Tuesday 7 June 2011

The energy limit model

I have found the following article which illustrates well the relationship of energy to economic growth.  I have given the article (also available here) verbatim

The energy limit model to economic growth is working beautifully, having come into play prior to the 2008 crisis and now once again forcing another global slowdown.

As we can see, the relief from the 2007-2008 energy spike was short-lived. Whatever economic “recovery” the US was able to cobble together was built on the base of lower energy price levels in 2009. But by 2010, the energy expenditure percentage was right back up above 8.00%. More urgently, preliminary data shows that 2011?s level is back above 9.00%. Given the recovery in coal and oil prices, that’s no surprise. This Spring’s run of terrible economic data, showing the US economy turning back down again, now has an obvious cause.

But it’s not like Americans haven’t tried to reduce their use of the primary energy source–oil. In the chart below, we can see that US consumption of oil, expressed in BTU, has fallen dramatically from the highs of mid-decade. While the US consumption of coal and natural gas—and also wind and solar power—has rebounded more strongly since the 2009 lows, US consumption of oil is still down nearly 11.00% from peak. This aspect of the story contains both good news and bad news, which I will explain below. | see: US Annual Petroleum Consumption in Quadrillion BTU 1995-2010.

While it’s a positive that the US is reducing its demand for oil, it doesn’t necessarily mean we are becoming more efficient. More to the point, the US is no longer able to reduce its overall energy expenditures as an input to its GDP. Post 2008, some of the “gains” enjoyed by lower energy expenditures were simply made possible by a lower GDP. When the US reduces its use of oil, and switches over more to coal and natural gas, its GDP tends to fall. For an economy that structured itself towards oil-dependency the past 70 years, that should be expected. The US therefore can have a higher GDP or a lower GDP, but the Energy Limit model reveals that energy costs are becoming more stubborn on the upside. This is a structural change, that will not revert.
Industrialism in the US, and elsewhere in the OECD, is therefore no longer able to outrun energy costs. This means that in order to maintain production, prices for assets like housing, and input costs such as wages, are now under secular downward pressure. Alternately, we can produce less or measure “production” in non-industrial terms. Either way, this megatrend is simply the reverse of the dynamic which began 250 years ago when humanity moved from wood to coal, and the impact on wages and asset prices was revolutionary. The same model which explains that ascent, now explains our descent.

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