Peakniks must embrace conventional economics

Many Peak Oil advocates - collectively known as "Peakniks" - are rightly suspicious of economists and the study of economics. In fact, the first opponents of Peak Oil were not actually oil geologists but energy economists.

The reasons why so many modern economists have it wrong about Peak Oil are actually quite simple - they do not understand the Peak Oil theory and their own economic theories and prognostications do not take into account the geological limit to oil extraction that is proved by Hubbert's Peak. The problem is essentially one of supply - oil production cannot be "ramped up" endlessly to meet demand. A good illustration for this is to pretend that oil production is like water going through a tap - at some point, despite the tap being open as wide as possible, the amount of water coming out the nozzle is getting slower and slower.

I believe that once economists understand the implications of Peak Oil, they will adjust their theories accordingly.

However, it is important that the Peakniks do not simply write off economists and the study of economics. Although confidence in the the study of economics is rightfully low amongst them, Peakniks must realise that the problem that Economists have is simply one of ignorance. The economic models that have been developed over the years are not somehow destroyed or made redundant by the spectre of Peak Oil. Economists, when they have the right information, are very valuable and can be very useful. The problem at the moment is not the economic models and theories that Economists have created over the years, but their lack of understanding of Peak Oil. Peakniks who worry about these things should therefore focus mainly on the ignorance of economists, rather than simply panning economic theories.

The reason I am saying all of this is because I see myself as understanding both sides - as a Peaknik and as a person who understands economics. And let me point out that many Peakniks need to understand basic economics.

The problem is that many peakniks have come up with what I term "Static Outcome Theory" when they look at Peak Oil. Realising that oil supplies will eventually begin to dwindle and understanding how important oil is to the modern economy, they see the world heading towards a particular conclusion. Extreme peakniks - "called Doomers" - actually see the end of western civilization altogether. Influenced by Richard Duncan's Olduvai Theory, "Doomers" view the lack of energy production caused by Peak Oil will eventually lead to a Malthusian Catastrophe - essentially a massive and prolonged population reduction.

Doomers represent a minority of Peakniks, but they are still very influential. Doomers see no answer at all to Peak Oil, and many are actually storing away food and ammunition so they can survive the coming apocalypse. The rest of the Peakniks, however, are more moderate and hold out hope that the world may be able to survive the coming Peak.

Nevertheless, when Peakniks look at the economic impact, they are essentially focused upon an end goal. "When the Peak happens, our society will end up in this particular situation" is what the Peaknik will argue. The particular situation that they argue will happen differs from Peaknik to Peaknik, but virtually all of them argue that the result will be economic chaos.

As a Peaknik myself, I also believe that Peak Oil will lead to massive economic problems. I, however, choose to use the more refined words that economists use. I would not argue that Peak Oil leads to economic chaos, but I would argue that Peak Oil will lead to a major economic realignment.

The reason I use "realignment" rather than "chaos" is simple. "Chaos" in the context of Peaknik argumentation, is a static outcome - it is a final outcome with nothing beyond it. "Realignment" infers a dynamic situation - a future beyond the major event. In other words, many Peakniks will simply point out that we are heading for a single, immovable social and economic situation called chaos. Beyond that, the Peaknik does not know what will occur. Those who understand economics, however, do have the skills and knowledge to work out what might happen. It is my understanding of economics that has allowed me to take a very "optimistic" position on Peak Oil.

Nevertheless, Peakniks need to reassess their static outcome theories, which I will now begin to address.

Static Outcome #1: Endless Hyperinflation
The economic "chaos" many peakniks argue will happen differs from Peaknik to Peaknik. Some argue that the situation will be like the 1973 and 1979 oil crises, except far worse. They see the "chaos" to be an endless bout of hyperinflation that cannot be overcome by traditional economic models. In this static view, hyperinflation causes people to invest in precious metals such as gold. Needless to say, massive unemployment and poverty will accompany this endless hyper inflationary outcome.

Much of the reasoning behind this view is based upon what I call the "Commercial Bank Money Printing Conspiracy". This is a rather popular but fatally flawed understanding of how money is created in a modern economy, and has been around for much longer than most modern Peakniks. It was developed apart from Peak Oil, but many Peakniks today seem to be embracing its flawed understanding of how money works in the modern economy.

The argument basically is that Commercial banks have the ability to print money, and rely entirely upon economic growth for their profitability. But when Peak Oil hits, and when the economy begins to contract/collapse (depending upon your POV), the bank's money printing will not match economic growth, causing a massive inflationary spiral.

All I will say about this is that this understanding of money creation is fatally flawed. Commercial banks do have the power to create money, but they are exceptionally limited in how much money they can actually create. A good illustration of how this works would be to compare the bank's ability to create money with an accountant's ability to create invoices. An accountant can only create as many invoices as can be matched by the debtors who are on the ledger. The accountant could choose to create invoices that are not matched on the ledger, but that would be stupid - no one would pay them and he would eventually lose his job. In the same way, Banks can only create as much money as the economy itself chooses to create. If a Commercial Bank chose to create money apart from this, then they would have their banking license stripped by the Central Bank.

Many Peakniks nevertheless would argue that a continual state of hyperinflation is a serious possibility, regardless of whether they believe the "Commercial Bank Money Printing Conspiracy" - but such an understanding would be more rooted in a misunderstanding or ignorance of how monetary policy is used in price stability. It would be well worth the effort of Peakniks to examine how monetarism gained influence during the 1970s, and how people like Paul Volcker, Allan Greenspan's predecessor at the Federal Reserve Bank, was able to use monetary policy to kill the rampant inflationary pressures from the 1970s. Many Peakniks would argue that lower inflation was due to a collapse in oil prices from about 1981 onwards, but are probably unaware that this collapse was caused by a major world recession that had its basis in Paul Volker's actions at the Federal Reserve.

Static Outcome #2: Endlessly high oil prices
Peakniks are right when they argue that the price of oil will go up because the supply of oil will be restricted as Hubbert's Peak begins to kick in. Nevertheless, Peakniks may not realise that the price of oil does also depend greatly upon demand. Demand, like supply, is not constant. If the demand for oil drops, then so will its price.

Many Peakniks would counter this by arguing that oil is the backbone of the modern economy. We can do without Coca Cola, but we can't do without oil. This is a half-truth, and it results in the belief that the demand for oil is actually a continual demand. In other words, oil is not subject to the normal fluctuations of the marketplace since demand is essentially constant and rising. Peakniks may even believe that, even while the world economy begins to contract, the demand for oil will just continue to increase. Moderate Peakniks may understand that there will certainly be peaks and troughs caused by market fluctuations, but would still argue that the price of oil will, over time, get higher and higher and higher.

And the reason, of course, is that many Peakniks see high prices in comparison to what they are today. If oil gets scarce, the price of oil gets higher, therefore the future oil price will be very very high because supply will be so low. It's a simple equation, and it has some truth in it, but it will not really reflect what will happen.

Statistics pretty much show that the demand for oil drops during a recession. The only way oil can continue increasing in price is if there is economic growth to push demand higher. Oil demand is NOT a constant.

I need to reinforce this point because some Peakniks may somehow think that I do not realise the massive importance that oil has in our society. Oil, they would argue, is more than just pumped into your car. It is also used for chemical feedstock to produce plastics and to produce fertilizers and other chemicals that are vital to maintain current agricultural output. Oil, in other words, is also directly responsible for the quantity - and cheapness - of the food we eat. In this sense, oil is an integral part of the "Green Revolution" and any scarcity of oil will, in fact, result in a loss of farm productivity. Moreover, we can't just suddenly reduce the demand for food - if food supplies drop because of Peak Oil, then the result will be mass starvation.

All this is true and I accept most of these arguments. However I would like to point out that, while oil is definitely needed to keep farm productivity at the current rate, a substantial majority of oil is still used to pour into our fuel tanks. It is this sector of oil usage that is capable of a reduction in demand. All I am pointing out here is that, even if oil production dropped to 50% of what it is now, there would still be more than enough to keep food being produced. Given a choice between cars and food, the majority would choose food. So while oil demand for agriculture is a constant, oil demand for other sectors is quite flexible - and is in those other sectors (transport, polymers etc.) that demand can be reduced without causing world-wide starvation. The market itself will ensure that this will occur.

Certainly, as a Peaknik myself, I do see the price of oil climbing to exceptionally high levels. Nevertheless, predictions of $1000 per barrel are just simply outrageous. The reason being that I believe that the scarcity of oil, over the long term (decades), will not be reflected by an ever-increasing oil price, but through other economic indicators.

Static Outcome #3: Endless unemployment
As a Peaknik I am convinced that the coming scarcity of oil will lead to a major economic readjustment - and that one of the results of this adjustment will be major unemployment levels. No one can ever accurately predict what these levels may be, but it is obvious from my point of view that the readjustment will be at least as bad as the 1930s depression - at least. Therefore I would argue that unemployment levels during this readjustment will reach levels never before experienced by anyone living in this current generation.

But my study of economics shows that unemployment has a cyclical nature to it, and that when a recession is over, employment levels begin to increase. Therefore I also see that, while Peak Oil will eventually cause massive unemployment, the economy will also eventually learn to adjust, leading to increased employment.

It is quite inconceivable that massive unemployment levels would remain on a permanent basis. Even Western Europe, for all the complaints over the seemingly permanent 10-12% unemployment rates that afflict nations like France, Germany, Italy and Spain - these nations still have 88-90% of the workforce employed.

It is perhaps at this point that a simple economic model can be drawn up to explain things better. Imagine you are living in an Amish community - albeit one that has no contact at all with anyone outside. The Amish community represents the world economy and everyone living in the world. Now let's say that one day a tornado rips through our Amish community and destroys every single house. Suddenly the entire Amish community is homeless and has suffered great economic and social loss. Of course, that tornado represents Peak Oil. After the tornado, what would the Amish do? They would band together and help rebuild their community. Everyone is gainfully employed (as they rebuild), but everyone has, at the same time, experienced a great deal of economic loss.

It is therefore entirely reasonable to assume, despite the continual onset of Peak Oil, that the massive unemployment it causes will have a temporary nature to it. No doubt the world economy will be permanently changed as a result of the peak, but there will still be a need for labour, and for production, and a demand for consumption. The world may be "poorer" because of Peak Oil, but this won't necessarily lead to permanent, massive unemployment levels.

Of course the Amish/Tornado model I have just proposed does not fit exactly - but then, nor will any "model" or illustration. Peak Oil is a continual problem while the tornado appears once and is gone. Nevertheless I would argue that the result is the same.

One thing that many people believe today is that economic growth and employment go hand-in-hand. Peak Oil, it is assumed, will lead to a continual and debilitating economic decline. Since unemployment only drops during economic growth, it is assumed that unemployment will be massive and permanent.

But, again, this assumption does not take into account "Steady-state economics" - which would probably argue that it is possible to have an economy that is neither growing nor declining, but still able to keep people employed.

There is an historical precedent to this - the Black Plague in Europe. The Plague devastated huge parts of Europe, leading to a massive reduction in population. Yet there is no evidence that I am aware of which shows that ordinary Europeans at the time had massive unemployment problems.

We need to remember that unemployment is actually a modern phenomenon that came along with the Industrial Revolution. Increases in productivity led to both cheaper prices and the obsolescence of many traditional industries. The industrialised world became urbanised as a result. Since the Industrial Revolution, the world economy has been continually growing. This means that current thinking about unemployment is wedded to the notion that the economy must always be growing in order for unemployment to be low. Theoretically, I can see no reason as to why the phenomenon of ultra-low unemployment that we see in the pre-industrialized world (which was essentially a steady-state economy, or growing at a very low rate) cannot exist in an industrialized world that has been rocked by Peak Oil.

What will happen?
It is difficult to know whether the current high oil prices we are suffering is the beginning of the Peak. Certainly I have seen evidence from OPEC that Light sweet crude has peaked, while total oil supplies have continued to grow. To me this indicates that "The Peak" is still a few years off, but then I may be making this assumption based on the wrong information (can we really trust OPEC?)

We are already seeing the results of high oil prices. Already monetary policy has been tightened in the last two years in almost every major industrialised economy to pre-empt inflation. What is going to happen when the peak is reached?

The first thing is obviously a sustained increase in the price of oil. With demand still high and supply unable to meet demand, prices will begin to rise.

Secondly, as the price of oil rises, so will inflation. Inflation is essentially the devaluing of money in relation to all goods and services that are produced. With oil supplies becoming less reliable, and with so many parts of the economy reliant upon the price of oil for factoring in to end costs for goods and services, inflation itself will begin to rise.

Thirdly, in response to a growing inflationary threat, central banks like the US Federal Reserve will begin to tighten monetary policy - they will raise interest rates. Raising interest rates increases the value of money since the central bank is creating a demand for them. The reason why interest rates are increased is to prevent inflation from breaking out. Interest rates are inflation killers. Unfortunately, higher interest rates are also economy-killers. Increased interest rates mean that people will borrow less and save more. Since much of the western economic system is based upon "borrowing and spending", interest rates will simultaneously punish both those who borrow (by making it more expensive) and those who spend (by making saving more attractive than spending).

Which leads, fourthly, to a recession. There will be a period of "negative economic growth" (which, to me, is essentially an economic decline). Bankruptcies, growing unemployment and mortgage foreclosures will accompany this.

The recession will, sixthly, lead to a drop in demand. The price of goods and services will begin to decrease - including the price of oil.

Seventh, with a decrease in prices, interest rates will then begin to fall, thus making it easier for people and businesses to borrow and spend again.

Eighth, this increase in consumption will lead to a drop in unemployment.

Ninth, this drop in unemployment will lead to economic growth and an increased demand for goods and services.

And, finally, tenth, this increase in demand for goods and services will lead to increase in the price of oil again.

After the tenth point, you can simply go back to point one - the situation starts over again.

This economic cycle is well known to all economists. However, I need to point out that, because oil supplies are still hard to procure (due to the Peak), the recovery will not, in real terms, match the level reached in the previous cycle. What I am pointing out here is that, although the economic cycle will continue throughout the post-peak years, there will be a structural decline so long as oil remains an integral part of the world economic system. Since modern economies appear to be getting better and better at preventing inflationary pressures through pre-emptive monetary policy, I would assert that the "structural decline" will be experienced as very low year on year GDP figures, and a decline in GDP per capita figures in nations that, on paper, are still growing economically.

But, of course, once the peak has been reached, and once governments, businesses and ordinary people finally understand the reason why this has occurred, the market itself (with a lot of government intervention) will seek to reduce its own reliance upon conventional oil supplies. While oil will still be pumped out of the Middle-east and the Gulf of Mexico, more and more alternative sources of oil - such as oil shale, tar sands and coal liquefaction - will become a market priority. Wasteful energy consumption that we see happening today in the form of Four Wheeled Drives (SUVs), badly insulated houses that rely upon fossil fuels for heating and/or cooling, as well as other things, will be curtailed.

EREOI and market prices
Peak Oilers speak of something called EROEI - Energy Returned On Energy Invested. It is essentially the idea that it would be stupid to use up, say, 10 barrels of oil in expended energy in order to recover, say, 8 barrels of oil. Peakniks are very strong on this subject, and it is one reason why so many believe that the so called "Hydrogen economy" mooted by many environmentalists will just not work, along with a whole host of other forms of alternative energy. The argument is that it is useless to be in a situation in which you lose more energy than you gain. It is a very powerful argument and it is also very true.

Peakniks who don't understand economics will point out that EROEI is the thing that needs to be examined - not price. So when an oil company decides to invest money in tar sands, they should not do so because it is economically viable, but only if it has a realistic EROEI. There is no point, they would argue, to divert economic resources into an energy source that returns less energy than the amount invested. Therefore, the argument goes, the decision must not be made on price but upon science.

All this is true, except that many Peakniks don't realise that, the more expensive energy becomes, the more an EREOI is reflected in the price the market is willing to pay. In a world awash in cheap energy - as we are at the moment - EREOI can mean quite little. Let's take the Athabasca Tar sands in Alberta, Canada. While it is obvious that this stored petroleum is massive, very little has been invested in the area in the last 25 years. The reason was simple - the price of oil was too low, and the cost of extracting oil from tar sands was too high. What is also obvious to those in the know is that the EREOI of traditional oil fields is much higher than the tar sands of Athabasca - thus making traditional oil fields more energy efficient than extracting oil from tar sands. In other words, the market price for oil and EREOI are actually linked together.

The upshot of this is that Peakniks should not need to worry too much about EREOI and not spend time slamming economics and businesses for their focus upon price rather than science. When energy becomes scarce, this is reflected in market prices. The market will not invest anything into any energy project with a negative EREOI simply because the cost invested will not match the money returned. In this sense, money and energy are essentially linked.

The Future
As energy becomes more expensive - since oil scarcity will make it so - the economy will adjust in order to cope with the increased cost. Fuel efficient cars, increased public transport, increased medium and higher density living will typify a society and an economy that will be trying to save money on energy costs. It remains to be seen whether solar and wind power, as well as other alternative forms of energy, will be viable. The use of disposable plastic will decrease as plastic prices increase, which means an adjustment in the way in which many people purchase certain goods.

The future is not bright, but nor is it bleak. Peak Oil will transform our world's use of energy way beyond out lifetimes. Historians will look back on this period and note that our values and economic activity were linked quite obviously to cheap energy in the form of oil. But the changes that we will eventually face will not come suddenly and rapidly, but slowly and painfully. Peak Oil was never about the world suddenly running out of oil (as some anti-peak oilers so ignorantly believe), but about the massive economic and social changes that will result from an ever-decreasing source of energy.

In the meantime, Peakniks must continue to warn people about the coming danger. It is not the end of the world - despite the protestations of "Doomers" - but it is a serious challenge to our way of life. The earlier we realise the Peak is coming, the better prepared we will be for the changes that will inevitably occur. What Peakniks must not do is dismiss economics and treat it as though it no longer applies. Instead, Peakniks must try hard to understand how economics works, and get a basic framework that includes monetary policy and the importance of supply and demand. Moreover, they must be very wary of promoting false and misleading theories, including the popular "Commercial Bank Money Printing Conspiracy" that I mentioned above. Peakniks are unlikely to convince those in power of the truth or Peak Oil if their understanding of economics is fatally flawed. Those in power are more likely to listen to truth coming out of the mouths (or websites) of those who have a sound understanding of more than just the physics of Hubbert's Peak.

© 2005 Neil McKenzie Cameron, http://one-salient-oversight.blogspot.com/

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Craig Schwarze said...

Hi Neil, I think that was well argued. As I've said previously, I don't think basic economics has been accounted for in some of the peak oil scenarios.

The main problem with the classic peaknik graph is that it treats demand as totally inelastic. But even the recent brush with high oil prices showed strong demand elasticity. It seems around $1.30/litre people started to make significant lifestyle changes, like taking public transport and doing less leisure driving. I even know someone who sold their V8!

To be honest, I am quite looking forward to seeing what happens when petrol hits $1.50 or $2 / litre. The market will produce some intriguing solutions.

Still, I rather suspect petrol at that price is some time away.

Anonymous said...
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Anonymous said...

I thought we'd had this conversation to death Craig?

It's as if some non-peakniks think peakniks have never heard of supply and demand. ;-)

Hey, just read some Kunstler or Campbell or any peaknik forum and at some stage you'll see them refer to the "bumpy plateau".
Rather than a neat “peak” oil prices and demand are likely to interact and fluctuate, eventually forming what will look like a “bumpy plateau” if graphed out. This might last a few years.

The “bumpy plateau” is when the prices rise, and so the demand drops. Eventually this lowers the price and so demand rises. Up and down and up and down until eventually, it's not just the SUPPLY of oil that is driving the price up.

Because once you really enter the “arc of decline” the other side of the peak, 2 other important dynamics kick in that many economists forget about.
1/ The “downslope” is a drastically poorer quality of oil that requires drastically more energy to process
2/ It is coming from drastically more expensive places like deep sea beds and frozen tundra, requiring even more energy to extract in the first place. Indeed, the whole energy return from oil plummets after the peak, and very quickly we could find ourselves in a world practically without any oil! (A decade or 2 depending on how bad the EPR gets.) There are various models of depleting supply, some working at a relaxed 3% per year and others up to 14% per year, depending on how much damage was done to oil fields, whether or not they were “cored” by overpumping, and other factors. We are using the best technology in history to pump the oil at a faster rate than ever. I would actually be very surprised if the other side of the peak looked less like a bell curve and more like a cliff.

So as the experts on ABC’s Catalyst science show said,
2008 maybe 2009, certainly no later than 2010. That’s the point at which we will no longer be living in a world with growing supplies of generally cheap oil but instead living in a world of rapidly shrinking supplies of ever vastly more expensive oil and that point of realisation is going to come as a real shock.

Kustler even refers to the difference between the bumpy plateau, and when we really hit the “arc of decline”. (See my home page at www.eclipsenow.org for the Kunstler JJJ Radio podcast.)

Once you enter the REAL arc of decline... ALL BETS ARE OFF!

In other words, we need drastic government action. From the USA DOE commissioned “Hirsch report”.
The world has never faced a problem like this. Without massive mitigation more than a decade before the fact, the problem will be pervasive and will not be temporary. Previous energy transitions (wood to coal and coal to oil) were gradual and evolutionary; oil peaking will be abrupt and revolutionary
From the Summary, page 64

Or as Hirsch told me…
No one knows with certainty when the world production of conventional oil will peak, but a number of experts think it will happen in the next 5-15 years. Our work illustrates that the oil peaking problem can be mitigated with available technologies, but the time required for implementation is measured on a 15-20 year time line, at best.
The character of the oil peaking problem is like none other; without timely mitigation, the impacts will be dire, worldwide, and long-lasting. Prudent risk management dictates serious attention and massive action soon, which is difficult for most people and many decision-makers, who tend to wait until a problem is obvious before taking action.
Use this as you see fit.

It will take 15 or 20 years to implement MITIGATION strategies — in other words, just to take the “edge” off of peak oil. Without preventative planning strategies we are in for a very, very rough ride! Hold onto your hats, this Greater Depression is going to HURT!

To the uninitiated reader, I am firmly convinced that there is no greater challenge currently facing human civilization. Peak oil is upon us, and many reports have concluded that leaving the “solutions” up to the marketplace will be too little too late. By the time the rising energy costs of manufacturing energy systems are actually felt, the market may have invested too many infrastructure programs in the wrong arenas of energy.

In other words, the marketplace often does what pays now, but might not pay in the future. EG: Extracting oil from tar sands takes an enormous amount of natural gas. Natural gas has peaked in North America and is about to cost far, far more. Therefore the cost of tar sands oil will rise as well… and that’s various oil mining systems that are suddenly bankrupted!

We need a long-term government plan, with a vision for the future guided by scientific input. There is so much to understand regarding energy planning that I can only recommend reading www.lifeaftertheoilcrash.net to wake up the reader that might be tempted to read other comments here and just think “everything will be OK”. Oh, and in case you think that website is purely nuts because of the opening paragraph… that opening paragraph has been seriously read in US Congress on many different occasions!

Dear Reader,

Civilization as we know it is coming to an end soon. This is not the wacky proclamation of a doomsday cult, apocalypse bible prophecy sect, or conspiracy theory society. Rather, it is the scientific conclusion of the best paid, most widely-respected geologists, physicists, and investment bankers in the world. These are rational, professional, conservative individuals who are absolutely terrified by a phenomenon known as global "Peak Oil."

The marketplace is usually resilient and surprising. However, peak oil is too big. It will destroy the globalized system we currently enjoy. The modern marketplace has been built on oil. And as they say, every Wind Turbine or Solar Panel that was ever built, was built in a cheap oil economy.

(Please don’t muddy the issue by quoting Wind Mills to me… there is no electricity generating Turbine in a Wind Mill!)

I can only recommend that you, dear reader, take economics seriously but also remember that if it comes down to a contest between the scientific laws of thermodynamics and energy and the marketplace, thermodynamics rules OK!

Ian McPherson said...

Hi Neil,

Pretty well argued.

I would point out, however, that your liquid fuel substitution ideas require substantial amounts of oil to realise - as they are basically mining operations - and that a low cost transport alternative to oil does not yet exist.

Hydrogen is problematic, as it has little relevance within the next 20 years. The infrastructure does not exist and it would take large amounts of oil to produce it. Alternative energies do not have sufficient energy to make liquid hydrogen without enormous inefficiences, leaving us only with nuclear to split the water, an expensive and enormously oil-dependent task that also suffers from a declining supply of high grade uranium.

I don't think you have given enough thought to "how" we can build enormous replacement infrastructures, using oil as a primary imput (diesel supplies 90% of the energy for construction in Australia, for example), and then maintain it in the future.

Just like whale oil, the liquid fuels from our fossil fuel resources must ultimately decline to the point that they become non-viable. And is there much point in producing future infrastructure that relies upon these declining supplies for its maintenance and longevity?

Ian McPherson

waves4future said...

Very nice article.

I think that on the spectrum of peakniks, I am somewhere very close to the author ..although I myself am an engineer working on wave energy research. It's nice to see an economist and an engineer meeting somewhere in the middle ground!

I also put an essay together that proposes that the free market does have the best chance of guiding this problem above any global governance mechanism ...so we should learn to work with it.


Ian, I don't agree that the bridge to sustainable energy is not within our grasp. Peak oil will hurt as energy gets expensive ...a necessary pain and one that will exist for the very reason that we have a sound largely free market based global economy that can respond to these issues. Remember that after peak oil, we still have half the oil in the ground, plenty coal and prospective clean coal technology, nuclear as you point out, natural gas, biomass and some renewables to fuel a "bridging economy". That could buy us 50 years while we get our act together, no? Once peak oil is universally recognised, even in a recession, there will be plenty economic impetus to seriously develop a sustainable energy infrastructure.

It's daunting but not at all impossible ...we have flown to the moon after all. Here in Sweden, where I am a temporary immigrant, it is commendable to see that their national grid is entirely fossil fuel independent and their housing is dense and well planned (and a bit crap to be honest). If cars got too expensive to run tomorrow, the trams and cycle lanes might be a bit more busy on the way to work but we would go to work and figure out the alternatives. If Sweden can do it why not others ...in fact the secret to the peak oil is probably in the demand line. I think it is growing so fast simply because oil is so damn cheap. We CAN run growth economies on significantly less dependence on energy in general and oil in particular. In fact this economic "reallignment" could be quite exciting. Countries able to continue to provide stable energy at a predictible price and get labour to work everyday are likely to become very attractive places to do business. That will put a whole new incentive on energy security, planning, conservation and consumerism. Being an engineer and an alternative energy developer, I don't believe I underestimate the scale of the challenge...but it's not the doomesday scenario that many talk about ...that's a seductive prophecy that is scarily realistic ....as was the chance of getting nuked in 1960's. But I think we are too clever to let this challenge get the better of us.

Stuart Studebaker said...

I like your notion of "re-alignment" - it's a much more useful term, much as substituting the notion of Collapse with Transition.

This, of course, doesn't mean that either will be easy, or that we're going to be able to get 6.5 billion people through it all. I think that's the unspoken difference between Doomers (I call them Nihilists, which I think is more accurate, as their position has a long - if dark - tradition in history. I would also suggest that certain regimes and Juntas - such as the Bush Admin - are also Nihilists, but from the other direction...) and more progressive and positive elements in the energy awareness "Peak Oil" movement.

As you noted: unemployment didn't appear to be a problem during the Black Death, but that doesn't make the Plague a negligible factor in World History. That is one of my critiques of economics and economists. To use your tornado smack down of the Amish analogy - sure - they have full employment, but who cares? They're living HORRIBLE LIVES, scrambling to find shelter under the shattered bits of their homes, many of the starving, their winter stores of food blown to the four winds, and they slowly starve in the dark. Sure - everyone's got a job, but SO WHAT?

This is why I don't buy into GDP figures - they don't have anything to do with what is actually happening in society. Katrina can take out a major city, but all the money spent on fixing it up shows as positive economic activity. Great. Wonderful. that's what I call "livin' big".

I look at it this way: the Nihilist position is correct, *but only in an IF/THEN context*. Outside of that, their position is disuseful.

I don't have a great deal of confidence in Markets because markets reflect social and cultural preferences, which can be quite inelastic (viz. the Vikings in Greenland and Easter Island) and are also often rigged to favour certain classes and castes in order so they may act, behave, and consume in a higly wasteful manner.

At the same time, I think that economics will serve, in some ways, to help us transition into a new society. But I think there are other things beneath the economic that will have to shift as well. The hardest part will be the cultural preferences that are so deeply ingrained in contemoprary civilisation. It is going to be increasingly difficult to keep making excuses for places like Las Vegas, which will come as a great disappointment to the people in Henderson...


acerbas said...

How can anyone who uses "infers" when they mean "implies" call themselves a polymath?

Craig Schwarze said...

unemployment didn't appear to be a problem during the Black Death,
Indeed, according to Schama the opposite occurred - demand for labour meant living standards for the remaining peasants actually increased.

Craig Schwarze said...

I thought we'd had this conversation to death Craig?

Probably Dave! I was referring to the "classic" peak oil graph - the one where demand keeps rising in a uniform line after the peak...

Sam Charles Norton said...

Excellent article. Good to read some economically informed analysis of Peak Oil and the transition (I call it 'the great dislocation') - I agree that there is life, and civilised life, on the other side.

But given your other interests, have you thought/written about the way in which the apocalyptic imagination is deployed by people like Jay Hanson? It just seems to me (and I'm pondering writing an essay giving chapter and verse) that what you have with the 'doomers' is a misplaced theological framework. The prophets used apocalyptic language as a means of criticising the political status quo (amongst other things - see Tom Wright) not as a direct expectation of the world coming to an immediate end. What we have with the doomers is, at root, a hatred of the status quo, and a longing for a violent overthrow of it - they are using the apocalyptic language inappropriately. You might be interested to see this (which had Peak Oil hovering in the background)

Tom Wayburn said...

"I would assert that the "structural
decline" will be experienced as very low year on year GDP figures, and a decline in GDP per
capita figures in nations that, on paper, are still growing economically."

As energy use diminishes and GDP diminishes, I do not understand in what way the economy is growing. Also, I wonder what you think of my study "Cash Flow in a Mark II Economy" http://tinyurl.com/9l66w
which links EROEI and money according to the E/GDP ratio tabulated by DOE for every year and every nation. I enjoyed your article. Thank you.

Tom Wayburn, Houston, Texas, http://web.wt.net/~twayburn/

One Salient Oversight said...


As energy use diminishes and GDP diminishes, I do not understand in what way the economy is growing.

I may have worded it badly. In any event I was talking about nations that have both growing populations and growing economies, but with GDP increasing at a slower rate than population. This would lead to "GDP growth", but a decline in GDP per capita.

One Salient Oversight said...


I would agree with everything you've said. I think "Doomers" are simply a matter of [personality type] + [stressor]. The stressor in this case is Peak Oil, but it could quite easily be a religious one if the individual was in a different situation.

One Salient Oversight said...


Again the wording of my article may not have been clear enough so I apologise if that was the case.

Being a "Peaknik" myself means that I do accept that the coming peak will do a great deal of damage to the world economy. The use of the Amish illustration was therefore proper because it argued that unemployment leels can actually be low during the economic realignment.

I don't have a great deal of confidence in Markets because markets reflect social and cultural preferences, which can be quite inelastic (viz. the Vikings in Greenland and Easter Island) and are also often rigged to favour certain classes and castes in order so they may act, behave, and consume in a higly wasteful manner.

I would totally agree with this statement. The market is badly flawed, which is why I favour more of a "third way" between the market and more socialist principles.

Thanks for your comment.

One Salient Oversight said...


Thanks for your comment. I have to admit that my understanding of economics is pretty much self taught, so I would not yet class myself formally as an "Economist".

As you can tell, my writing style does not lend itself to "Economics-speak" and I still have a hard time understanding all those curves and equations. However, once I get my head around them I usually say "I already worked that out!"

I have solved unemployment, however.

One Salient Oversight said...


re: you liguid fuel substitution.

I understand that these forms of fuel require greater inputs of energy than conventional oil supplies.

However, I would still argue that the fact that they are currently economically viable (especially in Athabasca with Syncrude) means that their EROEI is acceptable.

It'll take time to ramp up production, but Athabasca and Orinoco will put a bit of a plateau on the other side of the Peak once enough infrastucture is set up.

One Salient Oversight said...

By the way, I got this reply from Jim Kunstler:

they do not understand the Peak Oil theory and their own economic theories and prognostications do not take into account the geological limit to oil extraction that is proved by Hubbert's Peak.

That's a pretty big blind spot. Unforgivably stupid, actually.

I also believe that Peak Oil will lead to massive
economic problems. I, however, choose to use the more refined words that economists use.

My tactic, too, despite misinterpretation of my writings.

Hyperinflation cannot continue very long without extreme political blowback.

Banks can only create as much money as the economy itself chooses to create.

Being allergic to conspiracy theories, I am sympathetic to your view that this money idea is often overstated -- but I wonder if you fail to appreciate the recklessness of current lending standards and the decay of norms.

I may be incorrect about this, but it seems to me that Paul Volker's only real weapon against inflation was extraordinarily high interest rates (up to 20%), which had weird repercussions of their own. I would argue that the
collapse of oil prices really iced the inflation.

personally, I think the fact that so much of the remaining crude is located in the ME will somewhat aggravate the allocation-by-demand calculus you describe. In short, all bets are off where geopolitics are concerned.

I imagine there will be some 'steady state' elements in the decades ahead, but this outlook tends to discount sheer socio-political turbulence.

Wasteful energy consumption that we see happening today in the form of Four Wheeled Drives (SUVs), badly insulated houses that rely upon fossil fuels for heating and/or cooling, as well as other things, will be curtailed.

The tends to discount the powerful psychology of previous investment, which will lead to a foolish defense of suburbia. Even absent that, we would be
horribly burdened by the iabilities of existing suburbia and all its furnishings and accessories.

I think you generally underestimate the ramifying, mutually-reinforcing effect of instability on gigantic complex systems.

Jim Kunstler
"It's All Good"

Carver said...

I recommend you all to read the following piece of unconventional methodology: The Terra Trade Reference Currency. It also points out the undesired effects resulting from conventional monetary policies.

If this has spurred your interest I suggest you to read the book The Future of Money by Bernard Lietaer, to get a good idea of previous, current, and future monetary systems and how it affects us.

I urge everybody to read that paper and other publications of Bernard Lietaer concerning complementary currencies.

KCAA said...

Neil wrote:

"All I am pointing out here is that, even if oil production dropped to 50% of what it is now, there would still be more than enough to keep food being produced. Given a choice between cars and food, the majority would choose food."

This assumes that the majority is given the choice. Recognizing that the majority is the entire world population, many of whom are close to starvation anyway, what would be the consequences of the wealthy world deciding that oil for transportation was more valuable than oil for food for poor people in the third world?

Consider for example the 12/6/2005 Monbiot column on palm oil plantations to provide biodiesel. Isn't this a case of transportation demand of the wealthy outbidding local poor populations for fuel and land resources? Would it really be hard to imagine that wealthy countries, or wealthy individuals for that matter, would decide to outbid the poor for the remaining oil supplies, preserving wealthy privileges at the expense of food for the poor?

Consider too the anemic response from the developed world for disaster relief in Kashmir. What is this if not the developed world reeling under the increased cost of oil products and deciding we just don't have the budget room to help those poor people in Kashmir? AKA "Paying our energy bills is more important to us than helping the poor avoid starvation and freezing to death.", or "We wealthy feel that the marginal utility of purchasing oil products is higher than the marginal utility of paying for the lives of poor people in disaster areas." The New Orleans vapor-reconstruction is probably another example of this.

I think it is certainly true that any rational individual would choose to pay for food before paying for oil products, but this logic does not directly apply to market situations with drastically unequal players.

I see two large misunderstandings between us peakniks and economists. The economists say that peaking of various grades of conventional petroleum won't be a problem, since this will just induce price changes that will encourage efficiency and production of alternative supplies. Peakniks read this as "there will be no problem", when in reality the economists have said there will be price changes with great enough magnitude to change ingrained energy use patterns. That would constitute a significant change in the level of prices which would be highly disruptive.

Economists on the other hand hear peakniks claim that the changes will be extremely disruptive, enough to significantly alter portions of civilisation as we know it and possibly result in significant human population reductions. The economists think this is irrational doomsaying. However, the peakniks aren't saying that rich people in rich countries will starve to death, but rather that through various mechanisms including lack of health care and malnutrition leading to increases in death through disease, mostly poor portions of the world population will not survive. This kind of change, military skirmishes to secure future oil supplies, and financial collapse of the US auto and airline industries all constitute significant changes to civilisation as we know it.

Craig Schwarze said...

Consider too the anemic response from the developed world for disaster relief in Kashmir.

I think there were two factors involved.

1. Initial reports did not convey the scale of the disaster

2. There is a lot of "donor fatigue" after generous contributions to the Tsunami earlier in the year

I doubt that it is linked to higher fuel prices...

Anonymous said...

I understand that these forms of fuel require greater inputs of energy than conventional oil supplies. However, I would still argue that the fact that they are currently economically viable (especially in Athabasca with Syncrude) means that their EROEI is acceptable.

While I understand your argument, it is dangerously fallacious as I have explained previously. The marketplace does not always consider future projections of energy supply when setting up today’s systems, and true energy costs can often be hidden by the tax payer.

Economic viability does not equal an acceptable EROEI. Just consider the various types of energy involved in a production scheme. Consider some biofuels such as corn.

Imagine you are farming corn for bio-diesel pre-peak.
Imagine, for examples sake only, that you have really poor soil and must heavily fertilize it. Not only that, but you have diesel generators that you use to pump up groundwater to irrigate your corn for bio-fuels. Not only that, but your area is prone to plagues of locusts, so you have to use pesticides. All these inputs into your farm are quite cheap, but actually represent a lot of energy. Cheap oil created the pesticides. Cheap oil created the diesel that pumps up the water. And cheap gas ran the Haber process to give you your fertilizer. It’s all energy, but it’s all cheap energy. The bio-diesel crop you produce sells, and you make money. But in this example the actual net energy gain, the “Energy Returned on Energy Invested” or ERoEI, is negative. A cheaper source of fossil fuel energy was turned into a lesser quality biodiesel energy at great energy expense, but it made marketplace sense. (In this example only. I do not wish to tarnish all biomass & bio-diesel schemes here, I am just setting up the groundwork concepts for ERoEI.)

When peak oil and then a decade later peak gas hit, the true energy costs will be revealed and another crutch will be violently kicked out from an already teetering platform for civilization.

To the government’s shame, many of these bio-diesel projects are subsidized in the name of “being green”. Light green I say, and ridiculously uninformed.

This is also true of the nuclear industry, which many people cast all their hopes on. The reality is that if we scaled up nuclear power to supply all the world’s electricity supply, the dense enough quality uranium ores could be exhausted within 6 years.

There are some particularly relevant comments on nuclear ERoEI at the link below, such as…

What this clearly shows is that we have been consistently lied to about the true costs of energy generation of all kinds by the use of an accounting system that only looks at segements of the cycle. For comparisons between different energy types, every single part of the production cycle from exploration to waste disposal must be included. It should be a matter of outrage and shame that our present government is trying to separate the nuclear waste industry from the generating side so that the latter can be sold to the private sector and the former left as a hidden burden to the taxpayer- for an indefinite time in the future.


So with government subsidies and the true ERoEI being disguised by the relative cheapness of one form of energy product to then produce another, especially with subsidies, ERoEI is a very difficult thing to really measure — and the marketplace does not have the foresight to plan large energy infrastructure projects. It is blind to what is coming.

Again I refer readers to the Hirsch report to the US Department of energy, which clearly states that peak oil is the most serious crisis facing humanity today and requires massive government infrastructure upgrades and planning decades in advance to help mitigate this crisis. Unfortunately, with Chevron’s CEO saying “The era of easy oil is over” the peak seems to be already here.

Anonymous said...

Sorry all, it's me again! I was reading an update from Lester Brown's "Earth Policy institute" which had some great quotes regarding market forces that I just had to share.

Economic decisionmakers at all levels—corporate planners, government leaders, investment bankers, and individual consumers—all rely on market signals. But the market often does not tell the truth. For example, when we buy a gallon of gasoline, we pay the costs of producing gasoline, but not the health care costs of those who suffer from the polluted air, the acid rain damage, or the costs of climate disruption from burning the gasoline.
[Dave's note: oil costs should also include other subsidies to oil... that of the billions and billions of taxpayer dollars spent upgrading our roads and highways systems — without which there would be no point to oil. A significant percentage of GDP costs could be saved if we mostly travelled by rail.)

Sometimes we learn of the market's shortcomings the hard way. For example, by 1998, China's Yangtze River basin had lost 85 percent of its original forest cover. Partly as a result, flooding of the Yangtze River basin that year displaced 120 million people and caused $30 billion worth of damage. In response, Chinese officials banned tree cutting in the upper reaches of the basin. Trees standing, they argued, were worth three times as much as trees cut.

The key to restructuring the economy is to restructure the tax system, to get the market to tell the ecological truth. As Øystein Dahle, former Exxon vice president for Norway and the North Sea, observes, "Socialism collapsed because it did not allow prices to tell the economic truth. Capitalism may collapse because it does not allow prices to tell the ecological truth."


Craig Schwarze said...

I am very interested in solar chimneys. The technology appeals to me as it is conceptually simple and (therefore) low maintenance.

They are currently building one in Oz which is expected to generate electricity for 200,000 homes. Only 30 of these would be required to supply electricity for the whole country!

Sam Charles Norton said...

I put some initial thoughts together on the 'doomers' 'misplacing the apocalypse' here. I'd be interested to know your views.

Martin said...
This comment has been removed by a blog administrator.
Martin said...

Try this:
Oil run out, then something obviously have to replace it.

No no, forget this trumpeted wind power, it would't work in those nice sunny days.

Solar? Well perhaps Mexico or Algeria are safe (and Texas with some refinement) and with much much reduced energy consumption.

Coal? this will help for a while with MASSIVE enviromental cost.

It appear to me that the ONLY option for humanity to prevent masive disorderly failure is to develope worldwide network of nuclear power plants.

NB. Some scientists are saying that thermonuclear (fusion, quite safe) may be a source of energy of the future but it seems likely, that it will always stay that way (means it will never materialize).

Car can be driven on nuclear made electricity (converted to hydrogen perhaps - easy task for engineers).
The grids will still work (and not die out) and Californians will not give up on their air con.
The waste problem will be dealed with by deep undergraund burial and this will be safe.

The weapons proliferation problems are perhaps exaggeration as well.
You would not like fast breeders (plutonium making reactors) somewhere in Somalia or Sierra Leone but any weaponery made in that fashion would be of limited quantity and entirely useless to run "sustainable" war.

If used in Hutu-Tutsi type of conflict no one would really care (but there would be much talk anyway) and if such a poor nation armed with obsolete nuclear technology would make trouble outside, it would be swiftly anihilated by US military might.

1. Nuclear era is comming.
2. This will save global economy from collapse.
3. Anticipated risks of accidents or proliferation are grossly exaggerated.
4. Wars for resources (say US v. China) will be avoided if power generating structures are replaced on time.
5. And well, background radioactivity level will go up few %.

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