#214. Needed – a new model tin-opener

THE LIMITS OF TRANSITION

Logically considered, 2021 ought to have been the place where old assumptions go to die.

In many ways, it is.

Specifically, orthodox, money-based economic interpretation is being debunked. Current events are demonstrating that the economy isn’t, after all, entirely or even primarily a financial system. The proposition that demand produces supply is being discredited, because no amount of stimulus can deliver low-ECoE energy where that energy does not exist. In short, we’re discovering that the economy is an energy system.

Since the start of the Industrial Age, that has meant, overwhelmingly, a fossil fuel energy system. We’re in the process of encountering two constraints to the continuity of an economy built on oil, gas and coal.

The well-known constraint is that we have reached (or passed) the limits to environmental tolerance of our use of fossil fuels.

The second, barely-recognized-at-all constraint is that fossil fuels’ ECoEs – their Energy Costs of Energy – are rising exponentially, in a process that would destroy the fossil-dependent economy even if we were so unwise as to ignore the environmental issue. 

The consensus answer to this situation is that we must endeavour to transition from reliance on fossil fuels to an economy based on alternative sources of energy.

This, undoubtedly, is a realistic conclusion.

The snag, though, is that the consensus view combines the logical conclusion of transition with the unfounded assumption of an economy which, far from contracting, continues to expand.

A balanced assessment of the issues indicates, rather, that a sustainable economy will also be a smaller one.  

An appraisal of outcomes

At the level of theory, there’s nothing much wrong with the idea of outdated notions undergoing a mass extinction event.

Our understanding, and our ability to plan ahead, can only benefit from the discovery that the economy isn’t, after all, ‘a wholly monetary system, capable of infinite growth’, but is in fact an energy system, limited by the laws of physics as they apply to the Earth’s energy resources.

It is, after all, hard to plan effectively when your base predicates are false.  

In practical terms, though, we’re faced with something that moves beyond an inconvenient truth into what is for most people an almost inconceivable one. This is the proposition that there may be no wholly sufficient replacement for the fossil fuel energy on which the economy of today is based.

Put another way, the desirable – indeed, imperative – de-carbonization of the economy is likely to involve shrinking it as well.  

If you held any leadership position, you’d have to think long and hard before going public on any of this. Your wiser course of action might be to talk up the positives in the current situation whilst preparing, with the greatest urgency, for the new one.

Essentially, this comes down to a probability assessment of two possible outcomes.

The first is that alternative energy sources – primarily wind and solar power, but perhaps with a role for nuclear as well – can provide a complete and timely replacement for fossil fuels.

The second is that no such complete replacement exists, and that we have to plan for a smaller economy.

The latter needn’t be a disaster, so long as we prepare for it, and travel to this destination gradually.

But we have far too many growth-predicated systems and assumptions for any kind of sudden recognition to be manageable.

Needed – a new tin-opener        

A story is told about three experts shipwrecked on a desert island. Their situation seems far from desperate. The island is well-found in fire-wood and fresh water. Washed ashore with them are thousands of tins of baked beans, offering nourishing if monotonous fare. They even have saucepans, plates and cutlery.

The one thing lacking is a tin-opener.

The chemist proposes putting the tins in water which, in due course, will corrode them. Unfortunately, they would starve long before this could happen.

The physicist suggests heating the tins to a temperature at which pressure causes them to explode. This, though, would splatter beans across the island, as well as subjecting the castaways to lethal shrapnel.

Appealed to, the economist has a simple solution – assume a tin-opener. 

This encapsulates the consensus line as the long era of rising prosperity created by fossil fuels draws to a close. If we assume a replacement for fossil fuels, and further assume perpetual economic growth, our problems are solved.

A hierarchy of challenges

Though an expansion of nuclear energy might help at the margins, the assumed replacement for fossil fuels is electricity from renewable energy sources (REs), principally from wind and solar power.

There are two little snags with this assumption.

The first is that replacing FF with RE energy might not be possible for at least 10-20 years. A great deal – little of it good – can happen over that length of time.

The second is that it might very well not be possible at all.

There’s a hierarchy of challenges to RE transition.

Used as inputs when the wind is blowing and when the sun is shining, wind and solar power can provide electricity at costs which are more or less competitive with traditional methods of generation. The main potential snag is the cost of replacing wind turbines and solar panels when they reach the end of their productive lives, which are somewhere between fifteen and twenty-five years.

In other words, is this transition sustainable, to the point where RE capacity can be maintained and replaced without assistance from fossil fuels?  

The second stage in the hierarchy of challenges is scale. In 2020, and despite the effects of covid-induced reductions in activity, fossil fuels supplied energy totalling 11.2 billion tonnes of oil equivalent (toe), or 82% of the total. Between them, wind and solar power provided only 0.57 bn toe (4.2%). The scaling challenge is largely a matter of accessing vast amounts of raw materials whose supply is – for the foreseeable future – dependent on the use of energy from fossil fuels.

The third challenge in the hierarchy is intermittency. If REs are to move from minor energy contributors to baseload suppliers, vast electricity storage is required. This would make enormous further demands on materials, some of which may not even exist, and would, again, make huge calls on the use of fossil fuels for their supply. Accessing many of these resources would have extremely adverse environmental and ecological consequences.

Even if all of this could be overcome, the cost of storing electricity is roughly 200x that of storing oil, gas or coal. This is why, taking America as an example, whilst fossil fuel inventories are measured in weeks and months, electrical backup is measured in minutes.

This cost differential may narrow, but the physics of storage processes limit quite how far the cost of electricity storage may fall. What this also means is that, to fill storage during periods when the wind is blowing and the sun is shining, generating capacity would need to be far larger – perhaps 60% greater – than the continuity-based equivalent. Costly redundancy, no less than storage capacity, would need to be built in to a system based on intermittent energy.

Next in the hierarchy comes the challenge of density. Oil, in particular, offers a very high ratio of power to weight. This density, which provides easy portability, is what makes today’s cars, commercial vehicles and aeroplanes practical. It’s at least arguable that an insistence on replacing these with battery-powered alternatives raises the power storage problem to ludicrous heights.

The fifth and – for now – final challenge in the hierarchy is adaptability. We might, for instance, find that, whilst grid-scale storage is feasible, self-contained storage is not, making trains and trams viable, but turning mass EV use into a pipe-dream.

Likewise, we might have enough continuous power to run necessary systems, but not to support much of what we now think of as “technology”. It might turn out that essential goods and services can be supported, but that many non-essentials (discretionaries) can’t.

The permutations are endless – but the potential supply of non-fossil energy, most emphatically, is not. 

As well as assuming the tin-openers of sustainability, scale, continuity and density, then, the idea of seamless and complete transition assumes some resources that cannot be provided, and others that, though they can, would make enormous demands on legacy energy from fossil fuels. All and more of this legacy energy is already accounted for by the continuity requirements of consumption and capital asset replacement. 

A new tin-opener is needed – but technology can’t supply it

Let’s be quite clear about the necessity for transition. As mentioned earlier, continued reliance on fossil fuel energy is a non-starter, for two reasons, both of which are so important that they merit reiteration.

First, there is the undoubted constraint of environmental tolerance.

Second, there’s the equally real issue of the rising ECoEs of oil, gas and coal. As well as wrecking the environment, continued dependency on fossil fuels would – assuredly, and rapidly – wreck the economy. The latter process has already started to happen, albeit thinly disguised, so far, behind increasingly desperate and harmful exercises in financial gimmickry.   

Prophets of seamless transition take refuge in the supposed alchemy of technology – much of it simply extrapolated – whilst ignoring the obvious (though inconvenient) fact that the scope for technological progress is bounded by the limits of physics.

Where wind turbines are concerned, Betz’ law states that wind turbines cannot capture more than 59.3% of the kinetic energy of wind. Current best practice has already reached about 45%, leaving no scope for a quantum (rather than a modest and gradual) increase in efficiency.

Similarly, the Shockley-Queisser limit determines the maximum theoretical efficiency of photovoltaic panels. This limit is 33.7%, not very far ahead of current best practice of about 26%. Again, progress can be made, but no quantum leap in efficiency is possible. Both of these issues are discussed in an instructive article published by the Manhattan Institute, which also explains limitations to the potential capability of batteries.

Not content with assuming resources (and their energy input requirements) which do not exist, then, cornucopian transition theory also requires us to assume that technology facilitates the abolition of the laws of physics.

Nil desperandum

It was a famous dictum of Sherlock Holmes that “[w]hen you have eliminated the impossible, whatever remains, however improbable, must be the truth”.

Objective assessment of the situation suggests that both (a) fossil fuels continuity, and (b) a cornucopian complete replacement of fossil fuels are impossible. What remains is the seemingly-improbable – and in many quarters the almost unthinkable – reality of a smaller economy.

To recap, we’ve noted the imperative of transition – an imperative imposed by environmental considerations and by ECoE trends – but we’ve also noted that there are limits to what transition is capable of delivering.

What this means is that we have to bend every effort to the achievement of transition, but that we must also accept that transition cannot maintain the economy at its current levels of size and complexity.

The energy-based SEEDS economic model produces case-studies which scope the issues involved. 

The central-case assumptions used by the SEEDS economic model project total energy supply 6% higher in 2040 than it was in 2020. Within this total, fossil fuel supply is projected to be lower by 3%, the combined contributions of nuclear and hydro-electric power are expected to increase by 21%, and a 2.4-fold surge in supply from wind and solar generation is anticipated. On this basis, energy supply per person would fall by 10%.

Over the same period, though, ECoEs are expected to rise from 9.0% to 18.1%, meaning that surplus (ex-ECoE) energy availability per capita would slump by 19%. This is reflected in a corresponding decrease in prosperity per person.

Putting practicalities on one side for the purposes of theoretical analysis, the complete replacement of fossil fuels with wind and solar power might deliver an overall 2040 ECoE of, at best, 15%. On this basis, surplus energy supply per person would still decline, but prosperity would fall by only 16%, rather than by the 19% projected under the central case.

Two important conclusions emerge from this assessment.

The first is that accelerated investment in RE capacity can blunt the rate at which prosperity declines.

This underscores the case for transitioning to REs at the fastest practicable rate.

The second is that, however we tackle the energy crisis, prosperity will be lower in 2040 than it is now.

This means that we need to temper commitment to transition with a realistic appraisal of what transition can be expected to accomplish.    

This changes the central question from ‘must we live with less?’ – about which there is no choice – to ‘how can we live with less?’

Re-design – not re-set

The much-vaunted concept of an economic ‘re-set’ is predicated on the idea that an economy which continues to grow can be made both more equitable and more efficient, as well as being made sustainable.

Unfortunately, the essential predicate of growth is fallacious, in that we cannot reasonably expect – still less assume – continuity of growth in a post-fossil economy.

This implies that what we need isn’t re-set, but re-design.

At a later stage we may revisit the taxonomy of de-growth but, for now, we can note that a contracting economy implies a process of de-complexification. The range of products and services available will narrow, and methods of supply will be simplified as producers try to work around the adverse effects of falling utilization rates and the loss of critical mass. The simplification process will involve substantial de-layering.   

The brunt of contraction in the private sector will be borne by sectors providing discretionary (non-essential) goods and services. Over time, we should assume that capital will be diverted towards sectors which supply necessities.

There are likely, also, to be sectors which expand, even as others are contracting. There may be a significant role to be played by venture capital and sovereign wealth funds in identifying and promoting activities whose potential has yet to be recognized by markets which remain fixated on “growth”.

Government activity, too, can be expected to contract, though less rapidly than the private sector. A trend already set in motion by the imperative of transition points towards reduced resources available to government, and a corresponding need to refocus questions of priority.

The critical question for policymakers now might be that of how we ensure that the essentials are available and affordable for everyone.

As so often, though, individuals will be called upon to accomplish much of the change if we’re to move to a system that, whilst being cleaner and more sustainable, is also likely to be smaller than that of today.

At all levels – households, government, business and finance – the challenge will be that of transitioning to an economy that, whilst smaller, need not necessarily be worse than the one built on oil, gas and coal.    

 

#213. A moment of truth

THE ARRIVAL OF ECONOMIC CONSTRAINT

Some of us have long understood that the economy is an energy system, and is not – as orthodox economics insists – wholly a financial one.

We’ve identified credit and monetary adventurism as futile efforts to deny this reality, efforts which, whilst not ‘fixing’ low and reversing “growth”, have exacerbated financial risk by driving a wedge between the ‘real’ economy of goods and services and the ‘financial’ economy of money and credit.

We’ve highlighted relentless rises in ECoEs (the Energy Costs of Energy) as the process by which expansion in economic output peters out, and prior growth in prosperity goes into reverse.

Recent sharp rises in the price of energy might look like just one aspect of the current worsening economic predicament, a predicament which is ‘a crisis in all but name’. Other adverse factors can be cited, but all of them, ultimately, are traceable to a fading energy dynamic.

We’ve built a large, complex and increasingly inter-dependent economy on the predicate that money can drive ‘growth in perpetuity’.

We’re now in the process of discovering that this predicate is false.

From here on, prosperity will continue to deteriorate, whilst rises in the real cost of essentials will leverage this decline into a more rapid erosion of discretionary prosperity.

The good news is that these processes can be understood and modelled, projected and managed.

The bad is that, so far at least, this reality is not being grasped.    

It has to be said that no ideology is more rooted than ‘neoliberalism’ in the doctrine that the economy is a financial system, with limitless capability for growth.

This is why those economies most wedded to the ultra-liberal ‘super-fallacy’ are being hardest hit by the harsh reality that neither ‘demand’ nor ‘incentive’ can create low-cost resources.       

A new model crisis

Despite the most lacklustre of recoveries from the pandemic-induced downturn, the global economy has collided with the reality of energy constraint.

Natural gas, in particular, is in short supply, but the effects of supply shortages are rippling, too, across the markets in electricity, oil and coal. Almost unthinkably, China – widely regarded as the powerhouse of the world economy – is having to ration supplies of energy to its industrial sectors, whilst grappling with the fall-out from exuberant financial expansion.

Consumer energy and fuel prices are surging, a process as adverse for industry as it’s uncomfortable for households. Though the rise in domestic energy costs is the most conspicuous aspect of energy price escalation, deeper consequences will be felt through sharp increases in the costs of supply to businesses.

All inputs, from minerals and chemicals to food and water, are functions of the energy used to extract and process them. If the supply of energy tightens, and its costs rise, the same happens across the entirety of economic activity.  

This, in short, looks like the moment when the reality of energy and broader resource constraint makes itself felt, and the conceit of perpetual growth on a finite planet is revealed as fallacy.

We need to be clear that, insofar as this is an “energy crisis”, it has nothing in common with previous such crises. Neither can it be blamed on after-effects of the pandemic crisis, on gamesmanship (by Russia, or anyone else), on ‘little local difficulties’ (like “Brexit”), or even on the distorting effects of gargantuan financial stimulus, harmful though that has been. Least of all can it be ascribed to ‘brisk economic growth’, since the global economy is unlikely to be any larger in 2021 than it was in 2019.

Rather, what we are experiencing is a predictable – though, in general, not a predicted – collision between resource limitations and a desire for never-ending “growth”.  

The economy has hitherto experienced two energy crises (or three, if we include the oil price spike experienced in the American Civil War), but what’s happening now is profoundly different.

During the 1973-74 embargo crisis, and the 1978-79 Iranian revolution, there was no physical shortage of oil, or of energy more generally. These were crises of management, and of trade imbalances and international relations, not of supply fundamentals. Fossil fuel ECoEs remained below 2% in the 1970s, but are nearly 10% now. Even if renewable energy sources (REs) can take over fully from fossil fuels in the future (and this is unlikely), they certainly can’t do so now.

A moment of truth

From an economic perspective, this is a watershed. What we are witnessing is decisive proof that the economy is indeed an energy system, and is not – as orthodox opinion has so long insisted – wholly a matter of money. Pouring yet more money – in econo-speak, demand – into the system isn’t going to create huge new supplies of oil, gas, coal or any other form of primary energy. 

All of the world’s decision-making processes – most obviously in government, business and finance – are predicated on an assumption which is turning out to have been fallacious. The economy isn’t, after all, a ‘perpetual growth machine, powered and shaped by money’.

Rather, it’s an energy system, in which material prosperity is a function of the availability, value and ECoE-cost of energy.

With its emphasis on incentive, and its disdain both for government planning and for non-financial motivation, the ideology sometimes called ‘neoliberalism’ is most exposed to the discovery that the economy cannot, after all, be managed in purely financial terms.

This helps explain why those countries most wedded to the idea of ‘leave it to the market’ – and, with it, of accepting inequality as ‘the price of efficiency’ – face the toughest futures. Britain, most conspicuously, is experiencing the consequences of the liberal ‘super-fallacy’ now, but the United States, in particular, won’t be far behind.

Of course, hype – no less than hope – “springs eternal”. But surges in the direct household costs of energy and fuel are now impacting economies, and indirect, second-order effects (traceable to the rising cost of energy to industry) are already making themselves felt in supply shortages and inflation.

For those countries worst affected by energy supply strains, pious promises to “build back better” and to “level up” won’t remove the need to make tough, unpopular decisions. “Green growth” is going to have to transition into “green resilience”. Decades of denial – enacted through monetary gimmickry, and backed up by excessive faith in the alchemy of technology – threaten severe financial and broader consequences.

A rocky road

As the energy interpretation of the economy moves from left-field theory to demonstrable reality, theories and models based on the contrary assumption are breaking down. The economy is moving in directions not anticipated by orthodox theory, invalidating much, and arguably most, of the projections, methodologies, models and policies hitherto accepted as valid.    

Those of us who understand the economy as an energy system can predict some, at least, of the consequences of present trends.

First, material prosperity will deteriorate. Properly understood, this has long been an established trajectory in the West, glossed over – but not changed – by increasingly desperate, illogical and hazardous exercises in credit and monetary adventurism. SEEDS analysis makes it clear that the average person in almost all Western economies has been getting poorer since well before the 2008-09 GFC (global financial crisis), and that an increasing number of EM (emerging market) economies, too, are reaching the climacteric at which rises in ECoEs put prior growth in prosperity into reverse. 

The rates of decline in top-line prosperity itself look manageable. But rising ECoEs are set to drive up the real costs of essentials (including household necessities and public services). Together, the combined effects of falling prosperity, and the rising cost of essentials, are exerting a tightening squeeze on the scope for discretionary (non-essential) consumption.

This downwards pressure on discretionary prosperity is going to be unpopular, with consumers and with discretionary suppliers alike, and this may prompt efforts to prop up discretionary consumption with yet more reliance on credit expansion.

Denial, for the moment, remains unchallenged. In Britain, for example, households are likely to face further and even larger rises in the cost of gas and electricity, and the price of anything (which means everything) made using energy is going to rise as well. Discretionary consumption cannot continue unchecked through this process.

To be sure, wages might rise to accommodate these cost increases but this, if it happens, will simply fuel an inflationary cycle. The task of repairing the public finances will become harder with each worsening twist in the cost cycle.

Despite this, few yet anticipate contraction in the scope for everything from travel and leisure to the payment of subscriptions and the purchase of the latest gadget. Fewer still have grasped the read-across from deteriorating prosperity to the pricing of property and other assets.  

Around the world, these processes in turn imply, not just that inflation will rise, but that the financial system will come under increasing stress. Together, discretionary sectors, and businesses that rely on the ‘stream of income’ model, are going to be in the eye of the storm.

The ‘basics’ of the situation – deteriorating top-line and discretionary prosperity, rising inflation and worsening financial stress – are simply the first-order effects of the deteriorating energy-prosperity equation. More complex processes can be anticipated, some of them identifiable in a taxonomy which sees businesses simplifying their products and processes, de-layering their supply chains, and trying to work around the challenges of falling utilization rates and the loss of critical mass. Popular priorities can be expected to change, intersecting with a deterioration in the affordable resources of governments.

These are issues on which we can reflect and which, to some extent, we can model and predict.

For now though, the imperative is that the realities of resource (and environmental) constraint are recognized, and that plans and assumptions are re-thought accordingly.