Download Energy and growth in the 21 century: macroeconomic impacts of the

KAM Tan / 79-354 (Spring 2014)
Energy and growth in the 21st century: macroeconomic impacts of the
transition to unconventional fossil fuels
Kevin Alastair M. Tan
Carnegie Mellon University
The meteoric rise of oil prices during the mid-2000s sparked strong concern about the
world’s ability to maintain a growing energy supply (Rapier, 86). However—at least in
mainstream media—these concerns have since been allayed by the rapid proliferation of
unconventional sources of hydrocarbons: shale gas, tight oil, tar sands amongst many others
(Hughes 2013). These unconventional hydrocarbons have been made viable through a
combination of prolonged high energy prices and technological advances, the most prominent
being hydraulic fracking (Hall et al. 2014). Estimates of the world’s reserves of unconventional
hydrocarbons are immense, by many measures exceeding those of conventional oil and gas.
Additionally, much of these unconventionals are located within North America. As such,
unconventionals have been touted to revolutionize the energy industry, promising to usher in a
new era of cheap energy and North American energy independence (IEA 2013; Hughes 2013;
EIA 2014).
However, unconventional fossil fuels have a major and seemingly-overlooked caveat:
high monetary, energetic and environmental costs of production. Unconventional sources of
hydrocarbons are generally much more difficult to extract, transport and refine than
conventional sources (Smil, 204-205). Though exact numbers are impossible to determine,
many geologists believe that opportunities for growing production from conventional sources
are becoming increasingly rare (Rapier, 51). Unless a paradigm shift is seen in the energy
industry, it is almost certain that the proportion of unconventionals in world energy production
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will increase markedly in the upcoming years and decades. Thus, it is important to assess the
macroeconomic impacts of the higher costs associated with unconventionals, especially in the
context of the continued economic malaise that has plagued much of the world economy since
the Great Recession.
Energy and Growth – Historical Relationships
It is important to characterize the historical relationships between energy and growth, as
it is integral in framing the transition to unconventional fossil fuels within a broad historical
context. They key to understanding these relationships is through the concept of energy return
on investment (EROI). Simply put, the EROI of an energy source is the ratio of the amount of
usable energy acquired to the amount of energy expended in attaining it (Gupta & Hall 2011).
EROI is key to the success of any biological system, human civilizations not excluded. The
success of humans, from its evolutionary origins to the present day, can be attributed to the
EROI of its energy sources. With the advent of bipedalism, humans only required a quarter of the
energy per unit of travel compared to other primates. Additionally, the discovery of fire
externalized the significant energy requirements of digestion and temperature regulation. These
not only provided humans with an energetic advantage over other species, but also allowed for
evolutionary pressures to direct more energy to brain function, giving rise to humans’ superior
cognitive abilities (Brown et al. 2011; Hall & Clitgaard, 42-44).
In pre-agricultural societies, the EROI of hunting and gathering dictated population size
and standard-of-living. If the round-trip distance of gathering the required amount of food
exceeded 11 miles, EROI dropped substantially, as this required an additional days’ work (Hall &
Klitgaard, 44). Hunter-gatherer communities were generally placated with an EROI at or above
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10kcal gained to 1kcal expended. When EROI dropped below that threshold, communities
became strained; the most common resolution was migration. Periods of competition and
unfavorable climate conditions dropped EROI below 10:1 with varying frequency, spurring waves
of human migrations (Brown et al. 2011).
The agricultural revolution dramatically raised the EROI of food. The abundance of
energy enabled the formation of cities, bureaucracies, and governments—in other words,
civilization. However, the pre-industrial equivalent of Jevon’s Paradox is that gains in
agricultural yields will be outweighed by corresponding increases in population and societal
complexity (Hall & Klitgaard, 48). The net effect was a decrease in nutritional standards for the
masses, and a general deprecation of quality-of-life compared to hunting and gathering (Tainter
191). As agricultural societies grew in terms of population and GDP, they eventually reached the
production capacity of their territorial environment. Thus, in order to grow further, civilizations
needed to use strategies of territorial expansion and subjugation (Hall & Klitgaard, 57; Tainter,
192). While initial expansion is quite fruitful, continued expansion gradually decreases in EROI.
As territory expands and energy supply grows, more energy is required in maintaining it:
transportation, infrastructure, bureaucracy and security. Eventually, the EROI of territorial
expansion drops below the threshold of viability (Hall & Klitgaard, 57)
The outlined developmental trajectory of growth, stagnation and collapse has held until
the “rise of the West.” For centuries prior to the rise of the West, Europe was a cultural and
economic backwater (Marks, 124). Europe’s economic fortunes began to change during the 16th
century renaissance, the beginning of colonialism in the Americas. The ecological richness of
unspoiled American land provided European powers with high-EROI sources of energy, primarily
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in the form of timber, sugar, cotton, and fish (Marks, 125). However, colonially-sourced energy
gains were eclipsed by the mass adoption of coal, which first began in 1750’s Britain (Hall &
Klitgaard, 69). Coal—a product of millions of years’ worth of compressed biomass—exceeded all
previous energy sources in abundance, energy density, and usability by several orders-ofmagnitude. For the first time, humanity could transcend the limits to growth imposed by annual
solar energy flows—limits that had plagued all successful civilizations since the agricultural
revolution. The end of the “biological old regime” in Europe marked the true beginning of the rise
of the West (Marks, 126).
Due to the abundance of
fossil energy, machines became
ubiquitous and could be scaled up
exponentially. The adoption of
fossil energy in transportation
introduced rapid mobility to the
masses, effectively compressing
space and time. All of these factors
World energy production and GDP, 1800-2008. Energy from hydrocarbons
resulted in a corresponding increase in GDP. (Hall & Klitgaard, 44)
resulted in unprecedented gains in economic productivity, socioeconomic complexity, and
population size (Brown et al. 2011). This new-found energy, wealth, and technology spurred
widespread and systematic European conquest of the Americas, Asia, and Africa, further fueling
the West’s meteoric rise. By the mid-19th century, the West had attained unquestioned economic,
geopolitical, and military dominance the world over. Regions still stuck in the “biological old
regime” entered a poverty trap due to limited energy access alongside varying degrees of
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economic, political, and military subjugation. These regions referred to today as the “developing
world” (Marks, 205-7).
Neoliberalism – Energy, Debt and Growth
The rise of neoliberalism in the 1960’s has resulted in massive structural changes in the
world economy, changes which have had a profound impact on the relationship between energy
and growth. In the decades following World War II, widespread reforms of economic
liberalization, financial deregulation, and privatization have brought with it a new economic and
geopolitical paradigm commonly referred to as “neoliberalism.” The resurgence of laissez-faire
ideology was a response to widespread stagflation in the developed world. The perceived
inefficiencies of Keynesian economics and the welfare state were blamed as the primary cause
of economic malaise; thus, these systems were eschewed in favor of the private sector and
market forces (Hamilton et al. 2009). Aided by the efforts of transnational institutions such as
the International Monetary Fund, World Bank, and World Trade Organization, the world’s
markets—particularly in the developing world—had become much freer by the end of the 1980’s.
This had the effect of accelerating the currents of globalization, bringing about a new level of
economic integration and interdependency throughout the capitalist world—the mass
delocalization of commodity chains (Hall & Klitgaard, 191-192).
With economic liberalization and relaxed labor laws, neoliberalism spurred the
deindustrialization of high-income countries. Freer markets made it viable for rich-world
companies to access the low-cost labor and commodities markets of the developing world.
Furthermore, the erosion of labor protections and deunionization made it much easier to
outsource (Hall & Klitgaard, 193). In effect, this externalized much of the energy costs of
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developed nations, as energyintensive industries such as
manufacturing were outsourced
to developing nations (Smil, 88).
Thus, economies increased their
dependence
on
oil,
as
transportation distances grew
Food and oil prices are tightly coupled. (UN FAO 2012)
exponentially. The green revolution is also thought to be a derivative of neoliberal currents
(Marks, 186). The green revolution increased agricultural productivity by 200-300%, resulting in
a commensurate increase in world population. This was possible primarily due to the use of
hydrocarbon energy inputs in agriculture: fertilizers, pesticides, mechanized farming techniques,
and increasingly-delocalized food chains. Thus, food prices became tightly coupled with oil
prices (Hall & Klitgaard, 385-6). Overall, neoliberalism has increased the “energy overhead” of
economic activity.
Neoliberal deregulation of the financial industry has caused it to become the dominant
force in shaping the world economy (Hamilton et al. 2009). “No matter where you are in the
world, you can’t do anything big without the approval of Wall Street” (Hall & Klitgaard, 191).
Deregulation has facilitated the availability of credit, both public and private. The advent of
complicated financial instruments such as derivatives serve as robust mechanisms of credit
creation through the speculation or hedging of the value of other assets, called underliers.
Underliers are a combination of commodities and other financial products such as mortgages,
stocks, and bonds—in other words, the creation of credit through debt (Hall & Klitgaard, 197-9).
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Consequently, debt levels in rich countries have skyrocketed, often exceeding value of national
GDPs two-or-threefold. Much of the economic growth seen in the neoliberal era can be attributed
to debt (i.e. deficit spending), and its consequences have been felt in the form of financial crises
and austerity measures (Hamilton et al. 2009).
Mainstream economists cite economic growth as a reliable apparatus for sustaining
high debt loads, as growth facilitates the relatively painless distribution of debt to the rest of the
economy (Hall & Klitgaard, 195). Thus, the assumption of indefinite economic growth serves as
a postulate for the contemporary financial system—debt would not be fundable without it. In a
world with an expanding energy supply, this postulate has held true. However, the transition to
unconventional hydrocarbons indicates that growth in energy production is becoming much
harder to achieve. The implications of this are very important to understand, as the transition is
already occurring in full force at the present time.
Transitioning to Unconventional Fossil Fuels
The
transition
to
unconventional hydrocarbons
is most evident in the North
American natural gas industry.
For example, in the United
States, shale comprised only
1% of natural gas production in
2000. In 2010, this figure has
US natural gas production, 2010-2040. Unconventionals have come to
dominate US natural gas production. (EIA Reference Case, 2014)
jumped to over 20%, and is
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projected to exceed 50% during the 2030’s, by which time conventionals should only comprise
5% of total production (EIA 2014). Unconventional natural gas is much more developed in North
America compared to other regions, but significant reserves are located in 48 structural basins
within 38 countries on all six inhabited continents (EIA 2014; IEA 2013). Massive plans are
already under way to produce from unconventional fields outside North America, and thus the
dominance of unconventional gas seen in North America is likely to be replicated in other
regions (Hughes 2013; IEA 2013).
Unconventionals have a
lesser foothold in petroleum
production compared to natural
gas,
but
nevertheless
the
proportion of unconventionals
in total petroleum production is
expected to increase markedly
in the 21 century. It is striking
st
World petroleum production, 2011-2031. A significant proportion of the
production shortfall from existing fields is expected to be made up using
unconventional sources. (IEA New Policies Scenario, 2013)
that four-fifths of today’s conventional oil production comes from fields discovered before 1970
(Smil, 189). Much of conventional petroleum comes from “megafields” which comprise the
largest, highest-quality and easiest-to-extract known reserves of oil. The two biggest megafields
are Ghawar in Saudi Arabia and Cantarell in Mexico, which were discovered in the 1940s (Hirsch
et al. 2005). Ghawar and Cantarell, along with many other megafields, are near or past their peak
rate of oil production (Rapier, 94). With conventional sources of oil gradually becoming depleted,
maintaining or growing world oil production necessitates the increasing use of unconventional
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sources (Hall et al. 2014). Oil from conventional fields operating in 2011 produces around 70
million barrels per day (mbd), but this is expected to decline to around 30 mbd by 2030. A
significant proportion of this shortfall is likely to be made up using unconventional sources of
oil (Hughes 2013; IEA 2013).
EROI and the Transition to Unconventionals
Meta-analysis of the EROI of various energy sources. EROI of unconventional hydrocarbons is an order-of-magnitude
lower than conventionals. Biomass produces negligible energy gains. (Lambert et al. 2013)
Unconventional sources of hydrocarbons generally have much lower EROIs compared
to conventional sources (Hughes 2013; Hall et al. 2014). Extraction and processing from
unconventional sources is difficult and energy-intensive, being more akin to metal mining than
traditional drilling. Producing from unconventional sources requires immense amounts of
energy and water, and results in enormous amounts of environmentally-hazardous waste
products (Rapier, 88; Smil, 204-205). Extracting oil and gas from shale necessitates the use of
hydraulic fracturing, which uses pressurized liquids to fracture geological formations that
contain trapped hydrocarbons. Fracking liquids are volatile, environmentally hazardous and
expensive to produce. From the ground to the consumer, the EROI of oil and gas production from
shale falls within 8 - 17:1 (Yaritani & Matsushima 2014). This is much lower than the EROIs of
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conventional oil and gas production, which are 25 - 100:1 and 20 - 50:1 respectively (Hall et al.
2014). Oil production from tar sands is even more difficult. Tar sands contain oil in the form of
amorphous solids or oily rocks. Extraction involves the use of bulldozers, dump-trucks and other
heavy machinery. Resultantly, the EROI of tar sands is quite low, ranging between 2 - 5:1
(Cleveland & O’Connor 2011; Poisson & Hall 2013). Production from many tar sands reserves is
not beneficial at the macro level, as an energy source benefits biological systems—including
human societies—only when EROI is at least 3:1 (Brown et al. 2011).
It is important to
note that unconventional
sources are only being
produced because the
EROI
of
conventional
sources has dropped to
the point where it is viable
to do so (Gupta & Hall
EROI of global oil & gas production has dropped by 30% in 20 years. (Gagnon et al.
2009)
2011; Hall et al. 2014). The EROI is conventional hydrocarbons is dropping because energy
sources that are easier to extract are almost always consumed first (Rapier, 97). Megafields
were one of the first hydrocarbon fields to be produced due to the ease of production and quality
of the product. As the most desirable fields are depleted, production shifts to less desirable
fields that tend to be smaller in size and contain lower-quality product (Hirsch et al. 2005). More
recent discoveries also tend to be more inaccessible, being located in inhospitable places such
as the deep sea or arctic (Rapier, 97-99). This trend has dropped the EROI of conventional
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hydrocarbons to the point that unconventional sources are being developed in earnest—in other
words, we’ve reached the “bottom of the barrel.” The EROI of world oil and gas production has
dropped by 30% from 1990 to 2010 (Gagnon et al. 2009).
Canada
some
of
contains
the
largest
reserves of unconventional
oil in the world. Canadian
tar sands, mostly located
in
Alberta,
have
been
developed in earnest in the
2000’s. The impact of tar
sands on the EROI of
EROI of Canadian energy production versus proportion of energy from tar sands.
(Poisson & Hall 2013)
Canadian energy production has been studied extensively (Hughes 2013). A recent and
comprehensive study of the time course of Canadian energy production EROI found that the
proportion of total energy production from tar sands correlated negatively with EROI. The study
found the negative correlation to be fairly strong, with r = -0.69 (Poisson & Hall 2013). Though
not as extensively studied, similar findings have been found for US, Mexican and Venezuelan
energy production (Hughes 2013; Hall et al. 2014). Unless there is a paradigm shift in the energy
industry (i.e. discovery of a novel energy source), it is likely that the proportion of world energy
production from unconventional will continue to increase. Regardless of the exact proportion of
unconventionals in world energy production, EROI will continue to drop—we’ve already picked
the lowest-hanging fruit, and we have no choice but to climb further up the tree.
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Macroeconomic Impacts of Decreasing EROI
In the United States, petroleum expenditures exceeding ~6% of GDP induce recessions. (Hall & Klitgaard, 134)
Since World War II, eleven out of the twelve global recessions were preceded by oil price
shocks (Tverberg 2012). The oil price shock that preceded the Great Recession has been
attributed to the decreasing EROI of world oil production. Despite increasing monetary and
energetic investment, declining EROIs have made it difficult to raise energy production, thus
raising prices to record levels (King & Hall 2011). In the age of petroleum, growth seems to stop
when oil expenditures exceed 5-10% of GDP, whether in individual countries or the entire world
(Hall & Klitgaard, 378). Compounded by the volatility induced by neoliberal reforms (i.e. financial
deregulation), ecological economists point to the oil shock of 2006-2008 as the primary cause
of the financial crisis and Great Recession (Hamilton et al. 2009; Brown et al. 2011; King & Hall
2011; Tverberg 2012). These record energy prices revealed weaknesses in the world economy
and financial system. Higher oil prices inhibited the ability of debtors to repay their debts. Due
to astonishingly high debt loads in the developed world, both private and public, it did not take
long for high oil prices to destabilize the financial system, which should’ve been more resilient
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given the strength of the world economy at the time. With the neoliberal paradigm remaining
entrenched, and with the EROI of world energy production continuing to decline, economic
downturns of similar or greater magnitude to the Great Recession may become commonplace
in the 21st century (Lambert et al. 2013). The Great Recession may be the best template by which
to characterize these future economic downturns.
Energy price shocks
induce
negative
feedback
loops of dampened economic
activity that spread quickly
throughout
the
world
economy (Brown et al. 2011).
The neoliberal delocalization
of
economies
results
in
Stagnation of oil production growth is reflective of decreasing EROI (Tverberg
2012)
increased sensitivity to transportation costs, which are even more pertinent in the United States,
which is almost wholly dependent on automobile transportation. Due to the green revolution,
food prices have become tightly coupled to oil prices. The 2006-2008 oil shock caused the
largest food crisis in recent memory; millions were pushed into in water-stressed regions such
as the Sahel, while developed nations saw unprecedented use of food subsidy programs, and
even desperate acts food scavenging (Hall & Klitgaard, 269). Also, production costs will rise as
prices soar for basic commodities such as metals and plastics, which tend to be very petroleumintensive, not to mention that industrial production is energy-intensive in itself (Hamilton et al.
2009). The price of oil alternatives will also soar, as demand shifts towards them. The impact of
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an oil shock will propagate throughout the global economy, acting as a robust inflationary
pressure, resulting in higher interest rates and more expensive credit. Increased energy
expenditures results in capital flight, as oil expenditures generally do not feed back into the
economies of oil consumers (Hall & Klitgaard, 271).
Thus, the discretionary spending of consumers is set to decrease due to higher costs,
less credit, and asset devaluation (real estate, etc.), which will quickly stall economic growth
and contract the labor market, dampening economic activity even further. State finances will
also become strained due to general inflation, shrinking tax revenues, and increased use of
social welfare services (Hamilton et al. 2009). As seen with previous oil shocks, inherent
weaknesses in economies and governments tend to be revealed, resulting in price crashes,
currency devaluations, political upheaval, and social unrest (Hall & Klitgaard, 280). In the United
States, recession-inspired social and political movements, such as #Occupy and the Tea Party,
have been visible but fairly benign. The same does not hold true in the rest of the developed
world, which has seen dramatic shifts in political power along with endemic social unrest.
Growth in the 21st Century?
There has been a sharp disparity in
economic
performance
between
the
developed world and newly-industrialized
countries (NICs) since the Great Recession.
While most high-income countries have yet
to recover, NICs are once again enjoying
Economic growth and energy production are strongly
coupled. (Tverberg 2012)
rapid and sustained economic growth.
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Though meaningful growth is still only enjoyed by a minority in the developing world, the pace
and scale of “the rise of the rest” is still unprecedented. Modern middle-class lifestyles have
become attainable for billions around the world. This is one of humanity’s greatest
achievements, but unfortunately it is at odds with the declining EROI of world energy supply.
Industrialization is a very energy and resource-intensive process. While per-capita energy and
resource consumption in NICs is still miniscule compared to rich nations, their populations are
much larger and continue to grow. Compounded with their adoption of modern energy-intensive
lifestyles (cars, meat, etc.), global demand for energy and oil is set to double by 2035 (IEA 2013).
This trajectory seems incongruous with the world’s biophysical realities.
The assumption held by Smil and others—that the last half of our remaining hydrocarbon
supply will be of comparable benefit to the first half—is fundamentally flawed. Our remaining
hydrocarbon supply is will feature much lower EROIs than what we have enjoyed in the 20th
century, this is evident in the steady EROI decline of world energy production. Coupled with a
growing population, mass industrialization and a growth-based economic paradigm, the 21st
century will likely feature ever-rising energy prices (King & Hall 2011). Developing nations are at
a natural advantage in ‘bear’ energy market, as much lower per-capita energy consumption
cushions the economic impact of high prices (Tvelberg 2012; Hall & Klitgaard, 321). The
developed world is at a disadvantage in this environment, with its high per-capita energy
consumption. In particular, the United States is in one of the worst positions during a period of
energy scarcity, as automobile dependence and low-density urban planning compounds the
impact of energy prices. (Hirsch et al. 2005; Rapier, 100).
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Humanity’s continued growth and prosperity is contingent upon the adoption of
abundant, environmentally-sustainable, energy-dense and high-EROI sources of energy. Doing
so would render the above issues moot. The 21st century finds humanity at the crossroads:
coercive action could put us on a path of sustainability and prosperity, while continued inaction
could result in ecological, economic and financial crises of increasing frequency and severity.
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