#225. Gravitational pull

MANAGING THE REALITY OF ‘LIFE AFTER ORTHODOXY’

A new ‘heavenly body’ has entered the cosmology of political and corporate decision. This new influence is the emerging reality that the economy is turning out, after all, to be an energy system, and that long-accepted ideas to the contrary are fallacious.

The concept of limits is replacing the paradigm of ‘infinite growth’.

Where decision-making is concerned, this emerging reality isn’t likely to have an immediately transformational effect. Established nostrums can have a tenacity that long out-lasts the demonstration of their falsity.

We’re not, then, about to see sudden, open and actioned acceptance of the fact that the economy is an energy rather than a monetary system.

Rather, we can expect to see energy reality exert an increasing gravitational pull on the tide of decisions and planning, most obviously in government and business. Policy statements may not change, but the thinking that informs planning and strategy undoubtedly will.

This gravitational effect is starting, as of now, to re-shape perceptions of the present, change ensuing “narratives” of the future, and trigger a process of realignment towards the implications of a world with meaningful constraints.        

The aim here is to examine the practical consequences of a contest of interpretations which, whilst it has already been decided at the theoretical level, leaves ‘everything to play for’ in political and commercial practice.

And then there was one

There are, essentially, two ways in which we can seek to explain the working of the economy.

One of these is the conventional or orthodox school of thought, which presents economics as a process determined by the behaviour of money, and acknowledges no limits to the potential for growth.

For the best part of nine years, this site has endeavoured to encourage, explore, model and quantify the alternative interpretation, which states that prosperity is a product of the use of energy, and that there are very real resource and environmental limits to economic expansion.

There are two ‘adjudicators’ of this debate. One of these is logic, and the other is experience.

Logic has always favoured the energy interpretation. The concept of material constraints is not remotely a new one. A notable milestone in the exploration of this thesis was The Limits To Growth, which was published back in 1972, and is now looking remarkably prescient. Hitherto, though, LtG and similar theses could be, and have been, dismissed as theoretical rather than practical challenges to the orthodoxy. 

What’s different now is that experience is in the process of confirming the verdict of logic.

In fact, the only thing that the orthodox explanation still has going for it is ‘custom and practice’.

Readers will not misunderstand me if I state that, at the purely intellectual level, this contest is ‘all over bar the shouting’ (though there will be plenty of that).

What lies ahead is a process of adjustment – we might call it realignment – to the new reality of an economy in which the scope for expansion is constrained by limits, both to energy value and to environmental tolerance.

Policy-makers and business leaders may have grasped the latter constraint, but have still to discover the reality of the energy limits to prosperity.

So here’s the question. If you were a decision-maker – in government, say, or in business – what would you do if you knew that the consensus “narrative” of our ever-expanding economic and broader future was heading into the blender?

Theory and narrative, #1 – money and myth

In essence, orthodox theory states that the economy can be explained entirely in terms of money.

The “laws” of economics are not, in fact, analogous to the laws of science. Rather, they are observations about the behaviour of money.

The central conclusion of this orthodoxy is that there need be no limits to economic growth, because the driver of expansion is under our control as the creators and managers of money.

Monetary causation enables us to use pricing, incentives and demand to circumvent all material limitations.

A more recent refinement of this theme combines technical innovation with monetary management to assure us that all material limits can be circumvented, through technology and monetary management, such that ‘growth in perpetuity’ is perfectly feasible, and can be used as a reliable forward presumption.

To use the contemporary idiom, what follows from this is a “narrative” of a perpetually-expanding economy.

Where planning and projections are concerned, this narrative is emphatically directional, flowing from assumed growth to everything else that we want to anticipate.  

Here’s what this means in forecasting terms.

Planners and forecasters start with – and tend seldom to question – assumptions about the future size of the economy. If, for instance, we accept a trend real annual rate of growth of 3.5%, simple mathematics tells us that the economy will be twice as big in, say, 2040, as it was in 2020. If we assume trend growth of only 3.0%, growth over that period is 80%. At 4.0%, it will be 120%. 

With this presupposition in place, only then do they calculate what this is going to mean in practical terms. If we know that the economy will be, say, X% larger in 2040 than it is now, it can be calculated that the need for energy, for instance, will have expanded by Y%.

If it is further assumed that we need to reduce our use of fossil fuels by Z% over that same period, what remains is a non-fossil market of predictable size, requiring to be filled, in varying possible proportions, by nuclear power, hydroelectricity and renewable energy sources (REs).

This ‘start with growth’ process of calculation delivers the narrative of seamless energy transformation, ever-expanding prosperity, and a billion vehicles powered by batteries or hydrogen.

Theory and narrative, #2 – resources and reality

The alternative thesis reasons from entirely different predicates. Instead of assuming that future energy requirements are a function of assumed economic expansion, our understanding is that prosperity is a function of the availability of energy value.

If we happen to agree that the availability of energy value might indeed conform to the Y% number calculated by growth-predicated forecasts, we might also agree that the economy will be X% bigger by the target date.

The sequence of reasoning, though, is entirely different. It operates in the opposite direction.  

In the simplest of terms, conventional forecasting assumes that Y (energy demand) is a function of X (economic growth). The alternative is to restate this as X (economic growth) is a function of Y (energy availability).

The energy approach to economics starts with recognition that the economy is an energy system, because nothing that has any economic utility at all can be provided without the use of energy.

Pausing only to dismiss the quaint notion (the “haystack without a needle”) that the economy can somehow be “de-coupled” from the use of energy, we move on to introduce a second predicate, which is ‘the principle of ECoE’.

This recognizes that, whenever energy is accessed for our use, some of this energy is always consumed in the access process. In Surplus Energy Economics (SEE), this ‘consumed in access’ component is known as the Energy Cost of Energy (ECoE), and is expressed as a percentage.

Importantly, energy cannot be used twice. This means that the proportion of total energy supply absorbed as ECoE cannot also be used for any other economic purpose.

This in turn means that material economic prosperity is a function of the availability of surplus (ex-ECoE) energy. 

This makes it vital that any process of interpretation and projection starts with an examination of the trend in ECoEs from the various sources which constitute energy supply.

We know that ECoEs are shaped by geographic reach, economies of scale and the process of depletion. With the potential of reach and scale now exhausted, depletion has become the factor driving the ECoEs of oil, gas and coal.

To be sure, technology acts favourably, accelerating falls in ECoEs when these are declining, and mitigating rises when trend ECoEs are increasing.

Critically, though, it is self-evident that the potential of technology is circumscribed by the limitations of physics, which in this case means the material characteristics of energy resources. 

This understanding is critical, because it takes the potential of REs out of the realm of wishful thinking, and requires us to accept two limitations to the potential economic value of renewables.

First, we know that the resources required for the creation and maintenance of RE capacity are products of the legacy energy provided by oil, gas and coal. This means that the trajectory of the ECoEs of renewables is linked to that of fossil fuels.

Second, we also know that REs have their own constraints, most obviously the Shockley-Queisser limit to the theoretical maximum efficiency of solar power generation, and the Betz’ law equivalent for wind power.        

We further recognize that ECoEs affect both the delivery costs and the affordability of energy. This means that ECoE trends determine, not just the qualitative nature of available energy, but the quantitative issue of supply.

The last of our three principles – otherwise known as “the trilogy of the blindingly obvious” – is that money has no intrinsic worth, but commands value only as a ‘claim’ on the goods and services made available by the material economy of energy.

Money can be defined as “a human artefact, validated by exchange”.

On this basis, we arrive at the transformative conception that there are two economies. One of these is the proxy or financial economy of money, credit and assets. The other is the material or real economy of goods, services, labour and energy.

With this understood, our ‘control’ over the creation and use of money ceases to endow us with the ability to drive infinite economic growth. It becomes, instead, nothing more than an ability to manage one side (the financial part) of a ‘two economies’ equation determining the relationship between money and material prosperity.

On this basis, the creation of money in its various forms can outgrow the underlying economy, but this process simply creates what are known in SEEDS terminology as “excess claims”.

Much of our recent economic and financial experience can be explained as the creation of ever more abundant excess claims which, by definition, cannot be honoured ‘for value’ by a smaller underlying or ‘real’ economy.

The contemporary financial system is at severe and worsening risk because of the gargantuan scale of the ‘excess claims overhang’ that has been created on the false assumption that the creation of money and credit in their various forms (known to conventional economics as “demand”) can somehow expand the real economy of goods and services.                            

A future redefined

Applied using the SEEDS economic model, these principles point to a very different future, and, for that matter, present a very different past and present, from those described by orthodox economics.

This, of necessity, results in a very different forward “narrative”.

The following charts provide a snapshot of the interpretation provided by SEEDS (the Surplus Energy Economics Data System).

The left-hand chart shows how, as trend ECoEs have risen relentlessly, average world prosperity per person has plateaued, and has now turned downwards.

At the regional level, prior growth in prosperity has long since inflected in the advanced economies of the West, whilst less complex, less ECoE-sensitive EM (emerging market) countries have continued to enjoy improving prosperity, albeit at a steadily decelerating pace.

Meanwhile, and as the middle chart shows, the real cost of essentials has continued to rise, in large part because so many necessities are energy-intensive.

This process has initiated severe compression of the SEEDS metric of prosperity excluding essentials. PXE is a measure of the affordability, in aggregate, of (a) discretionary (ex-essential) consumption, and (b) capital investment in new and replacement productive capacity.    

Finally, where these overview indicators are concerned, an enormous gap has emerged between the financial and the real economies, such that the economy of goods, services and energy is now about 40% smaller than its financial proxy of money, credit and assets.

You will appreciate that, because prices are the interface between the real and the financial economies, inflation is a natural consequence of this divergence or, rather, of the pressures that operate towards the restoration of equilibrium between the two economies.

You might, indeed, wonder why – more than thirteen years on from the adoption of supposedly “temporary” expedients such as QE and ZIRP – inflation hasn’t accelerated before now.

Part of the answer lies in the systemic understatement of inflation by conventions which, amongst other quirks, exclude asset price rises from a definition of inflation which concentrates on – and, even then, understates – changes in consumer prices.

The SEEDS calculation of the Realised Rate of Comprehensive Inflation (RRCI) indicates that, over the two decades between 2000 and 2020, systemic inflation averaged 3.5% annually, far higher than the official rate of 1.5% over that period.   

Fig. A

“The future’s not what it used to be”

What we have been describing is a process of divergence which has driven a wedge between a ‘real’ economy (shaped by the energy dynamic) and a ‘financial’ economy (whose size is determined by monetary policy).

This explains a great deal that, from an orthodox perspective, seems baffling. It warns us that a major correction looms between the ‘two economies’, a correction that must involve financial ‘value destruction’ as a consequence of the elimination of ‘excess claims’.  

As we have seen, the contemporary consensus narrative rests on the false premise that we can start with assumptions about future growth and then predict what can be expected to happen in numerous categories of forward outcomes.

Uncovering the false premise – and the ensuing fallacious direction of reasoning – of the consensus narrative acts in a way that might be likened to taking out the bottom brick of a speculative wall.

For example, once we know that future prosperity is a function of energy trends rather than the other way around, we know that we cannot assume that the supply of renewable energy somehow ‘must’ expand in conformity with what growth assumptions supposedly tell us about the scale of energy supply in the future.

Reasoning in this opposite direction has a liberating effect on thought processes. This realization enables us to place into the equation factors which conventional thinking has been forced to ignore, or to treat as anomalous and inconvenient.

We are now at liberty to recognise that each rise in the price of fossil fuels, whilst it increases the cost of using conventional cars and commercial vehicles, also raises the price of all of those materials (including steel, concrete, copper, lithium and cobalt) that are required for energy transition.

We can place the undoubted environmental downsides of this transition into a broader context. We can take cognisance of the fact that the ECoEs of renewables are linked to those of fossil fuels through renewables’ reliance on resources which can only be made available by the legacy energy provided by oil, gas and coal.

What had previously been nagging reservations – such as the resource and investment demands of renewables, the Shockley-Queisser limit, Betz’ law, doubts about how “green” renewables really are, and so on – can now find their appropriate places in a broader understanding of energy, the economy and the environment.

Accommodating gravitational effect

What we’ve been doing here is following a logical process to a point at which a raft of consensus assumptions about the future turn out to have been the products of mistaken assumptions.

Though the theoretical approach is essential, what matters in practical terms is that this interpretation is being borne out by the trend of events. Its consequence is an invalidation of all of the preconceptions which inform the “consensus narrative” of our economic, financial, political and broader future.

If you’re in government, it tells you that future resources are going to be far less than you might hitherto have assumed, and that the provision of essentials is set to become the critical battleground between competing priorities.

If you’re in business, it tells you that we cannot rely on growth, least of all in discretionary sectors, and that the scope for capital investment is poised to decrease rather than to expand.

It anticipates the wholesale failure of business models based on false predicates, and suggests that the taxonomy of de-growth – with its emphasis on product and process simplification, on delayering, and on managing utilization and critical mass risks – is the appropriate template for decisions.

This discussion is not, in any sense, intended as any kind of primer for the conduct of business or government in a future that’s not going to conform to a mistaken consensus.

But one issue is of immediate relevance to the theme that interests us here – are governments, businesses and other organizations going to start a process of fundamental re-appraisal?

The view taken here is that these institutions are not about to reveal a Damascene conversion to the realities of a material (and constrained) rather than a monetary (and unlimited) conception of the economy.

Nobody is likely to start telling shareholders, voters, workers, consumers, the markets or anybody else that the consensus narrative is mistaken, and that, in the words of Mickey Newbury, “the future’s not what it used to be”.

Rather, “gravitational effect” is the appropriate analogy here. Any large organization is entitled to operate research units looking into “what if?” scenarios, and is under no obligation to share the results of such evaluation with others.

This is likely to be the way in which new thinking about the economy crosses the boundary from theory into practice.

It seems most unlikely that institutions will ignore the various factors, some of them described here, which put ‘the currently-assumed’ into the category of ‘the speculative and the potentially mistaken’.

Research processes are likely to act on planning in much the same way that a piece of iron, placed on the rim of a binnacle, acts on a magnetic compass.

New economic thinking can be expected to work its way into decision-making processes in a way more akin to gradual absorption than to a flood.

For practical purposes, the revolution in economic thinking “will not be televised”, but neither can it continue to be dismissed as nothing more than ‘inconvenient theory’.   

#224. Unaffordable, stranded, at risk

DISCRETIONARY COMPRESSION AND THE VULNERABILITY OF ASSETS

One of the more striking trends in a shifting consensus appreciation of economic issues has been an increasing focus on what’s being called a “cost of living crisis”.

There’s no doubt that this is serious – but is it, as the public is assured, only temporary? And, if it’s not, what are its implications?  

Though the seriousness of this situation is gaining recognition, its implications – not least for asset markets – remain generally unappreciated.  

Properly understood, what we’re witnessing is part of a broader dynamic, long discussed and calibrated here as the erosion of discretionary prosperity. As prior growth in prosperity goes into reverse, and the cost of necessities rises, consumers are losing the ability to afford non-essential (discretionary) purchases.  

Governments, businesses and the markets are profoundly mistaken if they assume that this is some kind of passing phase, caused by nothing more than the temporary consequences of ‘unexpected events’, such as coronavirus disruption, and war in Eastern Europe.  

Will the consensus of opinion – only now, and belatedly, catching-on to the pressures on discretionary consumption – also recognize what’s happening to affordability? And will it then move on to re-define the concept of “stranded assets”, realizing that this term applies, not to hydrocarbon projects after all, but to a far broader range of investments?

Moreover, will asset markets start to recognize the broader implications of deteriorating affordability, particularly where property is concerned?

Hidden in plain sight 

As regular readers will know, downwards pressure on the affordability of discretionary goods and services is one of the two most critical issues identifiable through interpretation of the economy as an energy rather than a financial system.

The other is the unbridgeable gap that now divides the ‘financial economy’ of money, credit and asset values from the ‘real economy’ of material output, labour and energy.

Current events may be leading towards a moment at which issues of affordability collide with an over-inflated financial system to trigger far-reaching negative reactions. 

The much-discussed “cost of living crisis” means, not just that households are struggling to cope with the rising cost of necessities, but also that their disposable incomes are under severe, indeed unprecedented, downwards pressure.

In short, if people have to pay more for necessities – such as food, heat, power and essential travel – they are left with less to spend on all of those many things that they may want, but do not need.

This extends far beyond non-essential purchases, having equally serious implications for the affordability of credit.

If you’ve been visiting this site for any length of time, you’ll know that these trends have long been anticipated here. SEEDS-based analysis has been warning, over an extended period and with increasing urgency, of a worsening squeeze on discretionary (non-essential) prosperity.

This expectation has been based on recognition of two critical trends, neither of which is accepted by conventional economic interpretation, and both of which are related to the way in which prosperity is defined by the availability, value and cost of energy.

First, relentless increases in ECoEs – the Energy Costs of Energy – have been undermining the prosperity-determining availability of surplus (ex-ECoE) energy. 

Second, and just as top-line prosperity has been trending downwards, the real costs of energy-intensive essentials have been rising remorselessly.

What this means is that the indicator known in SEEDS terminology as “PXE” – prosperity excluding essentials – is on a pronounced downwards trajectory. This trend is illustrated in the following charts, which compare prosperity per capita with the estimated cost of essentials in America, Britain and China.

You’ll note that, as in Britain and China, it’s perfectly possible for PXE to turn down well before the zenith of top-line prosperity has been reached. 

This trend is, in fact, by no means new, but has hitherto been disguised, where consumption is concerned, by the availability of ultra-cheap credit.

This ability to use credit to provide artificial support for discretionary consumption is now being eliminated by an acceleration in inflation, driven by the rising cost of necessities and, again, long predictable through energy-based analysis of the economy.

“Stranded”, but not as we know it

Even as the energy basis of prosperity has been deteriorating, techno-utopians have taken to describing big investments in fossil fuel projects as “stranded assets”.

The argument has been that, as renewable energy sources (REs) displace fossil fuels, demand for oil, natural gas and coal will slump, causing energy companies to lose money on investments “stranded” – cut off from consumers – by this supposedly-inevitable revolution in energy markets.

In reality, this has always been unlikely, not least because we cannot expand and maintain RE capacity without recourse to legacy energy inputs from oil, gas and coal. This means that the ECoEs of REs are linked to those of fossil fuels.

As energy costs rise, so, too, does the cost of everything – including steel, copper, cobalt, lithium and plastics – required, not just to expand RE generating capacity itself, but also to advance the use of technologies powered by electricity rather than by oil and gas.

A simple example is that, just as rising fossil fuel prices make conventional vehicles more expensive to run, so battery and hydrogen alternatives become costlier to produce, as does the RE infrastructure by which they are supposed to be powered.   

A proper appreciation of actual rather than hypothecated trends reveals that we need to re-define “stranded assets”.

Instead of oil and gas projects, the investments cast adrift by decreasing demand are likely to be aircraft, hotels, leisure complexes, broadcasting rights contracts, and anything else predicated on the false assumption that consumer discretionary spending will increase indefinitely.

The circumstances of the ‘average’ household or individual illustrate this unfolding process. As increases in the costs of necessities outpace incomes, people have less to spend on everything from holidays or a new car to subscriptions for television and internet services.

At the same time – with rates rising, and levels of debt already highly elevated – they can no longer resort to cheap credit to finance non-essential purchases.

Just as customer affordability is falling, businesses providing discretionary goods and services are subject to relentless increases in their own costs of operations.

These trends are likely to have adverse implications for a string of business models, including the ‘high-volume, low-margin’ template used in some sectors, the ‘streams of income’ model popular in many others, and the widespread dependency on revenues from advertising.

Unfortunately for businesses supplying discretionary products and services, the conventional over-statement of past trends has provided misplaced comfort, often to the point of inducing complacency.

As we have seen in a recent assessment, the same fallacious methodologies which overstate real economic growth have created the misleading impression that nominal increases in activity in discretionary sectors translate into robust trend growth which can be relied upon to continue into the future. 

This is illustrated in the following charts, in which conventionally-calibrated trends, shown in black, are compared with SEEDS analyses shown in blue.

What SEEDS interpretation reveals is that discretionary affordability, having already decelerated, has now entered a pronounced down-trend, completely contrary to the expectations on which so much investment and planning in discretionary sectors is based.

It’s always possible, at least to some extent, to reallocate assets, and to modify or replace business models – but not if you don’t know what to expect.

Financial implications

As a rule-of-thumb, discretionary goods and services account for roughly 60% of Western consumer spending, a proportion that includes swathes of durables including, most obviously, domestic appliances and vehicles.

The ‘average’ consumer is now finding that his or her ‘disposable income’ – the mainstream term for what SEEDS calls discretionary prosperity – is subject to severe downwards pressures.

The essentials still have to be purchased, and are now costing more. This means, first, that unpalatable choices have to be made.

The consumer may need to spend less on leisure activities, take fewer holidays, and cut back on outgoings such as subscriptions. He or she may also need to put off making ‘big ticket’ (consumer durables) purchases, such as a new washing machine or a replacement car.

A second implication is that the affordability of all forms of credit (and continuing payment commitments) is being undermined. The more that people have to spend on essentials, the less remains for the servicing of debt and the upkeep of obligations.

The compounding factor here, of course, is the rise in the cost of borrowing.

False confidence might be drawn from the fact that, in overall terms, rates are rising less rapidly than inflation, reducing the ‘real’ (ex-inflation) cost of debt.

But nominal rates matter, too. If the rate of interest on a mortgage increases from, say, 3% to 6%, the resulting increase in outgoings is very ‘real’, albeit in a different sense, to the borrower.

It’s of little or no comfort to the borrower to be told that the rise in rates is less than the increase in inflation, particularly where the inflationary effect on incomes lags, or is less than, the rate at which the cost of necessities is increasing.

This raises two questions about the affordability of credit. First, can the borrower carry on servicing existing debts at higher nominal rates of interest?

Second, can he or she really be expected to carry on financing otherwise-unaffordable non-essential spending by going still further into debt?

The far greater likelihood is that we’ve reached that point of “credit exhaustion” after which consumer purchasing and debt servicing capabilities can no longer be inflated to ever-higher levels on a tide of cheap credit.

Although rates are clearly heading upwards, property prices have enjoyed a boost provided by borrowers rushing to lock-in rates in anticipation of rising mortgage costs. It may seem illogical to pay over-inflated prices in order to keep borrowing costs low, but this is exactly the behaviour that has helped drive house prices upwards.

In the aftermath of this ‘anticipatory blip’, questions of affordability may now put enormous downwards pressures on real estate markets, defying the extrapolatory assumption that ‘prices can only rise over time’.

If investors – and lenders too – start to recalibrate affordability calculations, and accordingly to view property markets with more caution, there’s every reason why they might look at a broad swathe of discretionary-dependent businesses in a very similar way.

What, after all, are the prospects for companies supplying non-essential goods and services to increasingly hard-pressed consumers?        

Systemic exposure 

This takes us to an observation, set out in #222: The Forecast Project, that the ‘financial’ economy now stands at an unsustainable premium to a faltering underlying ‘real’ economy. This excess varies between countries, with China particularly exposed to a process of forced restoration of equilibrium between the financial and the material economies.

What this analysis indicates is that apparent economic “growth” has been inflated artificially by the injection of credit which, whilst boosting recorded activity, actually adds very little incremental value. In the business sector, this has created a trend towards unproductive complexity.

The SEEDS taxonomy of de-growth identifies many steps – including de-layering, and product and process simplification – which companies are likely to take in order to bolster profitability, and protect themselves against utilization risk and loss of critical mass.

But we need to be clear that there are limits to how far any business can counter a relentless erosion of demand for its product or service.

The onset of deterioration in discretionary sectors creates a serious risk that investor and lender confidence might erode when forward expectations are revised from growth to contraction. The pivotal issue is likely to be the extent to which forward commitments cease to be regarded as viable.     

In short, the financial system could be driven into disorderly contraction by a dawning recognition that both affordability, and the viability of discretionary sectors, are being undermined by trends which cannot be explained away by short-term setbacks.

#223. Trading with the (common) enemy

THE SHARED CONSEQUENCES OF RESOURCE CONSTRAINT

The tragedy unfolding in Ukraine, as well as being horrific in itself, has brought us face-to-face with a brutal fact whose reality we’ve always, hitherto, managed to ignore.

This fact is that the world has become accustomed to a standard of living that its energy resources can no longer support.

This is as true of, for example, China as it is, more obviously, of Western Europe. Indeed, once forward trajectories – and the all-important matter of ECoE – are taken into account, the United States has the self-same problem.

Neither can we assume that countries favoured with extensive indigenous energy resources are insulated from this problem. It simply isn’t possible for Russia – or, for that matter, for the oil-rich states of the Middle East – to pull up the drawbridge and let the rest of the world ‘freeze in the dark’.

The people of Ukraine are the obvious victims of this crisis, but the hardship being inflicted by the underlying issue stretches, in varying degrees, into most corners of the world.

Westerners – hit by rising living costs, and fearing that their trinket-laden lifestyles and their penchant for foreign holidays may be receding into the past – might spare a thought for citizens of the world’s poor and poorest nations, where the harsh realities of energy constraint are already showing up in the worsening unaffordability of food and other necessities.   

The current crisis is bringing us ‘up close and personal’ with a string of fundamental issues.

First, the emergence of energy constraints is destroying the long-favoured illusion that we can enjoy ‘growth in perpetuity’.

To paraphrase Kenneth Boulding, idiots and orthodox economists might continue to believe in the tarradiddle of infinite growth on a finite planet, but the rest of us have to face facts.  

Second, our efforts to pretend otherwise have inflated the global financial system to a point of extreme vulnerability.

Third, we can’t use the magic of money, or the alchemy of technology, to resolve the twin challenges of resource scarcity and environmental degradation. 

This time IS different

Many might be tempted to think that ‘we’ve been here before’.

Back in the 1970s, the Oil Embargo and the Iranian Revolution starved much of the world of petroleum, setting off sympathetic rises in the prices of other fuels, and triggering a severe combination of economic stagnation and soaring inflation.

Some observers now seem to think that, just as the Western world survived the oil crises, we can similarly brush off the effects of this latest threat to the reliability of affordable energy supplies.

The fundamental difference is that global ECoEs – the Energy Costs of Energy – are drastically higher now than they were back in the 1970s.

Superficially, at least, the effects of the oil-induced stagflationary crisis of the 70s are reasonably well-understood.   

First, it put an end to the super-rapid rates of oil consumption growth that had characterised the post-1945 world. Remarkable though this may now seem, there were times in that post-war period in which consumption of petroleum grew at annual rates as high as 8%. 

Second, the crises created the incentives for the development of new sources of oil in non-OPEC regions, most importantly in Alaska and the North Sea.

By the early 1980s, a new generation of far more fuel-efficient cars had reached global markets. Oil had become recognised as a premium fuel, and was ceasing to be used for substitutable activities such as the generation of electricity.

The oil market was subject to transitional (though lasting) over-supply from new sources. Arguably, OPEC over-played its hand by propping up prices in the first half of the 1980s.

Oil markets crashed at the end of 1985.

This, coincidentally or not, was also a period of significant political change. The doctrines variously described as “Thatcherism” and “Reaganomics” claimed, and for the most part were given, credit for an economic revival which, in reality, was the product, not of market ‘liberalization’, but of the downwards leg of an artificially-distorted long-cycle in energy supply.

The critical point, though, was that the ECoEs, both of oil and of energy generally, remained at levels low enough to facilitate continued economic expansion. The resource backdrop to the oil crises of the 1970s was that ECoEs remained at or below 2%.

The new reality

Today, global all-sources ECoEs are over 9%, far beyond levels at which further growth in aggregate material prosperity remains possible.

In the West, rising ECoEs have already put prior growth into reverse, a trend temporarily disguised (though not, of course, overcome) by successive exercises in financial legerdemain.

As ECoEs have continued to rise, much the same combination of deteriorating prosperity, financial gimmickry and worsening self-delusion has started to emerge in less complex, more ECoE-tolerant EM (emerging market) economies.    

Faced with the stark reality of what the Ukraine crisis has crystalized in global energy markets, it’s natural for us to hope that we can side-step the implications of resource scarcity.

Some think that a switch to EVs can replicate the increased fuel efficiency of the 1970s, and that wind and solar power can act as latter-day successors to the supply-side solution provided back then by the North Sea and Alaska.  

All of these hopes miss the fundamental point, which is that ECoEs are very much higher now (above 9%) than they were in the 1970s (at or below 2%).

Between these data-points lies a climacteric which, once crossed, sees the assumed continuity of growth replaced by an inevitability of contraction.

Moreover, ECoEs are continuing to rise, and this trend cannot be countered, either by technology or by financial innovation.

In this situation, prosperity deterioration is inescapable, though the chaos of a disorderly economic ‘collapse’ remains avoidable, at least in theory, if the right choices are made.

Creative involvement

For those of us who understand the economy as an energy system, the most useful thing that any of us can do is to describe, model and project the situation as accurately as possible, and to delineate the choices that others, on our behalf, will have to make.   

Given our inability to influence tragic events in Ukraine, the most constructive action that we can take here is to intensify and develop our interpretation of the economy as an energy system,

This urgency – the need to ‘up our game’ – existed before Russian tanks moved into Ukraine. This is why the previous article broke new ground for this site by publishing specific forecasts informed by the SEEDS economic model.

Essentially, at least three dynamics are now in operation.

First, trend ECoEs are continuing to rise, pushing prior growth in economic prosperity into reverse. This trend cannot be stemmed (though it might to a limited extent be moderated) by an enhanced recourse to alternatives, including both REs (renewable energy sources) and nuclear.

Second, increases in the real costs of essentials are combining with deteriorating top-line prosperity to undercut the affordability of discretionary (non-essential) goods and services.

Much the same is happening to the scope for capital investment in new and replacement productive capacity.

To a certain extent, the definition of “essential” is imprecise, and certainly varies both geographically and over time. If we had a hard-and-fast definition of essentials – and therefore of discretionaries – planning, both for government policy and for investment, would be a great deal easier.

Efficiency could thereby be enhanced, because governments could set an agenda for debate around the prioritizing of services, whilst markets could start to redirect capital from discretionary into essential activities.

As it is, the fluid character of ‘necessities’ means that we need to use more nuanced appraisal, both of those services that governments must prioritize and of those sectors in which investment should be concentrated.

Third, so accustomed has the world become, both to growth itself and to its benefits, that there are major intellectual and psychological obstacles to reasoned acceptance and effective management of post-growth societies.

De-growth, in turn, creates the probability of increasing political and geopolitical instability, and this instability is likely to prompt, not just increasing conflict, but worsening hardship and consequent migration flows.  

It seems reasonable to assume that most of us lament the hardship being suffered within and beyond Ukraine, and are hoping against hope that wiser counsels will prevail.

Likewise, we must hope that decision-makers, and the public generally, can respond realistically and effectively to the challenges of a post-growth economy. 

To go beyond hoping for the best, we need to explore, discuss and quantify a world in which the assumption of ‘growth in perpetuity’ looks ever more likely to go the way of the Dodo.