The Road to Ruin — Part 2
Our current political-economic elite in the West, and to be honest all around the world, seems to be lost at a sea when it comes to real world economics (not the textbook version). I have spent my last 16 years at multinational companies working in various roles from engineering on the manufacturing shop floor to leading projects in the supply chain area (logistics and procurement) doing a number of cost-benefit calculations, making return on investment decisions. I saw how consumer products are made from raw materials to finished goods. I’ve seen the effect of sudden price increases, material shortages and worked on optimizing costs on the scale of millions of Euros. I’ve seen what makes businesses profitable, and saw some others struggling then suddenly going bankrupt.
Based on this experience, I have to tell, there is an immense divide between how our political (and sometimes corporate) elite “think” the world operates and how it functions in fact. Since the goal of this blog is to provoke readers to think differently and to help them developing a better understanding on how things work as opposed to popularizing ideologies, reaffirming beliefs and propagating magical thinking (hence the name), I will try and provide an explanation rooted in physical reality; a way of thinking apparently failing to penetrate the higher circles of politics.
Of course everyone is free to believe in infinite economic growth and to trust the experts and leaders promoting it. There are thousands of them. Take your pick. A continued reliance on these beliefs tough, I argue, will prevent true solutions (1) from emerging and all but guarantee a spectacular failure ahead.
The role of energy
Let’s start with stating the most obvious — at least to those who dare to question economic orthodoxies: money is not the economy. In fact, it is a rather flawed measure of any activity. Money is nothing a but a claim on future energy use. The true measure of economic vigor is energy itself. Every economic activity requires an irreversible expenditure of energy, be it in the form of human labor, firewood, electricity or fossil fuels. For a proof try to do any work without eating or try to run any business without spending energy. As ecological economist Steve Keen keeps saying:
“Capital without energy is a statue; labor without energy is a corpse”
Money, on the other hand, is nothing more than a title transfer: telling who gets to use energy later. While the system is capable of working without government issued money, as it was proven in many prior cases in history (seashells come to mind here), it simply stops dead on its tracks without energy. No food? Hunger. No fuel or electricity? Try chewing on unbaked bread, or try doing anything other than hard physical labor.
It’s no wonder then that the poorest regions on Earth are the most energy deprived countries, either because they were robbed of their energy resources, or because they did not have them in the first place. In this sense poverty gains a new meaning. Twisting the original definition a bit, I would say poverty is not having enough energy to live, perform work, build and/or maintain a shelter, or clothes.
The role of money
Despite all this, our entire leadership class (not only in Europe but basically everywhere around the word) has successfully deluded itself that all they needed to do is to control the flow of money via taxes, subsidies, handouts, interest rates etc. and all will be fine. If something were not so fine in the economy, then all you had to do is to change the government, or at least your prime minister, and come up with better ideas on how raise or spend funds.
Money has become the cure-all for every problem, not a means but an end of its own. Everything else (including energy and finite resources) have become secondary: easily substitutable commodities.
The idea had its origins in an energy abundant era of the 20th century, when one could conjure up as much fossil fuels as one had wished for. Given enough cheap credit you could start a company and felt assured that you will always have enough energy to power your machines, and after the green revolution, enough food to feed a rapidly growing workforce. It was an era of reckless abundance.
Energy and raw materials have become to us something like water to a fish. We swam in them and only a very few people understood their true importance.
The problem with this approach was that we did not put an end to it as soon as we have discovered how limited the amount of cheap and easy to extract fossil fuels and other minerals were. Instead, we have doubled down and compensated the rising costs of extracting ever harder to get resources with debt, starting in the 1980s — right after the first warning provided by peak conventional oil extraction in the US was so generously dismissed. Then we have doubled-down once more after the 2008 crash — caused again by hitting a sudden limitation in conventional oil supply and putting an end to the era of cheap energy starting in 2005. This time tough the peak was global. The answer? ‘Take on even more debt and start fracking for shale oil!’ Now, that we have most probably passed the ultimate peak in oil production in November 2018, there will be no saving grace for the financial system accustomed to growth at all costs.
Companies and governments around the world have built up an insurmountable pile of debt by now as a result, hoping that growth (in the form of expanding energy extraction) will return. Needless to say: it did not. In fact, the net energy available to the economy has been shrinking in the west for quite a while now (after deducting all the energetic cost of drilling wells ever further away, ever deeper with ever longer pipelines to connect them). Renewables did not reverse this trend either, but more on them later.
This process has turned a great many companies, households and governments into zombies: earning just enough money to continue operating and servicing their debt but also rendering them unable to pay off their loans. Add in derivatives, making the trading of and speculation on these debts, assets and commodities even easier, and a mother of all Ponzi-schemes emerges before your eyes. The yawning gap between our limited energy reality and our unlimited financial desires has become impossible to deny by now. A great financial reset (most likely to start in Europe) erasing or inflating away this immense debt pile is now in short order. Once it arrives, it will be nothing less than jaw dropping. Banks to big to fail last time will turn out to be to big to save today.
Our elites all across the world and especially in the West, were riding the horse — the economy — with its ass forward for much too long. They were deluded in thinking that all we needed to do is to throw money at the problem, and it will magically solve itself. Energy and resource costs or accessibility was never discussed. Now, that their availability has become increasingly constrained — not only in Europe and not only for the short term — the ruling class needs to turn into the right direction, or risk driving the entire economy into the ground… Before you ask: I have no doubt that they will keep denying that this is the case and will happily opt for the later.
The role of labor
Despite all the claims from many labor movements, including Marx’s own, the workforce in this bygone era of abundant energy was no longer the source of value creation. Value was increasingly created by huge machinery, churning out metal and later on plastic parts at breakneck speed. These “clever inventions” have substituted countless hours of hard physical work with cheap inputs of coal, oil and natural gas.
This was a tendency throughout the 20th century: replacing manual work with ever more sophisticated but ultimately ever more energy hungry machinery. Consider diary farms for example, where in the beginning of the century every cow was milked by hand at daylight without any external energy input (other than the work of one’s own hands). Compare this to the end of the 20th century, when almost all farms in the industrialized world have switched to fully automatic milking machines using an immense amount of electricity but requiring little or no human labor at all. (Not to mention the now fully closed, artificially lit, climatized diary farms, replacing open pastures and barns.)
This vast energy input together with automatization was the sole reason why so many of us could get rid of the drudgery of everyday life, leaving the hard work to machines and their well-trained operators.
The golden billion in the West — and increasingly in the East as well — could go to universities and take jobs where the only requirement was to sit on (virtual) meetings and respond to (electronic) mails. I argue however, that without adequate levels of energy supply, this will be no longer possible in the proportions seen today.
Enter energy shortages. There was already a very tight supply of oil, and coal around the world when governments started to sanction each other — trying to kill each others businesses hoping that they would come out on top. Needless to say: it only made things worse, leaving regions completely exposed to the whims of a volatile market.
For the sake of better understanding, and to illustrate the problem Europe faces at the moment, let’s assume you own a bakery store chain. Each store has multiple (electric) ovens, and a big freezer to store products to be baked. It’s easy to see how cheap electricity is indispensable to make this business model successful as both the freezer and the ovens are big fat energy hogs.
When energy prices had started to rise, you started to rise the prices of your bakery products too in order to be able to pay your bills. (2) These price increases on the other hand now have a dampening effect on demand (if your customers don’t have the money to buy your ‘hot from the oven artisan bakery’, then they will buy less and/or go into a supermarket to buy lower quality stuff cheaper). As a result, you first shut down an oven and bake using only one in each store, then you start closing stores and sending employees away, as you can’t pay the rent and their salary using only half of your capacity. This could all very easily end up in a cascade of business failures until energy consumption falls to a level where whatever demand remains can be served.
Now, thanks to soaring utility bills in Europe, many businesses especially in metals, chemicals, plastics, paper, glass and food categories are forced to raise prices, thus lowering demand, or simply risk going bankrupt. No cheap energy — no economy — no jobs.
Losing the energy needed to maintain economic activity can have a dire impact on everyone in a given society. It not only raises the bills folks have to pay at home, but it can also make them unemployed and their companies bankrupt. Add in rising interest rates making debt payments even harder and you start to see the invisible fists crushing households and companies alike. This is what we see at the moment in Europe, and this is what’s coming in short order for the rest of the West as well.
What are the solutions proposed by our elites to stop this from happening? And what could be done knowing the importance of energy supply? There will be a lot to discuss in Part 3, stay tuned!
(1) Since we are in a predicament rather than facing a problem, thanks to our relentless belief in infinite growth and progress, these “solutions” should rather be called adaptation techniques — but more on them later, in the next installment of this series of posts.
(2) Industrialized agriculture together with food production and distribution is eating up 8 kcal of energy for every 1 kcal delivered on your plate — thus when energy shots out, food prices are sure to follow.