The standard theory of economic growth, which is the basis of every economic forecasting model used by governments, business or international agencies, says that economic growth is automatic and will, therefore continue at historical rates indefinitely. Both liberals and conservatives believe this, though conservatives influenced by the “Austrian School’ (von Mises, Hayek, et al) warn that growth may be adversely affected if governments interfere with the magic of the Market by excessive regulation or in other ways. The problem is that they are both chugging along the wrong track. Their mistake is so fundamental that it has become invisible. But, as I say, the problem is really simple: virtually all modern economists neglect the role of energy. Or, more accurately, they regard energy as an intermediate output of capital and labor. The idea underlying the standard theory is that capital and labor, in some combination, “produces” coal, some other combination “produces” oil, and so forth.
Of course we all (even mainstream economists) know that it was natural processes that produced the coal and the oil (and other sources of useful energy) in the first place. The activity of mining or drilling, or refining for that matter, is a perfectly legitimate business. But the language in the economic textbooks disguises a crucial point, namely that there is a crucial difference between the ownership of a resource, and the activity of extracting it. The owner obtains “rents” while the business enterprise merely supplies skills and – yes – energy (more exactly, useful work) along with capital and labor.
That language is a bit technical and off-putting. The point is that neither capital nor labor can be productive without inputs of (useful) energy. Human (and animal) workers need to eat in order to function, and machines depend on fuel or electric power. Nowadays the work done by human and animal muscles is minuscule compared to the work (in the physical sense of the word) done by machines. But human brains don’t function without energy – about 30% of all caloric intake goes to the brain – any more than computers function without electric power. So, the bottom line is that both capital and labor require energy to produce anything, and it follows that energy should be regarded as one of the so-called “factors of production” in economic language.
So, can we expect economic growth to continue if, by chance, the energy supply gets cut off? Not that I expect such an extreme event, but that is not the point. The point is that less energy means less production and less GDP. It follows that our grand-children can only be a lot richer than we are if they have access to a lot more useful energy, whether in the form of motor fuel or electric power. But much of the electric power we use today is produced by power plants burning coal or natural gas. Meanwhile, we are facing “peak oil” and there is a significant threat of climate change resulting from the accumulation of combustion products, especially carbon dioxide, in the atmosphere. So, how realistic is it to assume that the human race can go on burning fossil fuels (to produce GDP) even at the present rate? How realistic is it to assume that our grand-children will be consuming energy (from fossil fuels) at a much greater rate?
The answer is obvious, and the implication is obvious. Our grand-children will not be a lot richer than we are unless the economy grows a lot faster. But economic growth currently depends on burning a lot of fossil fuels. So our grandchildren will not even enjoy today’s standard of living unless other sources of clean energy can replace those fossil fuels. And soon. How likely is that, given the huge financial power of the incumbent energy companies? Not very likely, in my opinion. But what do I know?
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About the author:
Robert Ayres’s career has focused on the application of physical ideas, especially the laws of thermodynamics, to economics; a long-standing pioneering interest in material flows and transformations (Industrial Ecology or Industrial Metabolism); and most recently to challenging held ideas on the economic theory of growth.