Saturday, October 27, 2007

The Energy-Efficient Economy Can Handle $100 Oil

Oil prices hit a record high of $92 a barrel on Friday and some analysts say oil could climb pass $100 soon. U.S. Treasury Secretary Paulson said yesterday that the continued rise in oil prices was "not a positive" for the economy, but downplayed its impact, noting both employment and the economy were still growing.

Not long ago, the general consensus would have probably been that $100 oil would certainly cause the economy to go into a recession, and yet we're almost at that point now, and the economy continues on its expansionary path, as Paulson suggests, with output and employment growing at a fairly health pace. What gives?

Perhaps one explanation is that the economy is getting so much more energy efficient all the time, see the graph above of our energy consumption (thousand Btus) per real dollar of GDP from 1949-2006, using these data from the EIA.

Compared to the early 1980s when the real price of oil was about the same as today, we are now about twice as energy efficient, requiring only about 1/2 of the energy consumption per dollar of real GDP in 2006 (8.75 Btus per dollar of real GDP) as in 1980 (15.13 Btus per dollar of real GDP).

Bottom Line: The energy-efficient economy of today is much better able to absorb higher energy prices than in the past. Although high oil prices crippled the economy in the 1970s and early 1980s, and contributed to three serious recessions between 1973-1982, the energy-efficient Energizer Bunny Economy of the 21st Century just keeps humming along.


16 Comments:

At 10/27/2007 5:52 PM, Anonymous Anonymous said...

Is the economy more energy efficient or have energy intensive industries simply been relocated off shore?

 
At 10/27/2007 10:12 PM, Blogger happyjuggler0 said...

You are absolutely correct that the relevant measure is not the inflation adjusted price of oil (or gasoline), but rather is the total oil price paid to per capita GDP ratio. In other words, we use less oil per capita than we once did, and thus it takes a much higher unit price to have the same bite as in 1980 for example.

Nevertheless it is also worth mentioning a couple of other relevant factors. First, we have no price controls other than de facto (or explicit) disaster price controls (i.e. antigouging rules). What this means is that market are free to work, and anyone who wants oil and can pay for it can get it.

This lack of economic stupidity on the part of our current government definitely helps our ability to adjust to what would otherwise be described as an economically disruptive "shortage crisis" instead of a pain in the butt price increase.

The second thing that is different this time partially has to do with your point about oil being a smaller part our GDP. Today you can, if you wish, buy a high quality car that is radically more gas efficient in the US today than you could back in 1980. Or you could buy a gas guzzler, your choice. But with that increased flexibility you get fewer people who are simply stuck between a rock and a hard place.

Lack of demand side flexibility, or consumer elasticity if you will, is the mother's milk of recessions when things go ugly on the supply side. The two examples I listed are examples of increased elasticity. One could add in the increased option of email, telecommuting and teleconferencing and things like that which, while far from as ideal as face to face meetings from jetsetting businessmen, can be substituted more acceptably in a pinch than the 1980 list of options, or lack thereof.

 
At 10/28/2007 12:18 AM, Blogger Gregory said...

This comment has been removed by the author.

 
At 10/28/2007 12:20 AM, Blogger Gregory said...

Curious: If we erroneously assume all BTUs consumed in the economy came from oil, what would the graph "cents of energy per dollar of GDP" look like?

 
At 10/28/2007 7:15 AM, Blogger drowe67 said...

What would happen if there wasn't enough oil available to supply the needs of the expanding economy? Despite efficiency gains in GDP/oil I suggest that oil demand is inelastic. When the price of oil reaches a tipping point the economy will suddenly feel the effect very sharply - much like it did in the 70's and 80's.

 
At 10/28/2007 9:05 AM, Blogger Gregory said...

I disagree. In the first oil shock of 1973 both Europe and America implimented price controls, both Europe and America faced gas lines and economic dislocation.

In the second oil crisis of 1979 Europe abolished price controls, America kept them, as a result only America again faced gas lines and economic dislocation.

As such, history seems to suggest it was the price controls which turned a minor oil crisis into an economic disaster.

As such, as long as America manages to avoid price controls in the future we should also avoid economic disaster.

 
At 10/28/2007 12:18 PM, Anonymous Anonymous said...

A hundred dollars bought about 5 barrels of oil at the end of 2001 (and around 110 euros). A hundred dollars now just buys a single barrel and change, and about 70 euros. Oil may be priced in dollars, but anyone who set aside a bunch of dollars to assure their ability to pay for their oil import bill would be sorely disappointed.

Just keep thinking your happy thoughts as the US currency is debased.

 
At 10/28/2007 3:34 PM, Blogger drowe67 said...

Hi Gregory,

I agree that there is a correlation between price controls in 73 & 79 and US economic performance. Not sure if this implies causation however, there are many other factors involved. For example some of the current economic "growth" in the face of high oil prices can be attributed to the US government printing $ as fast as they can and spending funded by growing public and private debt.

My understanding is Europe actually kept the price controls on from '73 (and has them on to this day), in the form of heavy taxation on fuel. Thats why they drive a relatively small numer of fuel efficient cars and have public transport networks and people in the US drive, err Hummers 50 miles to work each day.

If oil hits $200 (merely one more doubling, just like we have seen over the last few years)- what effect will this have on people commuting to work? Or the price of food that is trucked all over the country? Or the ability of people to heat their homes?

The way I figure it, constant economic growth of %x/yr actually means exponential growth in consumption of non-renewables like oil. One day we are going to hit a wall in oil supply that cannot be addressed by economic theory. Unfortunately when exponential growth meets nature, nature always wins.

 
At 10/28/2007 5:11 PM, Anonymous Anonymous said...

drowe67 said One day we are going to hit a wall in oil supply that cannot be addressed by economic theory. Unfortunately when exponential growth meets nature, nature always wins.
But the outcome isn't a foregone conclusion. Wasn't coal mining in Britain fueled by hitting a wall in the supply of firewood?

Today we can look towards nuclear, photovoltaic, bacteria and other biological systems to address the energy and oil challenges we will face.

 
At 10/29/2007 2:55 PM, Blogger drowe67 said...

Yes, I agree that in the long term (25 yrs) there will be a wholesale switch away from oil to renewables. That's about how long it would take, starting today, given current levels of oil dependancy and the current market penetration of renewables. Just think about how long it would take to replace the current US car & truck fleet, or move away from gas to solar/nuclear.

The problem is what happens if oil prices rise in the near term? There are no alternatives that we can switch to easily today. For example, which dealer today will sell you a car that doesn't require oil? So we get a rather unpleasant gap in demand (for low cost oil) and supply.

There are of course many ways to work thru this, and the outcome might be a much nicer (e.g. greener) society than we have today. Just depends on how oil depeletion is handled........

 
At 10/29/2007 6:24 PM, Anonymous Anonymous said...

"The Energy-Efficient Economy Can Handle $100 Oil" . . . mkay, tell me this in 6 months.

 
At 10/29/2007 6:45 PM, Blogger juandos said...

It seems that the general 'consnsus is that we are running out of oil...

Personally I think there is more than enough crude and coal for quite some time... People will be using fossil fuels long after all of us are dead...

This is NOT to say it will necessarily be cheaper but then again the federal government imposes a severe cost of doing business any business in the US and maybe some of that cost can be mitigated also...

There are gargantuan coal reserves in Illinois and if the DOE is to be believed we have something on the order of 9000 billion barrels of oil equivalent in this country...

 
At 10/29/2007 7:11 PM, Blogger drowe67 said...

Actually I agree that a "rush to coal" is the most likely scenario, compared to say reducing energy demands or investing in renewables. To quote Bush snr "the American lifestyle is not negotiable".

Yes, coal can be turned into liquid fuels for around $15/barrel, quite attractive at today's oil prices, and the US has the biggest reserves in the world.

Sadly, the environmental costs are enormous - coal is a filthy fuel (twice as bad as natural gas) and the coal-fuel process requires huge amounts of fresh water and generates vast quantities of green house gases.

 
At 10/29/2007 10:02 PM, Blogger Engineer-Poet said...

The price of oil has been masked by the availability of credit.  The collapse of the real-estate bubble has taken a lot of available credit out of the economy (had to happen sometime; you can't have buying power going to infinity in a finite world), and the rate of default on debt is showing where the limits are.  Fortunately, most US debt is denominated in dollars, and we can inflate away the cost of our previous consumption.

Coal is not the answer.  Environmental problems aside, our reserves of recoverable coal are much smaller than projections of one or two decades ago suggest.  As anthracite is mined out and replaced by lignite, the energy return per ton mined also falls over time.  Last, it might have cost $15/bbl to make alkanes from coal back in 1980, but coal-to-liquids plants are affected by the same inflation in materials and construction costs which plague the oil and nuclear industries.  This leads to receding horizons, as each increase in energy price toward the hypothetical breakeven point pushes that point back also.

If there's a solution to this, it's in resources which do not have significant escalation in the energy investment required to build a megawatt of capacity.  Wind and solar are definitely in this category, and nuclear is close enough.  We handled expensive and scarce spermaciti by going to "rock oil" and then to electric lights; similarly, the way to handle $100 oil is to go to electric vehicles powered by solar photons and binding energy arbitrage.

 
At 10/30/2007 11:49 AM, Anonymous Anonymous said...

Engineer-Poet said...

If there's a solution to this, it's in resources which do not have significant escalation in the energy investment required to build a megawatt of capacity. Wind and solar are definitely in this category. . .

Exactly! This year we are seeing the start of production of high efficiency low-cost photovoltaic panels that produce electricity for less than the electrical companies are able to provide.

More efficiency can be squeezed out of a PV panel lowering the costs even more (and such panels exist in the lab right now) but right now, today in production we have PV generated electricity at a lower cost than the electric company can provide! Finally.

 
At 1/19/2008 12:18 AM, Anonymous Anonymous said...

The current consensus of economic crisis would seem to prove last year's assessment wrong! The economy isn't expanding, it's collapsing. But the only "crisis" is the same old one - the top 1% of the population holds more wealth than the other 99%. If the millionaire CEOs would start paying their workers a fair wage, there would be more money in circulation. But no, no one talks about this glaringly obvious fact. That option is “off the table” because the rich feel entitled to their riches. To me, they’re criminals.

 

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