The Myth of Affordable Energy — Interview with Ed Dolan

Yves here. Some readers may be concerned that economist Ed Dolan has recently published a book on the “libertarian perspective” on environmentalism. I’m frankly a bit confused, since he very clearly advocates what he calls “full cost pricing” for energy, which means pricing in externalities. You’ll see below that he has an expansive view of what should be included. But that sort of pricing could be achieved only via government intervention, such as fees or fines imposed on producers, or end user taxes (he admittedly has more conventional views when the conversation moves away from energy to macroeconomics).

Interview conducted by James Stafford. Cross posted from

We were fortunate enough to speak with the well known economist Ed Dolan on various energy and economic issues.

In the interview Ed talks about the following:

• Why cheap energy is not vital to economic growth
• Why high oil prices aren’t necessarily a bad thing
• Why the U.S. Oil and gas boom is hurting Russia’s global influence
• Why Obama’s desire to cut oil industry tax breaks could be a great idea
• Why energy policy needs to be completely reformed
• Why Russia’s Arctic Exploration could cause the worst environmental disaster to date
• Why renewable energy investors should be very worried about the Natural gas boom
• Why the EU was flawed from the start
• Why subsidies for renewables are just plain wrong.
• Why we should give QE3 a chance
• Why abundant natural resources can bring a curse of riches Access to cheap energy is vital to economic growth. What do you see happening with the economy over the coming years as the time of cheap oil comes to an end?

Ed Dolan: In my view it is a myth that cheap energy – “affordable energy” as many people like to say is vital to growth. The idea that there is a lockstep relationship between growth of GDP and use of energy is widespread, but the data simply does not bear it out. Instead, what they show is that the world’s best-performing economies have become dramatically more energy efficient over time.

The World Bank uses constant-dollar GDP per kg of oil equivalent as an energy efficiency metric. From 1980 to 2010, the high-income countries in the OECD have increased their average energy efficiency by 55 percent. The United States has done a little better than that, increasing its energy efficiency by 81 percent over that period. That’s pretty remarkable, considering that we haven’t really had a policy environment that is supportive of efficiency.

Think what we could do if we did.

Even after the efficiency gains in efficiency we have made, we still have a long way to go. The US economy is still 15 percent less energy efficient than the average for high-income OECD countries, giving it plenty of room to improve. Switzerland is almost twice as energy-efficient as the US, and the UK is 68 percent more efficient.

Some people say that the only reason the United States has been able to grow while using less energy is the deindustrialization of its economy, outsourcing heavy industry to China. However, compare the US with Germany. Germany is an export powerhouse and Europe’s best-performing economy, yet its energy efficiency has increased at almost the same rate over the last 30 years as the United States, an 80 percent gain in efficiency compared to 81 percent. Furthermore, despite being proportionately more industrialized than the US and a major exporter, Germany squeezes out 41 percent more GDP from each kg of oil equivalent.

In short, we don’t have to hypothesize about the possibility of someday breaking the lockstep relationship of growth and energy use—we and most of the rest of the advanced world are already doing it. What effect can you see America’s Oil & Gas boom having on foreign policy?

Ed Dolan: On the whole, I see it as beneficial. Energy dependence has led us to buy a lot of oil from countries that are unstable and/or unfriendly to us. Anything we can do to reduce that dependence gives our foreign policy more room to maneuver. The beneficial effects reach beyond our actual imports and exports. The US gas revolution is having repercussions all the way to Russia, where Gazprom is seeing its market power undermined, and Russia, as a result, is losing some of the geopolitical leverage its pipeline network has given it. From Siberia and Poland to China and Qatar – the shale revolution has politicians salivating at the thought of a cheap and abundant source of energy. But can the results seen in the U.S. be easily replicated in other parts of the world?

Ed Dolan: I think you’re going to have to ask someone with more engineering background for the technical details, but from what I read, the answer is that it won’t always be easy. It is my understanding that some countries where shale seemed just recently to have great promise have already encountered disappointments in practical exploratory work. Poland I think is an example. Furthermore, the environmentalist opposition to fracking seems even stronger in many European countries than in the United States.

Still, I am hoping that the shale revolution will pan out in at least some countries. Think how much difference it would make, say, to Ukraine’s foreign policy if they were able to break their dependence on Russian gas. Gail Tverberg has written a recent article suggesting the world is suffering from high-priced fuel syndrome, which has the following symptoms:

• Slow economic growth, or contraction
• People in discretionary industries laid off from work
• High unemployment rates
• Debt defaults (or huge government intervention to prevent debt defaults)
• Governments in increasingly poor financial condition
• Declining home and business property values
• Rising food prices
• Lower tolerance for immigrants
• Huge difficulty in funding retirement programs, programs for disabled, and regular pension plans
• Rising international tensions related to energy supply

Do you think this is too convenient and an oversimplification of the problems facing world economies at the moment? What would you blame for the plethora of economic woes being experienced at the moment?

Ed Dolan: I don’t buy the argument at all. Yes, when countries are hit by unexpected upward shocks in fuel prices, we do see short-run results like slower growth and layoffs, but those are short-term problems. When the proper structural adjustments are made, countries with high fuel prices manage to achieve strong growth and full employment.

Where are fuel prices lowest? If you look up the data and rank countries by retail fuel prices, you find the low-price end of the rankings crowded with countries like Egypt, Cambodia, Iran, Pakistan—not exactly economies we would like to emulate.

We’ve got big economic problems, but a lot of them don’t have much to do with energy.

What about a healthcare system that delivers mediocre results at the world’s highest cost?

Health care isn’t all that much energy driven. What about our steady move down the international rankings in education—are you going to blame that on the high cost of heating classrooms? Hardly. Oil prices have been near to the $100 a barrel mark for some time now, and don’t look likely to drop back to previous low levels. What effect could this increased price have on oil importing economies compared to oil exporting economies?

Ed Dolan: Clearly, any oil price increase has the short-term effect of transferring wealth from using countries to producing countries. However, the long-run effects are what matter.

In the long run, high prices just accelerate the trend for using countries to become more efficient and less dependent. Meanwhile, the producing countries often don’t manage their oil riches well. They fall victim to the “curse of riches.” The curse takes the form partly of a loss of competitiveness in their non-energy sectors (the so-called “Dutch disease”). Partly it takes the form of corruption of their political systems. Russia is a poster child for both aspects of the curse of riches. Renewable energy is more expensive than fossil fuels, so how can people be persuaded to choose the less economical option of renewables over the likes of coal and natural gas?

Ed Dolan: There is only one right way to promote renewables, and that is to introduce full-cost pricing of all forms of energy. Full-cost pricing is a two-part program.

First, it means pricing that covers the full production costs for every form of fuel. No subsidies for anyone—not for oil, not for ethanol, not for wind or solar.

The second half of full-cost pricing is to include all of the nonmarket costs, what economists call the “external costs” or “externalities.” The most publicized of these are pollution costs, whether those take the form of local smog, oil spills, climate change, or bird kills. Some people, I am one of them, would like to count in something for the national security costs of dependence on unfriendly and unstable foreign sources of energy supply.

Full-cost pricing accomplishes two things. First, it levels the playing field so that each form of energy competes on its economic merits, not whether corn-growing states have early primaries or oil companies have big SuperPacs. Second, by raising prices to consumers to a realistic level, it accelerates the trend toward energy efficiency that is already underway.

Subsidies for renewables are just plain wrong, even if you look at them from a hard-core environmentalist point of view. With a subsidy, on the one hand, you say, “produce more green energy” and other the other hand, you turn around and tell the consumer, “waste more green energy.” We don’t want to waste energy from wind or solar any more than we want to waste oil and gas. We shouldn’t forget that even the greenest renewables can have significant environmental impacts.

The whole “affordable energy” idea is based on the myth that if we don’t include those external costs in the price—the pollution costs, the national security costs—they just go away. They don’t. Keeping prices artificially low just transfers those costs to someone else, someone unlucky enough to live downwind, someone who owns beachfront property that gets eroded away as the sea level rises, someone who has to go off to fight a war to keep the shipping routes open. There are two things wrong that. First, it’s immoral. If we believe in the market economy, the rule of law, and all that, we have to respect people’s property rights and their human rights. Second, it’s inefficient. It doesn’t strengthen our economy, it weakens it. If there’s one thing we can’t afford, it’s “affordable energy.” Obama has made clear his desires to cut the $4 billion a year tax breaks given to oil companies. What affect do you believe this would this have on the US economy and the US oil industry?

Ed Dolan: If it is done as part of a comprehensive move toward full-cost pricing, it could only strengthen the US economy. The oil industry would whine, but if we cut subsidies and tax breaks for competing energy sources at the same time, oil will remain a competitive part of the energy mix for many years to come. The oil industry has enjoyed decades of subsidies and grants, so do you think it is unreasonable to already start cutting the subsidies to renewable energies and expect them to survive on their own?

Ed Dolan: As I explained above, the answer is yes, provided it is done as part of a package that reforms our energy policy as a whole in the direction of full-cost pricing. Economic growth is generally dependent on the access to energy. As the supply of energy grows, so too does the economy (more or less). Global oil supplies are pretty much stagnant, so do you predict that only nations that successfully convert to a renewable energy mix with an abundant supply of cheap energy will be able to experience continued economic growth at a similar level experienced by the developed countries of recent years?

Ed Dolan: Again, I just don’t buy the doctrine that growth is dependent on ever-increasing energy use. For sure, those countries that pursue sound policies, like full-cost pricing to rationalize their energy mix and promote efficiency, are the ones that are going to keep growing. As the arctic ice melts at a rapid pace the world’s superpowers are jockeying for position to exploit the region’s vast oil & gas & mineral deposits. Environmental groups are rightly concerned, but is this a resource that we cannot afford to ignore?

Ed Dolan: Arctic oil, like any other source of energy, should pay full freight for any environmental impacts it has. If it can bear those costs and still be competitive, I think it should be in the mix. I am worried about Russia, though. It has a dangerous combination of an environment-be-damned attitude and low technical competence that could lead to headline-grabbing disaster worse than the Gulf blowout or Exxon Valdez. What effect do you see the shale revolution having on investments in renewable energy?

Ed Dolan: If I were trying to make money by generating electricity with wind or solar, I’d be worried about gas. I don’t have all the relevant numbers at my disposal, but my gut feeling is that even if you price in full environmental costs for wind, solar, and gas—including environmental costs associated with fracking—gas is still going to be pretty competitive. What are your views on Ben Bernanke’s QE3?

Ed Dolan: I’ve written repeatedly about QE over at Economonitor, so I am on record as saying we should try it. The trouble is, QE is not a magic bullet. Properly executed and properly communicated, it can help support the recovery, but it can’t do it alone.

That is one point where I agree 110 percent with Ben Bernanke Here is what he said in a speech at the Fed’s Jackson Hole conference at the end of the summer:

“It is critical that fiscal policymakers put in place a credible plan that sets the federal budget on a sustainable trajectory in the medium and longer runs. . . Monetary policy cannot achieve by itself what a broader and more balanced set of economic policies might achieve.” How do you see the EU solving its debt crisis?

Ed Dolan: I’m afraid I’m a euro pessimist. The US debt situation is hard enough to resolve, but Europe’s is worse. At the same time, whatever you say about gridlock in Washington, our political decision making is a model of streamlined efficiency compared with the EU. Do you think the EU was doomed to fail from the start with the format that it has? Could more success be seen in a split EU, with the northern/richer nations using one currency, and the southern/poorer nations using a different currency?

Ed Dolan: Doomed, I don’t know, but flawed, certainly. Just recently, I was looking back at what economists were writing about the prospects for the euro back in the early 1990s, when it was still just a project. They were telling us, for one thing, that Europe is too diverse to be ideal for a currency union—and that was when there were only 15 EU countries. Second, they said that you can’t run a monetary union without a central government, a fiscal union, and a banking union. You still don’t have any of those.

I am not sold on the idea of a northern euro and a southern euro. If the currency union doesn’t work, it doesn’t work. Break it up. Sure, some countries will find it works for their special circumstances to tie their currencies to a large, stable neighbour. I could see the Danes or the Latvians keeping a link to the German currency, for example, and I’m sure the Vatican will continue to use whatever currency Italy uses. But a formal, north-south divide doesn’t make much sense to me. In terms of tackling the current economic situation in the US, of the two main presidential candidates, who do you suggest is the best man, and why?

Ed Dolan: I do not think we can tackle the current economic situation without a thorough-going fiscal policy reform that includes three key elements: Spending cuts, revenue increases, and a rewrite of the whole tax system to eliminate loopholes and cut marginal rates. Furthermore, the package can’t be heavily front-loaded like George Osborne’s austerity program in the UK, which has sent their economy back into recession. Ours should be back-loaded, with an element of stimulus now and an ironclad commitment to move the budget toward surplus as the economy improves. It’s a lot to ask for.

We are not going to get good budget policy out of the GOP unless members of that party make a clean break with mantra that they will not accept a dime of new revenue, not even if it comes from eliminating the most loathsome tax loopholes. Personally, I am never going to vote for a candidate for President, the Senate, the House, or any office who has signed that nonsensical Grover Norquist tax pledge.

At the same time, I have been very disappointed at the lukewarm support Obama has given to the kind of program I would like to see. During the first debate, Romney said that when Obama didn’t “grab” Simpson-Bowles—that was his word, and a good one—it was a failure of leadership. That was one point where I agreed with Mitt.

Then, you also have to take into account the vote for Congress. I’m afraid there is going to be continued gridlock as long as the GOP controls the House. In the Senate, there are at least a few people in both parties who are willing to meet behind the scenes and talk compromise, but not in the House, not right now, anyway. Maybe what we need in the White House is someone who is a real politician, a negotiator and dealmaker in the mould of a Clinton or an LBJ. Instead, we have the choice between a manager and a law professor. I’m not optimistic that either of them will be able to do what needs to be done.

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  1. The Dork of Cork

    “Germany is an export powerhouse and Europe’s best-performing economy, yet its energy efficiency has increased at almost the same rate over the last 30 years as the United States, an 80 percent gain in efficiency compared to 81 percent. Furthermore, despite being proportionately more industrialized than the US and a major exporter, Germany squeezes out 41 percent more GDP from each kg of oil equivalent”

    Nobody would argue that Germany is not efficient….thats not the problem with Germany , although indeed you could argue efficiency is the problem when you reduce redundency in systems to acheive this.
    Infact that is efficiency baby.
    (For example animals that become too efficient in their natural envoirment are more open to possible extinction events when their envoirment changes.
    Also these are not nation states with internal energy systems….Germany needs trade deficit countries such as the UK to consume its overproduction of consumer goods.

    The problem with Europe in General is that it has used its efficiency to decaptilise its energy systems via the credit banking system , so private money really uses the surplus people create when they make energy sacrifices in Europe , so these choices are essentially pointless in the long run.

    The fact that Germany has overproduction of products and not energy says it all.

    What Europe needs is a major 1970s French nuclear programme that will take away real resourses from bank consumer credit products such as cars and redirect them towards this Goal.
    Also the UK needs to spend at the very least the current French spend on rail & Tram.

    Europe needs core investment in life support and low oil intensive transport , this can now only be acheived by taking out the extreme waste based car and second home industry as the credit banks have consumed most of the resourses already.

  2. The Dork of Cork

    Also trying to be “competitive” is a classic market state goal.
    The object of the game for a real citizen with skin in the game of a real country with real fucking borders is to create net wealth.

    That man is a obvious shill for the banks.

    If for example increases in car millage / surplus cannot be directed into basic life support investments then its better to burn baby burn.

    1. rjs

      dont think so…had a few exchanges with him; he’s an environmentalist who has been educated as a market economist…education is one of the most difficult encomberances to rid oneself of…

      1. The Dork of Cork

        Are you sure ?

        Its amazing how environmentalists cannot visualise how closed energy systems or the semi closed energy systems of post war nation states operate.

        Its not much different from looking at island ecosystems vs mainland Jungles.

        Using former nation states as a example in the modern market state mayhem that is Europe is crazy….these unlimited capital (energy) and subsequent Labour flows completly overpower domestic energy systems.

        The gross malinvestment in Ireland is to a large extent a function of domestic credit banks filling a supposed domestic demand hole as Labour (wages) in energy intensive operations such as air transport and house construction was cut or sent abroad via Labor Remittances so as to make it appear more competitive.
        Ryanair (a low fares airline) is a classic example of this.
        The reduced air fares caused by lower labour costs post 1987 in Ireland masked the rise of fuel.
        So we had a huge explosion in air traffic which was a gross malinvestment of capital.
        If there was a rational wage demand signal post 1987 they would have built a rail tunnel under the Irish Sea by now.

        Instead the Dublin to London air route was the busiest in Europe until it was not.
        It experienced the biggest drop in air traffic in Europe.

        1. tiebie66

          If I understand you correctly (and the strong emphasis on real goods), it implies that net wealth can be created internally in any country where there is equilibrium between expectations and competence (i.e. what is considered ‘wealth’ and what could be supplied to that end). Trade then becomes merely a peripheral endeavor rather than an economic centerpiece.

          Two questions,
          (i) how do you suppose to create such a system (e.g. ensure proper wages);
          (ii) why would ‘competitiveness’ not reemerge as a problem within a net wealth-creating economy (i.e. in a non-market state)? Why is it a problem at the level of the market state but not on the level of the firm or the level of the individual?

          1. The Dork of Cork

            @Tiebie 66
            Any recent historical observation of the local European space would suggest something very dramatic happened to trade patterns after Londons Big Bang of the 80s.

            This process was happening in the 70s but exploded after the mid 80s.
            For instance Ireland began to rack up a huge surplus in its balance of trade.
   (go to 1982)
            Ireland must do this as it is non sovergin (even in the 80s it was a sort of pretend sovergin)
            It must export to earn a income – therefore its efforts become manic and slightly comical after a period.
            Exporting is a form of reexporting energy.
            (Ireland got more of its energy from the North sea as the UK no longer became a industrial country and thus there was no need or at least price signal that would push investment into Nuclear rather then gas)

            It follows that with less internal unleveraged funds less internal commerce and rational capital formation can be executed.

            Ireland became a extreme example of this leverage with for example turkish workers bused into Cork to build a road late in the bubble period.

            This was to keep the cost of projects like this down as energy costs began to rise.
            As the Turkish workers returned the local banks created consumer credit to fill the apparent demand hole created.
            So the input-output signals were all screwed.

            PS – the first projects to be scrapped after Londons big bang was future Nuclear stations , look at the IEAs website country graphs. (Italy , Spain , UK , Germany etc)
            London used North sea and other gas and oil to fill this demand space as it was less capital intensive and thus more profitable in the short term (until the stuff was gone)

            All of the PIigs were fed huge amounts of gas or oil , in the case of Ireland it was both ,in Italy it was just Nat gas as it shut its Nuclear programme down.

          2. The Dork of Cork

            PS ….if the Irish state printed Punts and I mean print then the remaining wealth would not disappear (although there is not much remaining)
            But this would be a form of internal demand signal ,subtracting from what I call external BMW like demand (although in truth our road vehicle imports will be only 1.3~ Billion this year)
            The buses would be full but the car capital stock would decline by a very large amount – my guess back to the 1990 levels of 800,000 rather then the 1.8~ milllion of today.

            So air transport would also collapse to at least 1990 levels ,redirecting what little internal wealth remaining to rational demand and capital investment and in my world that means trams…..
            In closing the most extreme waste based systems would be exposed but at least we would not be force fed net capital extractive goods such as cars.
            This would of course be a shock to the core and indeed the UK but they would get more oil to waste on their internal systems.
            These cars build in Tyne and wear would certainly not be the second most popular cars in Ireland now .
            Amazing is it not ? – look at the size of those things !!!!

            In the Ireland of the early 80s depression the only cars bought were little 1 litre petrol box cars.

  3. mmckinl

    False equivalencies …

    Switzerland and Germany are the two most industrialized countries on earth … They also have huge businesses in banking, financial services, insurance and re-insurance, chemicals and pharma.

    Switzerland and Germany industries engage in the very high end of manufactured goods where margins are good and where prices are very high.

    Banking, financial services, insurance and re-insurance offer huge additions to GDP without high inputs of energy.

    Specialty chemicals and pharma also offer excellent energy ratio production.

    So in both cases these countries have wisely concentrated their efforts on high end low energy ratio businesses. Their subsidiaries overseas work on the low ratio end.

    So according to Ed Dolan countries must concentrate their efforts on these high end markets which ends up being the same argument that every country must be a net exporter.

    Switzerland and Germany, it must be noted, have accomplished their industrial policy during a cheap oil period when other countries could afford to buy their high end products.

    As the rest of the world economy is choked off by peak oil we will see just how far the export economies of Switzerland and Germany can get …

  4. Brick

    Sorry but I am not convinced by some of the arguments here. Cheap energy may not be vital to economic growth, but it sure can help. Rothman Technologies ability to run a combustion engine on sea water or John Kanzius discovery that radio waves combined with doped water can produce cheap hydrogen, show possible future paths for cheap energy. Breaking the relationship between GDP and energy prices might be a good thing, but that does not mean economic growth would not benefit from cheap clean energy.

    Fuel price shocks need not affect growth with the proper structural adjustments, like people should stop eating. Full cost pricing and no subsidies for all fuel types seems like a good idea, but there is no mention of curtailing lobbying power or even levelling taxation on fuel.

    Back loaded Spending cuts, revenue increases, and a rewrite of the whole tax system to eliminate loopholes and cut marginal rates should appeal to some. Personally while I would support rewriting the tax system, I suspect a real cheap clean energy source would give revenue increases amd prevent spending cuts or at least give time to adjust.

    There are good points about why we should adjust in the short term but I find the thinking a little narrow.

    1. citlapram

      You’re dreaming, man. The tax code will not be re-written in the U.S. Ever. That is, not unless people demand it and fight for it en masse.

    2. gepay

      Once a country is industrialized then it can still prosper even with higher prices for energy. Adding an energy source such as coal that fueled the original industrial revolution can create high GDP growth. Adding cheap oil creates the conditions for even higher GDP growth. I believe you can’t get much more than 2% growth unless you use debt or add a new energy source. Yes occasionally technological progress can give you a spurt. Or special circumstances such as the US after WW2 (being the only intact major industrialized nation) Today we experiencing the limits of growth financed by debt or creating asset bubbles as it is called. Unfortunately the 1% is not satisfied with returns of 2%. Hence all the financial gimmicks to wring better returns rather than by financing the real economy.
      Notice how the powers that be are keeping the oil price below the $150/barrel limit that popped the real estate bubble.
      Nations can improve living conditions in other ways than just raising the GDP.

  5. The Dork of Cork

    3.4 billion this year ! the big banks are investing in RFF , JP and the lads
    SNCF spent 2.364 billion Euros on capital stock in Y2011 (58 % on rolling stock , 42 % on stations etc)
    To compare british private investment in rail capital during Y2011 /12 was £503 million of which £369 million was rolling stock……pathetic

    From the UKs ORR
    “Government subsidy towards the railway industry in 2011-12 was £3,901 million (£3.9 billion), this is £59 million lower than the previous year.

    2). Government support reached its peak in 2006-07 with £6,308 million; government support has declined every year since.”

    The lines to the south are now reaching capacity limits because of a lack of fiscal money as passenger numbers keep increasing.

    Therefore the UK is more “efficient” in the use of capital stock but this surplus from capital rundown is expressed by more bank credit production for cars and stuff which further burns the remaining resourse base.
    Pointless in the long run , as I said recently they are merely the last europeans holding credit notes which is why their car purchases is the only positive figure this year of the large European countries.

    Also the French state typically provides 1 third or more of the money for new rail projects and the regions provide another third of the funding with RFF doing the remainder so RFFs 3.4 billion expenditure this year is but one part of the rail investment
    38% state
    38% region
    24% RFF

    All industry requires subsidy – the bank consumer credit industry and its products has required a subsidy of many 10s of trillions.
    French fiscal subsidy of the Nuclear Industry in the 70s before the fiscal debt had time to reach its exponential function has proven to be very effective.

    Its often off balance sheet new rail investments (PPPs etc to bypass the Euro fiscal rules) will also probally prove very effective despite the extreme corruption of such practices.

    But these PPP deals are needed if one wants to become a good European or a good German.

    PS German gross fixed capital formation is below the EU average of 18.6 % at 18.2% of GDP in Y2011
    It is not a model to follow.
    The UK fixed capital , most of it housing grot is almost third world at 14.2% and just above the now offical third world countries of Greece (14%) and Ireland (12.6%)

    French fixed capital formation is above average at 20.1% and this includes very major tram investment in recent years as it partially replaced the decline in house construction as the credit hyperinflation died.

  6. Lafayette

    In my view it is a myth that cheap energy – “affordable energy” as many people like to say is vital to growth.

    There is a body of thought that disagrees with Mr. Dolan.

    Here is an excerpt from WikiP titled “Energy and energy efficiency theories”:

    The importance of energy to economic growth was emphasized by William Stanley Jevons in The Coal Question in which he described the rebound effect based on the observation that increasing energy efficiency resulted in more use of energy. (See: Jevons paradox) In the 1980s, the economists Daniel Khazzoom and Leonard Brookes independently put forward ideas about energy consumption and behavior that argue that increased energy efficiency paradoxically tends to lead to increased energy consumption. In 1992, the US economist Harry Saunders dubbed this hypothesis the Khazzoom–Brookes postulate, and showed that it was true under neo-classical growth theory over a wide range of assumptions.

    Ayres and Warr have presented a model that aims to address deficiencies in the neo-classical and endogenous growth models. It claims that physical and chemical work performed by energy, or more correctly exergy, has historically been a very important driver of economic growth. Key support for this theory is a mathematical model showing that the efficiency of a composite indicator using electrical generation and other energy efficiencies is a good proxy for the Solow residual, or technological progress, that is, the portion of economic growth that is not attributable to capital or labor.

    Energy growth theory economists have criticized orthodox economics for neglecting the role of energy and natural resources. Ayres and Warr’s model relates the slowing of economic growth to energy conversion efficiencies approaching thermodynamic limits, and cautions that declining resource quality could bring an end to economic growth in a few decades. Hall et al. 2001 state: “Although the first and second laws of thermodynamics are the most thoroughly tested and validated laws of nature [..] the basic neoclassical economic model is a perpetual motion machine, with no required inputs or limits.”

    Admittedly, the above evidence/opinion is not conclusive. But as a once-practicing engineer, I doubt that Dolan’s contention bears much relation to factual evidence at present. Otherwise, an economy’s productivity is more a matter of magical abracadabra.

    Then there is this thought: We are transiting from the highly energy-intensive Industrial Age to the lesser intensive Information Age, as can be seen in the percentage of GDP attributed to Services Industries far outweighing that of Production Industries.

    In this context, economic growth more depends upon brain-work than brawn-work. It is therefore altogether possible that less energy per unit of output (measured in BTUs per monetary value) is indeed possible.

    1. Tom

      I do agree that the total cost of energy sources should be in the price paid. The thought that higher energy production leads to more energy use should be looked at in the light of – did the higher energy production lead to lower prices that made the relative energy input value to total product cost go down – another words, because energy costs are low we don’t worry how efficiently we are using it. Now, because we as a global community competing for energy resources have finally (some groups wish to deny it) realized that the collateral costs of energy (military intervention, climate change, environmental destruction, health costs etc), having been hidden from view and may surpass the cost of a barrel of oil ($100barrel + 120 collateral)…. now that we finally see it, we should, logically add the total input cost into the equation so that market dynamics will find efficiencies to lower energy input costs in production. We have for many decades been only looking at less than half of the energy cost inputs when establishing output product cost. As a country/globe we have been deferring this actual cost to future generations – it is past time we start paying it down so that our planet does not regurgitate humans like a cat does a fur ball.

      1. Tom

        I should have said ‘since man harnessed fire’ and not decades above. We humans have been subsidizing energy since we harnessed fire by not capturing the true costs of energy usage – to the great detriment of fellow humans. for you bible thumpers (no offense) we have been put here to care for the earth and hold dominion over it – we obviously are doing something wrong or our environment would not be wanting us to kick us out so badly.

        1. Lafayette

          We humans have been subsidizing energy since we harnessed fire by not capturing the true costs of energy usage

          True enough, as far as traditional energy sources go.

          And that “true cost” (which includes pollution) will only be paid when the US adopts a “Carbon Tax”, which will help shift pricing in favor of Renewable Energy Sources.

          I never tire of reminding people that just a three/four feet below the surface of the earth one finds a constant temperature year round of 18°C (65°F) that can be employed, using a heat-pump, to produce ample energy to warm one’s house in winter (and reversely, cool it in summer. That energy is free, gratis and for nothing.

          But of course, there is an initial cost to employ it – which is why government subventions would be necessary.

          I installed just such a geothermal heating system, subsidized by a tax-rebate from the French government. It works perfectly well and cheaply.

          And this is only one example. There are also others where renewable energy sources are literally at our finger-tips.

          Where there’s a will, there’s a way. Where there are BigPetroleum, BigGas and BigCoal lobbies, there seems to be no will in Congress to subsidize the promotion of such renewable energy sources aggressively.

          1. Yves Smith Post author

            In Poland, many homes are built with geothermal wells. They can heat the house to about 55 degrees at no cost, so the additional energy required to heat it in the winter is greatly reduced. And they somehow use it to cool houses in the summer too. It’s grotesque that this sort of technology isn’t deployed widely.

          2. The Dork of Cork

            According to the IEAs “energy balances of the OECD nations Y2011 pub.” Poland has become a net importer of coal……!

            Self suff. coal
            Y2000 : 1.26
            Y2010e : 0.997

            Germany is further down this road.
            Self suff. coal
            Y1990 : 0.9472
            Y2010e : 0.5874

            I can’t bring up the German domestic energy production graph but if you go into the IEAs site (Germany) you can see a dramatic fall of domestic energy production in the mid to late 1980s as all new investment in new Nuclear stopped.

            In my opinion this was a result of the big bang credit production system where the already mercantile Germany put all of its resourses into consumer goods production rather then fixed capital energy production to feed the new credit token production system in London.

            This event happened in all of the major Euro countries at the same time and is at the core of the gas shortage now as in countries such as Ireland high value Nat gas is used for much of the base load !!!

            If people want to live in cities then Nuclear fission is the only mechanism , its probally too late for that now but thats how it is.

            This renewable stuff cannot cut it for the populations now around.
            It simply does not have the POWER.
            A dispersed population needed for this geothermal stuff has its own costs….again the system would need to deindustrialize so as to be sustainable as cars would not be available to link these people together and public transport not viable.

  7. Brooklin Bridge

    Obama didn’t “grab” Simpson-Bowles???

    F**k you, Dolan. You should have your sorry, “subsidies to the wealthy” fat ass put on a diminishing cat food diet.

  8. Ignacio

    Too conventional on the pricing theme. Energy is a commodity and suppliers work with narrow margins. Fat benefits for, let’s say oil suppliers depend greatly oh high volumes. Fossil fuels needed many years of development to become a dominant woldwide energy supply. If, you want to replace fossil, with green fuels, for whatever reasons, the fossil fuel monopoly acts as an enormous barrier to be surpassed by a nascent industry because it has the benefits of scale. By subsidizing green energies you allow investors to proceed to small-scale, pilot scale and pre-industrial scale (directly or by passing the costs to the public in different ways). In the first stages subsidies work well, and passing the price to consumers works better in late steps. Pricing the externalities as the author suggests is tricky and prone to the intervention of powerful well stablished producers in order to reduce as much as they can the cost of those externalities. On the other hand, if you price them correctly you may find that errr… your economy simply cannot afford the consumption level and should shrink in an unbearable way.

    A good example of subsidized green energy that has succeeded to be implemented is the biogas industry in Germany and other european countries. Biogas is mainly used to generate electricity like natural gas. In Germany, different subsidies for biogas production exist depending on the type of raw material employed. The cost of the subsidy is passed to the consumer and, most importantly, acces to the electric grid is guaranteed and prioritised against electricity generated with fossil fuels. Around the biogas industry a whole machinery, consultancy, R+D, automation (etc) industries have been generated. Those industries did not exist and helped to maintain unemployment rates low in Germany. (Now they seek to export, logically). This industry, if being rationally planned has many other good externalities contributing to a integrative agricultural/ urban/industrial development. It created additional value to the primary sector. Also, it helps to treat waste and odor problems from industrial/agroindustrial/urban wastes and to avoid the emission of greenhouse effect gases (form wastes).

    Instead of trying a tricky pricing of externalities that would have delayed biogas development, they resosrted to a well designed subsidy scheme and it worked very well.

    These market-oriented economists are far away from reality.

  9. The Dork of Cork

    If Germany was so good at energy production why is its overall consumption tanking ? (diesel consumption remained up until recently)
    The recent run of capital / oil north to the Alps and beyond has feed the French & German ability to do work & leisure at the expense of Italy for example.

    You can see this happening in dramatic fashion when you look at Spain , Italy diesel consumption relative to German , French consumption.

    In think the Europe crisis is a failure of the German / Europe Industrial model , it (Germany) has succeded so far by transfering these loses to the PIigs.

  10. Ed Dolan

    I’ve been following this comment stream with great interest. So far the most intelligent comment I have come across is this one:

    “F**k you, Dolan. You should have your sorry, “subsidies to the wealthy” fat ass put on a diminishing cat food diet.”

    Carry on, gentlemen (and ladies, if there be any among you)

    1. The Dork of Cork

      Whats wrong with this Dorks observations then ?

      Please , feel free to express yourself but attack the ball and not the man if you want to mantain some credibility.

  11. Walter

    Meanwhile, profit and money for capital sourcing individuals continue to take a front seat over quality of life for everyone. Hasn’t anyone read Shock Doctrine? The term “structural adjustment” sounds so intelligent and neutral — almost as authoritative as Martha Raddatz’ affirmation that Social Security is broke during VP debates when it is no such thing. Yet SA means gratuitous suffering and death for millions so the 1% can profit. WTF? Full cost pricing = privatization of profits and socialization of losses (costs). We need a different system, people.

    1. Tom

      Maybe when running up the cost through the addition of the collateral cost – that collateral cost be used to ameliorate the planetary difficulties we find ourselves in – research and development, alternative infrastructure to support new energy sources including point of use energy sources, cleaner technology in the cleaning of fuel by-products etc.

  12. Susan the other

    The big wobble in our orbit is the military. We should use it. The Military Industrial Market. Green energy? No problem whatsoever.

  13. American Slave

    Green energy is extremely valuable when you include that it allows us to reduce imports or increase exports of coal and natural gas yet somehow economists don’t seem smart enough to see that.

  14. steve from virginia

    Sorry, more shill-speak from an oil ‘analyst’, talking whatever book he has at the moment.

    What Dolan speaks of is relative efficiencies: one form of waste taking place at a slightly lower rate than other forms of waste … capital destruction. The end of the road is the same place, depleted capital. The cause of the world’s current crisis is depleted capital. Whether the world’s consumers and industrialists like it or not capital is being repriced to the point where the debts required to acquire new capital are in and of themselves breaking.

    New capital is always required … to burn up for nothing!

    The real problem isn’t efficiency. Every person who reads this comment has a car … the car cannot be paid for by driving the car! Some other outside activity must pay for the car. Neither can the fuel used in the car paid for by driving the car … unless the readership @ Naked Capitalism drives taxicabs. What pays for the cars? What pays for the fuel? What pays for the car factories, freeways, the asphalt and concrete? What pays for the millions of tract houses? What pays for office buildings, oil production facilities? What pays for the finance industry and the insurance industries, the militaries needed to steal oil from other countries? What pays the downstream costs of these thefts? What pays for the bloated governments and finance sectors needed to have and play with all the cars?

    Not the cars, never. It’s impossible.

    There is US $100 trillion in debt on the world’s books plus at least US $500 trillion in implied liabilities – the US $1 quadrillion in nominal swaps represents an equivalent amount of ‘hedged’ debt. This is debt that cannot possibly be paid off/paid for by driving the cars. None of the other things can pay for themselves, either! We’ve created a monstrous, planet destroying toy … we’ve labeled it ‘the economy’ and now that is has cannibalized enough capital to make the managers sweat bullets there are the serious shills out in the media to convince ourselves that laws of thermodynamics don’t apply to us. “We’re ‘efficient'”.

    In the long run, high prices just accelerate the trend for using countries to become more efficient and less dependent.

    What utter nonsense! How is the Chinese economy — which gobbles the same amount of energy as the US with one-half the GDP — going to become “more efficient”? China has spent trillions building out its current infrastructure: is China going to replace all that ‘stuff’? It will add to it but the lifespan of China’s inefficient coal-gobbling power stations is 50 years. Dolan has a long wait.

    As for pricing, a gallon of gasoline has the energy equivalent to a month of human labor;

    Charging $2,000 per gallon would be fair, right?

    Just get rid of the goddamned cars!

    1. different clue

      I don’t have a car and I am one person reading these comments. There may be other carfree persons here reading these comments. Of course everything I buy, make, or do reaches me by ship, truck, or train but still . . . I do not have a car.

      About full cost pricing, I assert that I have had the layman’s version of that concept for several years now under the name “truth in pricing”. I claim that to be a true statement.

      About Simpson-Bowles . . . Simpson-Bowles is a plan to avoid paying us back the SS money we have been PREpaying INto Social Security ever since 1983. It is a plan to avoid restoring the missing taxes against the Bush Tax Cuts class who used those tax cuts to pre-steal out SS PREpayments trust fund money through the clever gambit of not paying back to the young-end boomer SS beneficiaries the money which they(we) were told was being PRE-collected FROM us “now” to pay back TO us “later”. The obvious first step to reducing the deliberately engineered rising debt is to let the Bush tax cuts sunset completely. And then raise taxes against the primary social class beneficiaries of those tax cuts enough to claw back the entirety of their ill gotten gains which are in fact our PREpayed Social Security trust fund money.

      There. I have tried my best to explain my rejection of Simpson-Bowles and the upper-class-advantage-seeking motivation behind it. And I didn’t use any cuss words at all.

      Economic growth is the process of turning rising amounts of energy into waste heat in order to turn rising amounts of processable matter into waste crap. Economic growth will stop when the processable matter substrate runs short and/or runs out. Here is a corrective little website which tries to explain that to economists.

  15. steelhead23

    Dolan presents a terrific idea – to internalize all those production and post-production externalities; he then ignores how those costs would be collected when discussing the larger economy. Here’s the deal: There is only one mechanism to achieve full-cost pricing – a tax or fee system. That’s revenue baby! So, imagine that we could identify the actual cost of all those externalities (in reality, it is impossible to achieve full-cost pricing – e.g. what is the cost of a polar bear?). So, if the production cost of a gallon of gas is $2 and the external costs are $2, the only way to capture that external $2 would be to place a $2 tax on that gas. BTW – I have looked into some efforts to price certain externalities and it is damned hard. Also, wouldn’t you wish to reward those who in fact reduced their external costs, by say reducing pollution? It would require an enormous bureaucracy to provide a sufficiently sensitive external cost collection system to make the process effective and stimulate innovation.

    So, while I strongly agree with Mr. Dolan in an academic ideological sense, noodling out how pricing in externalities might actually be effected tends to make my head spin. Please Mr. Dolan, tell us how to do this. Frankly, if this could be done, and import taxes imposed equal to the net benefit to the supplier of lower foreign labor and environmental protection costs, combined with other existing fees, we could likely reduce income tax rates 10 percent or more. And it would generate a spate of new innovations to reduce those externalities. Like I said, I like the idea, I just can’t figure out how it might be done.

    1. Ed Dolan

      Steelhead23 writes: “noodling out how pricing in externalities might actually be effected tends to make my head spin. Please Mr. Dolan, tell us how to do this.”

      You are right, a tax would be one way, maybe even the best way to do it, as I have often maintained. You are also right that it is very hard to calculate the exact value of externalities, so the tax will probably not be correct to the penny or even to the dollar.

      However, the fact that a quantity is hard to measure does not mean that its value is zero. Within a very wide range, it would be better to have a tax (or some other full-cost device) that raised price by some positive amount in the direction of full cost pricing than to have zero charge for externalities.

      Yves: While I’ve got the comment box open, let me reply to a related idea in your intro. You wrote “that sort of pricing could be achieved only via government intervention, such as fees or fines imposed on producers, or end user taxes”

      I agree fines or user charges might be the most practical ways to go, but libertarians have always recognized they are in a sense a second best. The ideal would be for people downwind from the polluter to have some way to protect their property and persons through tort law or some other more property-rights oriented mechanism. Unfortunately, both our legal system and the realities of transaction costs often make that impossible. As a second best, we then resort to taxes or finds for the same reason that we are glad to have a government-paid cop on the beat to stop muggers, even though in a Heinleinian anarcho-capitalist utopia, we would have private guards.

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