#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.