problem as an energy surplus issue is highly refreshing.
I find your theory that surplus energy is the major underlying factor causing the economic growth of our world for the past 250 years highly convincing.
I am tempted to say that inflation is already under way, though the official figure has not yet shown it (for various reasons). Here in Hong Kong, we have been witnessing an unprecedented increase in food price across the broad. In China, the problem is the same, the food price just refuses to come down despite vigorous government intervention.
Unfortunately, due to the short-sighted nature of our political system and culture, I do not think the issues will ever be addressed. It seems that humanity is marching blindly into oblivion (and the ensuring war).
I do hope people read this and take notice, though I suspect not. Congratulations on a straightforward guide to the energy problems we face. We have paid off our mortgage, do not rely on a car and have a house that uses district heating, very energy efficient, but I am still worried, just not enough people in the world are taking EROEI seriously.
Russ: Thank you. I have had some policymaker interest, but you are very probably right that this issue won’t be faced by the generality of politicians until it’s forced upon them.
The energy issue could be resolved by building Liquid Fluoride Thorium Reactors (LFTRs). They would have an EROEI in the hundreds(?) maybe even thousands. No enrichment, small amounts of equipment and structure. Studies show energy cheaper then from coal.
Well we should be in the atomic age by now, and hand mankind invested wisely we would have plenty of uranium AND thorium fission reactors and fusion reactors would be well on their way.
Instead we are firmly stuck in the hydrocarbon age and whereas the progression from wood to coal to oil/gas meant increasing EROEI, now we are going backwards and betting our future on tar sands (which is bitumen not oil) and shale (which is kerogen not oil). Not only are they energy intensive to extract but they require more energy & hydrocarbons to upgrade them to the oil we know and love. Ironically of course they are all by-products of a large fusion reactor nearly 100 million miles away.
Unfortunately as Tim explained , the 80′s oil glut and Three Mile/Chernobyl massively slowed investment – shale fever and Fukushima are doing the same now. So yes in theory its possible, but by the time the fools that lead us wake up to the problem, I suspect it will be far too late.
SA Kiteman, and Dave S: The general public (forgivably) and most politicians (less forgivably) are confused over nuclear, and fearful about it. Nuclear fission has severe limitations, though it’s needed as a stop-gap. Fusion holds immense promise, but seems to be decades away (even on ITER’s own published timetable). We don’t have that long, in my view, if we are to plan coping strategies for the time between now and fusion.
Why do economists nearly always miss or underestimate the role of technology? The big event is that by 2030 80% of what humans do today will be either done by a robot or an algorithm
Where will the energy come from to power these things? What will humans do if they are redundant?
Possibly because they factor in diminishing returns on technology. Your computer’s speed topped out in the early 2000′s. Your car doesn’t travel any faster or get much better mileage than the one from the 1970s. Frakking is nice, but by allowing us to acquire more oil with a much lower net energy, all we have done is necessitated an expansion of the oil sector while incurring permanently higher prices. Like the red queen, we’re now in a position of having to pump faster and faster simply to remain in one place, energetically.
Whether you have to run faster and faster depends whether you want to stick to liquid hydrocarbons or not.
If you’re willing to think outside the box, there’s an amazing amount of stockpiled energy (not energy flows like wind and solar) just lying around for the right technology. Take “high-level nuclear waste”, aka spent nuclear fuel (SNF). The SNF from light-water reactors has a higher concentration of fissionables than the natural uranium (NU) that’s used in CANDU reactors. We could literally re-burn the “waste” from all the US reactors without mining or enriching a gram of uranium, and then get to work on thorium (see the Enhanced CANDU 6 technical summary for some info on this—disclaimer, I have no relationship to AECL or any nuclear manufacturer, not even owning stock).
There’s no Red Queen problem with uranium or thorium, not for hundreds or thousands of years. Once you hit the $200/lb price that allows ion-exchange mining of uranium from seawater, that’s it. Fast breeders are at least 100 times as fuel-efficient as light-water reactors, so even at $200/lb the per-kWh cost of uranium is down in the noise.
If you built enough CANDUs to replace natural gas in electric generation and a lot of the residential, commercial and industrial uses, the natural gas can be used in lieu of fuels from crude oil. Natural gas is a fraction of the price of crude oil, even in Europe and Japan. Then you can electrify more things to make them effectively nuclear-powered too. That backs away from the Red Queen problem in another way; as NG becomes more expensive as it depletes, nuclear electric power takes more of the market.
This is doable, we just have to overrule the nay-sayers and do it.
Interesting and apparently well-informed comment; thank you. However, does your proposal lead to a facsimile substitute for sweet crude oil (including, of course, the cost per unit of energy)? If not, mankind’s energy predicament will persist. The critical issue here is substituting for oil, rather than finding new sources of energy per se. That said, generating electricity reliably and, ideally, sustainably is hard on the heels of finding a substitute for oil.
Keith Woolcock, Jonathan Tedd, MrColdWaterOfRealityMan and Engineer-Poet: I’m glad that this has come up, as I could only touch on it briefly in the report. Economists do underestimate the role of technology, but there is a critical distinction between the use of energy and the access to it.
Techonology uses energy, it doesn’t create it. Technology has huge potential, but cannot defy the laws of physics.
As an example of the interface between technology and physics, take radar. Why aren’t warships’ radar scanners tiny (and their masts small as well) in an age of microtechnology and miniaturisation? The answer is that you can miniaturise the electronics, but you can’t miniaturise the scanner, because that bit is subject to the laws of physics.
Our energy situation is governed by the laws of thermodynamics. That doesn’t mean we despair, but it does require us to assess the outlook realistically. At the very least, we face a long and difficult transition period.
I’ve addressed nuclear issues in an earlier response, and I think the technology (for thorium, anyway) is decades away. But let’s say I’m wrong, and it works, relatively soon – and we can afford the enormous R&D and capital costs – and get it working at an equivalent oil price (at today’s values) of $200/b.
Fine. For a start, though, that roughly halves EROEI compared with my estimate of today’s global average. Then, if we need to convert electricity to power transport, the EROEI might halve again……
None of this is impossible. In an excellent article footnoted in our report, Andrew Lees places great faith in ITER. But we have to prove the technology, find the investment, manage the period ‘between now and ITER’, and we have to make very major adjustments.
Dear Tim,
I read your report with interest and find much of it compelling; particularly, I agree entirely that inflation (in the UK) has been systematically underreported and that accurate, reliable figures are urgently needed and should form the basis for policy. How to present this to the electorate is another matter. Interest rates should have been much higher than they were perhaps even from the mid-1990s, and I find your damning endictment of the Blair-Brown administration (in your ‘thinking the unthinkable’ report) refreshing and pleasing. I had found their handling of the economy execrable almost from the very outset in 1997; few people agreed or wanted to listen at a time when they were ‘making’ more money each year from the supposed increase in value of their property than by working, i.e. doing something productive and actually creating value.
I would wish to question a couple of points. For one thing, you seem not to consider the role of fire, wind and water power prior to the invention of the heat engine, and hence the vast amounts of energy which were freely available and harnessed by civilisations prior to 1750. What about the role of sailing ships, windmills, water-wheels, or iron/copper/bronze smelting and the concomitant input of free or low-cost (renewable) energy into the development of earlier economies? It is evident that humans have since ancient times not only relied on their own energy output in terms of labour, which requires a constantly replenishing supply of food, but also harnessed others forms of energy. Hence technology has always been instrumental in driving economic development and human civilisations saw many wealth and value-generating leaps forward in terms of technology prior to the steam engine.
The figures you present about population expansion and energy usage since 1750 are pretty uncontroversial. But this is not an Al Gore moment and I think your report provides clues to the real issue: reducing our energy consumption is not about ‘saving the environment’ (as our governments and media like to pretend) but about maintaining our standard of living. To this extent, I agree with you. But is the economy really ‘about’ energy? I don’t think it is, and here’s why:
You can do the same things more efficiently, i.e. you can maintain the same level of economic output in terms of goods and services, using less energy. The innovations which enable us to do more using less energy stem from human ingenuity, which in turn does not depend, at all, on the input of energy. The economy can continue to be the same size, measured — correctly — in monetary terms, while utilising less energy.
And what should we do? Our aim should be not so much to maintain our standard of living (which has been wasteful and dishonest in the ways your reports highlight) but to improve our standard of living in terms of: living within our means, getting reliable statistics, making government more accountable and basing policy on facts, reducing wastefulness in terms of government largesse, reducing the regulatory and tax burdens on business, tackling the electorate’s sense of entitlement, installing some mechanism of selection in (state) schools to promote the brightest and most able, improving energy efficiency across the board, and looking to encourage and foster innovation as a way of enabling us to do new value-creating things much more effectively. It would also be quite nice if Britain started making more things again, but I’ll leave that up to James May to argue.
Thanks for reading, and for your reports!
Bob
I empathise with Bob wanting to find a way ahead which would be acceptable to the majority. Maybe his ideas are the kinds of things that could be advocated and planned for, to counter the perception by the powers-that-be that the future outlined in “The Perfect Storm” is all negative. Maybe this is why “they” deny the possibility of a future in which they subconsciously (or not) see that “everything” they stand for will continue, willy-nilly, to fall to pieces? Maybe this is a future which can be seen to be qualitatively better, when one has taken the mental jump from past ways of seeing things? A jump to a belief in a future which will be fundamentally different. Different in ways we cannot yet begin to understand. A future which we can begin to prepare for by planning the kinds of things which Bob suggests. Maybe this is why so many people don’t get it?
Bob Taylor and Barry Cooper:
Bob, I have to say that reported inflation in the UK seems counter-intuitive. As I said in an earlier reply, I’m evaluating an “essentials only” index. I agree entirely that rates should have been higher (and I also agree 100%, from a pragmatic rather than a partisan viewpoint) that Blair and Brown were a disaster.
Yes, a great deal of energy was used in pre-industrial times. Dutch pre-eminence, in particular, was powered by their mastery of wind and water (a subject on which Kevin Phillips has written brilliantly). But pre-industrial energy volumes are dwarfed by usage in the industrial age.
You are right, too, about efficiency. Since we can waste energy – just turn up the central heating and then open all the windows, so to speak – then it is obvious that we can “un-waste” it as well. This said, I don’t envy anyone the task of telling British parents that their children can get to school on foot or by bus, or of persuading Americans to switch from SUVs to Smart cars!
Your basic points are extremely well-made. But encouraging society to behave more frugally might be very difficult, I fear.
On negativity, Barry, the report was designed as a connected analysis of the challenge. My planned book, “Life after Growth”, will look at possible responses.
On the subject of liquid fuel replacements. Petrol flows at about 40 litres a second when you fill up your tank. That’s about 23 megawatts. You’d need a wind turbine about 300 metres diameter to provide the same power. Liquid hydrocarbons pack an incredible amount of energy, which makes them incredibly convenient. Just a thought.
Tim ,
When you produce your “essentials only” index for tracking price movements , would it be appropriate to include a component for making provision for ones old age ?
e.g. savings needed to generate an index linked annuity of one quarter the average wage at age 68 ?
Comparing the current situation with conventional wisdom circa 2005 , pensions pots need to be bigger because annuity rates are lower , more has to be put away because growth is slower and as already said a bigger pot needs to be established . Yet another perfect storm .
I wish it was less depressing. I am seeking safe harbour by reference to another historical tradition. That is the Malthusian tradition of predicting disaster based on a misinterpretation of the data. The flaw is that I don’t think the data has been misinterpreted….
Ken Charman:
Yes. Malthus got it wrong, because he didn’t know about the laws of thermodynamics. Now that we do, we have considerably better insights.
The standout technologies in terms of EROEI in your report are hydropower – high EROEI but only in suitable places – and nuclear – not such a high EROEI, but infinite supplies. Besides, the range of EROEIs within each category is pretty high and, for instance (as SA Kiteman points out above), some nuclear technologies have very high EROEI potential. So it is perfectly possible for doomsday to be averted, but it will require an effort of political will which seems totally absent at the moment. If it isn’t, the consequences in terms of conflict don’t fear thinking about.
May I congratulate you on another very clear, if thoroughly depressing, piece of research?
Hi Andrew, I think Nick Grealy’s comment below highlights the problem.
As long as our politicians believe that we have inexhaustible supplies of hydrocarbons then they will never take the tough, expensive and now unpopular decisions to invest sufficiently in nuclear. And lets face it recent events in Japan have made it much harder for them.
The problem is they focus on quantity of hydrocarbons and not quality – they are not all equal.
Tim hits the nail on the head by focusing on EROEI – this is the true metric.
Shale fever (not long ago it was tar sands) it going to cause great damage.
Andrew Dykes and Dave S:
Thank you both. Yes, doomsday can be averted (but that does not mean that our societies can just carry on as they are now). It is nothing short of scandalous that there has been no funding for researching, calibrating or measuring EROEI, let alone explaining it to the public.
Think you’re wrong on energy. Peak oil is a theory which has peaked. Shale revolution on both gas and oil show the exact opposite of the dire picture you paint.
Seeing you wrong on something I know intimately doesn’t give me confidence on the other theories. I’m especially suspicious of very long cycle theories, up there with astrology.
For any number of reasons, I’m very optimistic about things: energy, technology and most importantly the fall of the “experts” in places like the City.
Nick,
As you appear to have confessed to being a shale gas expert, I was wondering, does the shale gas Industry pay you any money for PR advice or lobbying services.?
Wow Russ_H, isn’t that a bit below the belt? I would rate this as a very rational, calm, philosophical etc site. The comments threads seem to be unusually productive in the absence of adversarial attitudes.
I agree, although not an expert my understanding from the International Energy Agency’s findings is that we have likely reached (or are close to reaching) peak production of conventional oil, but there are other sources such as extra-heavy oil, tar sands, oil shales, that might be more costly to extract but should still give us a long, long time to find alternative sources of energy. In fact, the US increased their oil production this year, rather than seeing a decline. I also think the West’s dependence on oil has been overstated – slowly, Western countries are getting better and better at diversifying their energy consumption, it is just that it has been a gradual process.
Surely this is all addressed in the report? No one denies that there are vast amounts of things which are or can be turned into fossil fuels, but their production is costly, and their net energy/EROEI is meagre – i.e. not enough to run an economy like ours off.
Peter.
Nick,
I’m sorry, but there can be no meaningful discussion of energy supply that doesn’t include net energy and price over time. If net energy from oil decreases even as absolute supply increases, we haven’t gained anything, but a temporary windfall profit for the oil companies.
Natural gas is a bright spot, certainly, assuming the USGS numbers are real and not political, and Russia is willing and able to sell us natural gas in the future. Used correctly, worldwide reserves of natural gas looks like almost 50 years of energy supply at current rates. More, if we start shifting the transportation networks to electrical power.
Of course, nothing is that simple. Natural gas isn’t that easy to transport, doesn’t lend itself to aircraft fuel, and simply shifts our dependence from one nonrenewable resource to another. Even with natural gas, we’re all done with hydrocarbon energy as a significant player by 2100.
At 55, I”m not likely to be inconvenienced by this. My niece and nephew will be, and their children will be devastated.
Nick Grealy, RussH, E, Peter and MrColdWaterOfRealityMan:
It won’t surprise you that I’ve taken a long, hard look at shales, and it won’t surprise you, either, that I’m sceptical. I’ve yet to see any studies giving strong EROEIs for shales, and news reports comparing America’s shale resources to Saudi’s energy reserves truly are on a par with astronomy.
It’s true that we’re near (or at) peak-point for conventional oil, and equally true that there are vast reserves of non-conventional oils. As Peter says, I addressed this in the report, endeavouring to draw a clear distinction between quantity (of reserves) and quality (of returns on energy invested). .
MrColdWaterOfRealityMan, you are spot on about net energy. Natural gas does look a bright spot, but please remember that conversion (from gas to electricity, from gas to liquids, from electricity to vehicle propulsion, and so on) always exerts a huge drain on useable energy.
Tim,
A great, if somewhat chilling, report
Can I just confirm my understanding of the reason why there will be inflation?
For the various reasons discussed, the money economy has decoupled from the energy economy. The money economy has continued on a course which assumes growth which the gradual slowdown in growth / fall in net energy means cannot be paid. There “should” be a contraction of the money economy (deflation) to bring it more into line with the energy economy. However, rather than face this, governments and central banks have taken the short-falls upon themselves and printed money to cover them.
Consequently, we have too much money chasing too few goods, which means that the value of money is falling/the price of goods is rising (inflation).
We are now in a bind because:
1. With the continual decrease in growth / fall in net energy, the strategy of kicking the can down the road until growth picks up must fail;
2. The debts have been transferred to the governments of the world and so cannot be repudiated without bringing them down.
That is, our strategy can’t succeed, but we must continue with it, because any failure will be catastrophic (Lehmann’s to the nth power).
And, things will get worse (more inflation) because the gap between where the money economy is and where the energy economy is will keep growing (the former expands exponentially, the latter is beginning to/will soon contract, and is definitely slowing.
Peter
Your interpretation seems plausible. It is akin to the view put forward by Frederick Soddy in his 1926 book “Wealth, Virtual Wealth and Debt”:
“Soddy wrote that real wealth was subject to the inescapable entropy law of thermodynamics and would rot, rust, or wear out with age, while money and debt – as accounting devices invented by humans – were subject only to the laws of mathematics.”
http://en.wikipedia.org/wiki/Wealth,_Virtual_Wealth_and_Debt
Economists have been doing their utmost to ignore and dismiss the real physical phenomena of economic activity. This wasn’t apparent in an era of cheap and abundant energy. But, the cracks are now getting wider as cheap energy is dwindling.
Peter and forensicstatistician:
Peter, absolutely right. The issue here is the relationship between money on the one hand, and goods and services on the other. If we think that the real (energy-based) economy of the future is smaller than today, whilst the quantity of money is the same or larger, then more money is chasing fewer goods and services, resulting in higher prices.
Unlike individuals or businesses, governments have a third option in addition to either paying their debts or defaulting. They can devalue past debts – someone owed £100 is paid £100, but in money whose purchasing power has fallen to £50 since the original sum was lent. Higher inflation looks a racing certainty, I believe.
Forensicstatistician, thanks for the link. You highlight economists’ neglect of the ultimately physical nature of the economy, and the cracks are indeed getting wider.
From a future perspective, today’s stand-off between Keynesians and free marketeers is going to look about as relevant as the Medieval debate over how many angels can stand on the point of a pin.
The important ideological distinction is fast becoming that between “old” (money) and “new” (energy and physics) economics.
I’m enjoying your work, but I think you’re right about the debt crisis but wrong about growth. Here’s why: http://brackenworld.blogspot.co.uk/2013/01/growth-is-not-going-to-end.html
From your blog:
“Making things we can drop on our feet with fewer people means those people not hammering metal in Birmingham car-plants can train to be lawyers, or web-designers instead. ”
1.The number of people who have lost their jobs hammering metal who can become Lawyers is not zero but most likely quite close.
2. Do you really think there is a shortage of web designers in developing countries?. Developing countries are currently turning out millions of graduates every year and you can be absolutely certain that some of them are top notch web designers who will work for a third or less than a U.K graduate salary.
Your view is not uncommon, particularly Politics, but I am afraid falls far short of reality,
Jackart and RussH:
Jackart, I’ve read the blog discussion, which is very interesting, and would make a couple of main points. As RussH says, it seems improbable that many of our erstwhile car workers (etc) can become lawyers – and, if by any chance they did, the huge increase in the number of lawyers would drive wages to rock-bottom. Developing countries aren’t lagging us, but in many cases are leading, in training the skills that will be needed in the future – and why would they want ours, when their own are cheaper to employ?
Also, I accept that huge numbers of people around the world aren’t in the heat-engine age. They could become so – but where is the energy supposed to come from, if everyone wielding a plough is given a tractor instead?
Because instead of 100 people, each consuming most of their product, you need one person with a tractor to feed them all. One other makes the energy, another supplys it in some useful form to the person with the tractor (and everyone else) and the rest do something else. It’s called getting richer.
The “car worker can’t retrain” is a trope. This isn’t about retraining but about generational shifts in the Labour market.
We’re getting richer. We simply aren’t as rich as we thought we were. The drop in living standards we’ve had in the last 5 years is merely reality reasserting itself after a long-delayed and much needed recession.
An excellent assessment of where we are at, even if it is pretty worrying. Short-termism together with political focus on nothing but the money markets leaves many countries, particularly those in the West, blinded to far bigger issues of diminishing energy resources and raw materials.
James Growth: Thank you. There’s no denying that it’s worrying, though my single biggest fear is that denial prevails in the corridors of power until it’s too late.
This is the most comprehensive and important document I have seen in a very long time. This time around inflation is not going to boost wages, house prices or the art market. It is going to be entirely about energy and food. Whatever your views on its causes, the world’s climate is going crazy with the droughts and floods creating huge threats to supplies and prices of almost all food products.
superpeasant:
Many thanks. You are spot on about energy and food being the big issues (to which one might add water, and resource conflict, as well). If it’s any comfort, the number of people open to new thinking does seem to be increasing, albeit slowly.
Tim, I do hope you intend to post a response to Jeremy Warner’s ‘critique’ of your report posted in the DT today here: http://tinyurl.com/d5gonh9
I intend to respond separately at Moraymint Chatter.
Tim, I’ve taken the opportunity to comment on Jeremy Warner’s surprisingly disappointing response to your report over at ‘Moraymint Chatter’ …
http://moraymint.wordpress.com/
Moraymint:
Very many thanks. I have indeed responded to Jeremy Warner, and I thought your reposte was excellent – kindred spirits on these issues. I read your comment on JW’s blog, and was further encouraged by the high proportion of those commenting there who took a progressive viewpoint.
Just want to comment on the complaint that the paper does not deal with increased energy efficiency. It does. Increased energy efficiency increases the energy return, but the EROEI ratio is inexorably declining because efficiency is not increasing quickly enough, and we presently have no cheaply extracted energy sources.
Jeremy Warner needs to re- read the report.
It’s my guess that Jeremy Warner needs to read the report; full-stop.
Greg Boles:
Thank you – and please be assured that I’m going to put even more emphasis on efficiency in my book.
As the comment below of S. A. Kiteman indicates, the answer is that we must run, not walk, to an energy economy based on liquid salt thorium reactors.
http://energyfromthorium.com/
S. A. Kiteman’s comment is actually ABOVE, at January 22, 2013, 2:41 am.
C Steven Rorke:
Agreed – but can we do this? Everything I’ve researched tells me that this is decades away (but please correct me if I’m wrong)
Thank you for writing this brilliant report. I am well read on your topics and I can say with some confidence that your report is the best summary of our predicament available anywhere.
I would like to bring your attention to the work of professor Timothy Garrett who has written several papers on the relationship between energy and wealth from a thermodynamics perspective. More specifically Garrett shows that $1 US (1990) = 9.7 mW and he derives some profound conclusions that complement and reinforce your work.
http://www.inscc.utah.edu/~tgarrett/Economics/Economics.html
RobM
Garrett’s demonstration of the link between energy and economic output is also corroborated by Ayres and Warr:
http://www.abundancedebunked.com/downloads/Ayres-TheRoleOfPhysicalWork.pdf
RobM:
Thank you, and I shall make a point of reading Prof. Garrett’s work.
Excellent, well written, thoughtful and sharply pointed report. Congratulations, especially for the ‘plain language’!
I would like to refer those interested to the work of Prof. Susan Krumdieck, Prof. of Engineering from Canterbury Uni, NZ. Susan takes a similar thermodynamic approach to economics and net EROI and has many presentations of youtube and elsewhere.
Savvas.
Thanks, both for your kind remarks and for directing me to Prof. Krumdieck. There is quite a lot of scientific work out there, but most economists seem happily oblivious to it…
Richard (and everyone): first, please accept my apologies for the delay in my replies. I went on holiday for a fortnight immediately after completing the report. I have returned to a rather bulging in-box!
On your inflation point, Richard, I agree with you. For the US, my report explains some of the distortions, and tries to quantify them. For the UK, I’m trialling my own “essentials inflation index”, which shows much the same pattern. Logically, food prices are a key place where declining EROEIs are showing up, because of the high energy inputs involved.
I do hope you try to distinguish between price increases caused by demand exceeding supply and price increases caused by the supply of money growing faster than the supply of real wealth.
We should not be upset when food and energy prices increase due to peak oil. That’s life. We have to change our lifestyles and deal with it.
We should be very upset when prices increase because central banks use bailouts and accounting rule changes to prevent debt defaults from restoring balance between money and real wealth, or print money via QE, or hold interest rates too low.
I rarely see anyone distinguish between these 2 types of “inflation”.
RobM:
Thanks. This is an intriguing area. First, I agree with the Friedmanite concept of inflation being “always and everywhere a monetary phenomenon” (even if I’m not a worshipper of Saint Milt more generally). More money chasing fewer goods and services = higher prices = inflation.
I agree on QE, but let me add a little more here. If money is created but then hoarded, it has only a latent (potential) inflationary risk. This is related to the velocity of money.
If all the money printed by the Weimar Republic had been stuffed under someone’s mattress and not spent, it would not have caused inflation. So inflation is caused by expansion in what I call the “effective money supply” (EMS), i.e. quantity of money multiplied by velocity of money (how actively it is spent). So “EMS” = Q (quantity) x V (velocity).
In any recession – and especially the Great Recession – velocity dropped dramatically, i.e. people and businesses hoarded money instead of spending it. Remember EMS = Q x V. So, when V drops, EMS falls, so governments have used QE to increase Q and counter the slump in V.
Fine. But, if V recovers and Q remains expanded, EMS increases, creating inflation. So, as velocity recovers, effective money supply increases unless QE is reversed. So far, there hasn’t been a much of a recovery in velocity, so inflation hasn’t taken off in response to QE.
But, if or when velocity recovers, will QE be reversed? If not, inflation follows.
“But, if V recovers and Q remains expanded, EMS increases, creating inflation. So, as velocity recovers, effective money supply increases unless QE is reversed. So far, there hasn’t been a much of a recovery in velocity, so inflation hasn’t taken off in response to QE.
But, if or when velocity recovers, will QE be reversed? If not, inflation follows.”
That (reversal of QE) was one of a number of questions which should have been asked of Mark Carney last week. I don’t suppose that it was.
Peter:
Yes (it should have been) and no (to the best of my knowledge, it wasn’t).
I understand and agree with your EMS=Q x V explanation of why inflation is currently subdued, however I think we need to focus on the bigger picture dangers of QE.
1) Increasing Q to compensate for low V is like building another floor on a house of cards. The house becomes both higher and less stable. When some butterfly somewhere flaps its wings causing the house to collapse our injuries are much more serious because the house was higher.
2) Hoarding is a negative synonym for savings, Consuming less than we produce should be encouraged because it makes our system more resilient and accumulates real capital that can be used for investment.
3) Those who argue that central banks will unwind QE when V increases have not thought things through. Your report demonstrates that you understand what is going on and I suggest a little reflection will lead you to conclude that Q will never voluntarily be unwound.
Tim,
I’ve read perfect storm and enjoyed it. You have a good “fireside” style that communicates complex issues well. The attractive visual presentation also made it easy to read.
I would have got a lot more out of the paper if I understood the key concept of EROEI. The wiki article doesn’t help much. A link on your home page or possibly a tutorial which you wrote yourself, would be a great help to the illiterati such as myself.
In particular I’d like to see examples of how EROEI is calculated, with comparisons of a few technologies.
Thankyou again for your insights. I believe that you have identified the key issues and provided a framework for thinking about them. Now if only you could work it up into a Theory of Recovery for Comprehensively Mucked Up Economies…
oldfossil:
Thanks, and point taken, though I did my best to explain EROEI. Actual calculation of EROEI is not undertaken by governments or official bodies, but only by academics.
Essentially, you measure energy output and input and compare them. Output measurement is easy – number of barrels, tonnes etc multiplied by their unit energy content.
The hard bit is measuring energy input – how far up the supply chain do you go? You can measure the energy in, say, a steel platform or a drill pipe, but do you also include the energy input into making the steelworks where the pipe was made? The answer, of course, is yes, and you amortise the steelworks’ energy cost on a unit-of-lifetime-production basis.
Tricky stuff, but vital.
Thank you for the powerful report. Maria Freydell claims that you a rather a negative nelly. I’ve got even you beat in that regard.
I think you left out a very important aspect of the perfect storm that we now face. It is very much an economic problem, although few economists will admit it. I speak of course of AGW.
The current food scarcity has been brought about (largely) because of droughts, and those droughts have been exacerbated or even caused by climate weirding.
Hurricane Sandy followed by the latest winter storm in the eastern US has cost the US $~80 billion. So long as the victims of those storms can borrow money to rebuild, AGW is a boost to GDP. Soon however, the damage from big storms and severe droughts will not be just inconvenient (if one can call the loss of 10 lives in the blizzard an inconvenience).
I would like your take on the future cost of AGW. If you are not familiar with the subject, these sites are very useful.
http://www.ameg.me/index.php/our-blog — you may like that they are Brits
http://www.realclimate.org/
http://www.climatecentral.org/
https://sites.google.com/site/apocalypse4realmethane2012/home
If you are wrong about EROEI crashing the economy within 10 years, then the AMEG people may be correct about AGW ending the civilization within 20 – 30 years.
https://sites.google.com/site/apocalypse4real/home/Abrupt-methane-release-2011
This link may be better for a busy guy … it is a nice summary.
Louis Parsons
Thanks. These links are very helpful.
I believe that the whole debate is changing. In the past, we’ve had Keynesians versus Free Marketeers as the main argument.
In the future, though, the argument will be between (a) traditional money-based economics, and (b) physical and energy economics.
I’m firmly in the latter camp!
OK, since we are basically on the same page relative to the physical and energy economics, and you are already cognizant of the costs of global warming, i have to follow-up.
Given that inflationary pressure (not inflation since high energy prices could keep the economy in the toilet forever) is inevitable and that peak EROEI has been reached, why would your company pay for a report like yours?? Even given that your company works exclusively with banks … .
No disrespect intended, but it seems to me that in the situation we are (or soon will be) in, that the only reasonable investment is in durable goods (spare parts, a subsistence farm, private solar or wind power, etc).
Any equities, bonds, etc. would be held for the very short term or better yet one should hold no equities.
Sorry, I must be missing something?
Louis Parsons:
First, I’m not permitted to give investment advice. I can only say, in very general terms, that I would not quarrel with any implications that you might draw from the widening gap between the physical and the financial economies.
Second, our research aims to give readers an objective insight, even if this happens to be neither comfortable nor convenient. We follow where we are led by the facts as we interpret them.
Great paper and fascinating discussion Dr. Morgan.
Thank you.
Louis Parsons:
Don’t fret too much about AGW. People as diverse as Pres Obama, Dr Richard Muller of BEST, and Dennis Feltgen of NOAA are all on record as saying that there is no link between recent severe weather and global warming.
James Lovelock, originator of the Gaia Theory, believes that drought in the corn belt of the USA is caused by deforestation in the Amazon. It’s the same thing that shrunk the glacier on Kilimanjaro. “When you cut down a tree you cut down a rain cloud.”
Lovelock has twice in the last year recanted the alarmist views he broadcast in his book The Revenge of Gaia, and James Hansen has admitted that climate sensitivity to CO2 is far less than predicted.
There has been no significant warming for a decade now.
Climate alarmists are racking their brains trying to think of genuine costs of mild warming. Sea levels are rising only slowly, droughts and floods are not linked to AGW, the polar bears are perfectly okay, and malaria is not linked to temperature (it was rife in London in 1600 during the Little Ice Age). It’s all hype.
The real problem, which the climate debate obscures, is the sulphur dioxide and nitrous oxide emissions of coal-fired power stations. Natural gas burns with only miniscule emissions of these two pollutants and nuclear, of course, is zero.
James Lovelock is a paid mouthpiece for the oil industry. Lyndon Johnson in 1965 understood the seriousness of AGW and gave a speech about it.
I don’t know what sites you get your (miss) information from, but I recommend again the urls that i posted above, especially the AMEG site.
Tim,
If not already on your list I would like to point to the blog of Tom Murphy/Associate Professor in Physics at he University of California, San Diego called “Do The Math”.
What he points out is that if economic growth is linked to energy consumption, then continued growth at current growth rates becomes physically impossible pretty soon – a couple of centuries. And human habitation would be impossible long before that.
So even if we find a way to get nuclear fusion or thorium reactors or whatever mythically inexhaustible form of energy generation working tomorrow, growth can not continue even at modest rates if energy use for the same economic output is not contained.
This has nothing to do with global warming but just plain irrifutable thermodynamics. In relatively short order we would boil all the water off the planet.
See http://physics.ucsd.edu/do-the-math/2011/07/galactic-scale-energy/
Harry de Jong
Thoroughly interesting report. I find it sits well next to David MacKay’s hot air book, both works cutting through a lot of the bovine excrement that seems to surround the energy debate and getting down to real, measurable, calculable numbers. If there were a way of capturing that particular source of biofuel our problems might all be solved!
Dear Dr. Morgan,
I read your note with interest and I think it makes some good and counter-consensual points as well as offering some new and useful ways to analyse familiar problems. There were a number of points which I either couldn’t understand or which I thought required further demonstration. If you have the time I would be grateful for any answers you can provide.
Pps 31-32
The distinction between globally marketable output and internally consumed services is interesting, but does not take into account a dynamic which – for want of a better word – I would call “seniorage.” Developing – mainly Asian – countries’ central banks maintain the parity of their currencies against the dollar by investing their dollar surpluses in US treasuries. As David Scott, the experienced Asian strategist who introduced me to the term seniorage, has said, every Korean car sold in the US comes with a cheque attached to the windscreen.
The Asian elites do this because they view the US treasury as a safe home for their investments. They are parking their money offshore. As long as these elites feel insecure about keeping their money onshore the recycling of trade surplus into developed market debt, mainly US treasuries, will continue. This is called “seignorage” by some because it is similar to the way in which miners in the dark ages would take the metal they mined to the aristocratic seigneur, who would put his stamp on it to turn it into coins of the realm. The developing markets (like the miners) do all the work, but the value generated by that work is stored in the developed market.
There are currently some tentative signs that this central bank seniorage dynamic may be weakening, in other words that the dollar is losing some of its status as reserve currency in favour of gold or direct investment. But I’ve heard this so often in the past – and it’s always been followed by a period of dollar strength – that I’m a little suspicious. However, the “benefit” of this form of seniorage for developed markets is merely that it makes it cheaper for developed markets to borrow.
By contrast, the seniorage dynamic manifest in the behaviour of the developing market export entrepreneurs is more important for developed world economic activity. Developing countries are very unequal, and this is reflected in how those countries’ export earnings are shared between the elite company owners and their workers. Whether Russian oligarchs in London or Chinese moving to Canada, these elite entrepreneurs want to live in the West. They do it for safety (à la Abramovich) or because they prefer the lifestyle. Which means that a lot of what you call internally consumed services in the developed world are paid for out of developing world export earnings, via the developing market elites who benefit disproportionately from those export earnings. Private school fees are the most obvious example, but it can also be night clubs, casinos, hairdressers, accountants, physiotherapists. The data on these people (the developing world entrepreneurs not the hairdressers) is by definition hard to come by (they don’t want to be noticed, except by attractive girls who don’t normally collect statistics). It’s a cross between remittance income and money laundering. As a result I suspect that its impact on our economies is understated by official statistics.
You also notice the seniorage dynamic in consumption patterns by those elites who remain in the developing world. So the owners and senior managers of the companies who export semi-conductors or fridges to the developed world are the main growth markets for Gucci, Adidas, Martell, Chivas Regal … The developing market workers do the work, and the value of that work is stored in developed market luxury items.
The problem for the developing world is that the barriers to entry for globally marketable output are very low. It is easy to expand capacity. If costs go up too much in China you open a factory in Vietnam, or Bangladesh. And because a large portion of capacity costs are fixed, competing suppliers price at marginal capacity, further lowering prices to the benefit of developed world consumers.
For sure, there has been some convergence between the wages of industrial workers in developing and developed markets. That may not be great for those workers, but it may not be so bad for the developed world overall. Our benefit from seniorage may not be very edifying – we become a kind of playground or theme park for the insalubrious emerging markets sweat shop owners – but it may be enough to keep us in the lifestyles to which we have become accustomed.
It is altogether possible that the trade gap between the developed and developing world is resolved by a deterioration of the terms of trade for the developing world, where the price at which they sell their globally marketable output falls while the price of ipods and cognac as well as Harrow school fees increase by a few percent every year. Which leaves us even more money to buy haircuts from each other …
p. 46
Your concept of “real inflation” from what I understand seems to be inflation without any adjustments. I agree that many of the adjustments are suspect, but what evidence is there that unadjusted inflation is any more of an accurate measure? Is real inflation better at predicting any other economic variables, which could be used as an independent yardstick, than official inflation is?
It would be useful to see how your measure of inflation is reconciled to adjusted inflation in order to better understand why it is a better one.
You list a number of items of expenditure on page 45 whose prices have increased more than official inflation. But you don’t mention the many items whose prices have fallen. Clothes. Furniture (think Ikea). Music. Books (where kindle is leading holders of physical inventory to sell below digital prices). Mass market car prices are either falling or flat, and if flat they give you better mileage for the same money. That’s why environmentalists think petrol taxes should be even higher, to offset the fall in the cost of motoring brought about by cheaper and/or more fuel efficient cars. Think of advertising free on gumtree rather than paying £30 to your local paper. Which you now read for free on the internet. Telephone costs (think skype). Air travel, despite massive fuel price inflation is flat by carrier, but the growth of low cost destinations has pushed the weighted average down.
Incidentally, on air travel, how do you arrive at an overall price measure if Ryanair introduces a flight to Paris Beauvais at half the price of British Airways to Paris CDG? It’s an example where hedonic inflation has to offset the headline 50% price reduction (you’re flying to a worse airport). Which just goes to show there is no such thing as un-adjusted inflation.
Another thing which would be interesting to understand is why the fudging of inflation statistics hasn’t been priced in any way, shape or form by the bond market. If inflation was really 8%, why would the bond market price 10 year US treasuries at 2%? If you look back at years of bond yields, for example in the Barclays Cap gilt study, you find that even in periods long ago when information availability was much poorer than now, bonds anticipated changes in inflation. Even when the data wasn’t there the market sensed what was going on.
Of course you can respond that markets are not completely efficient. You may further say that statistics were less “cooked” in the good old days. And unlike the past a lot of today’s bond purchasers are motivated by politics (the Asian central banks) or legislation (defined benefit funds). Poisoned by dodgy statistics and run by ultra-compliant bureaucrats you could argue that the once mighty bond market has lost all power of reaction and anticipation.
That may be the case but it’s a very ambitious claim which needs a little bit of evidence. Just look at what happened to Greek bonds after their minister of finance said the speculators would lose their shirts. Look at bank corporate bond prices after the shorting ban on their equity. Just look at the share prices of companies where the CEO says there isn’t going to be a profit warning. Of course there are durable inefficiencies in markets, but it would be interesting to understand how, if you are right, they can be so oblivious for so long that such a huge inflation scam did not even cause a ripple in one of the biggest and most liquid markets on earth. After over a century of activism, have the bond vigilantes really all just hung up their spurs and retired?
P 50
Imputations are very dodgy, but the growth in imputations only contributes 2.5% to total (inc imputations) GDP growth from 2006 to 2011.
P 60
The point that money is only a unit of account to measure “physical” output is an interesting one. However the same kws of energy can be expended by Leonardo da Vinci painting the Mona Lisa or Steve Jobs dreaming up the iphone or Dwayne at Liverpool Street shining shoes. Although I’m not a big fan of either the Mona Lisa or the iphone, it remains the case that the physical measure of output does not readily capture quality of output. But the problem with quality is that it is highly subjective. A Zegna suit consumes the same energy to produce and has the same utility in storing heat energy as a Next suit, but most men look (or think they look) better in Zegna. And apart from price, i.e. the ratio of money to things, whose subservience to physical output you assert, what other way do we have to measure the quality of output? It is precisely this notion of quality which I think is required to understand the concept of seniorage.
P 74
How do you calculate these EROEI numbers? The breakeven points reported by big oil companies on their new fields do not seem consistent with such a dramatic deterioration in EROEI. For example Italian company ENI, who are at the forefront of extracting “frontier field” oil in places like West Africa, show discovery and development costs falling from $28.8 in 2006-2008 to $18.8 in 09-11 and $14.5 in 2012-2015 on page 55 of their upstream seminar (http://www.eni.com/en_IT/investor-relation/presentations/2012/presentation-2012-upstream-seminar.shtml).
How can we reconcile these breakeven points with EROEI? Would you say that all costs per boe are Energy Invested, so that at $85 Eni’s EROEI was around 2.8x ($85/28.8) in 06-08, but increases to 6x in 2012-2015? Or do you exclude other costs (patents, steel, licenses, bribes) to arrive at a pure EROEI?
How do you take into account improvements in fuel efficiency? If it costs me 0.4 boe to extract 1 boe, rather than 0.3 before, but if with fuel efficient cars or carbon fibre airplanes I increase the kms I can travel for each boe by 33%, is my EROEI stable?
How do you explain that gas prices have fallen so much in the US since the advent of fracking if shale gas is so inefficient?
Interestingly this academic look at population growth and oil decline maps close to what this article covers. All is very worrying. Sadly our politicians do nothing or at least half articulate a mumbled and misundertsood version.
http://m.youtube.com/watch?feature=related&v=umFnrvcS6AQ
Brilliant stuff Dr Mrogan. I should think the use of a GNP measure, instead of GDP, would make the picture still worse for Western economies?
Tim,
A brilliant report in your usual manner.
This report has echos of Buckminister fuller and the futurists; ignoring the global chicanery surronding fiat currency. Entropy and reliance on sophisticated non robust technologies which demand elabourate physical and intellectual infrastructure to exist pose challenges for our peacefull viability as a species.
Tim, it’s good to see this sort of paper as it fits in perfectly with a course I’m studying in Illinois via a MOOC but based in the UK. It might not fit perfectly into your world view as it is driven by people who believe in global warming but all the studies on EOREI are there and a good set of solutions (though none as un-proven at Thorium, but don’t worry there are plenty of un-proven technologies to shake a stick at).
Anyway the good news is that 30,000 students are learning about this at the moment and a great deal of research is already done. From reading the thread above I suspect the issue you guys might like to discuss is:
“is this a technology problem or a social problem, my view is it’s a social problem so needs a social solution but you may think its an economic problem and needs an economic solution”
https://www.coursera.org/course/sustain
Bilboburgler: Thanks, this is an interesting way to look at it. Ultimately, it’s a social problem – even if technology stems the decline in EROEI, I can’t see it restoring the robust EROEIs of the past – and, even if it did, we would have a long period of adaptation.
I like your “Bilbo” username, by the way, but beware – “Tolkien is hobbit—forming”.