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A Forecast of Our Energy Future; Why Common Solutions Don’t Work

In order to understand what solutions to our energy predicament will or won’t work, it is necessary to understand the true nature of our energy predicament. Most solutions fail because analysts assume that the nature of our energy problem is quite different from what it really is. Analysts assume that our problem is a slowly developing long-term problem, when in fact, it is a problem that is at our door step right now.

The point that most analysts miss is that our energy problem behaves very much like a near-term financial problem. We will discuss why this happens. This near-term financial problem is bound to work itself out in a way that leads to huge job losses and governmental changes in the near term. Our mitigation strategies need to be considered in this context. Strategies aimed simply at relieving energy shortages with high priced fuels and high-tech equipment are bound to be short lived solutions, if they are solutions at all.

OUR ENERGY PREDICAMENT

1. Our number one energy problem is a rapidly rising need for investment capital, just to maintain a fixed level of resource extraction. This investment capital is physical “stuff” like oil, coal, and metals.

We pulled out the “easy to extract” oil, gas, and coal first. As we move on to the difficult to extract resources, we find that the need for investment capital escalates rapidly. According to Mark Lewis writing in the Financial Times, “upstream capital expenditures” for oil and gas amounted to  nearly $700 billion in 2012, compared to $350 billion in 2005, both in 2012 dollars. This corresponds to an inflation-adjusted annual increase of 10% per year for the seven year period.

Figure 1. The way would expect the cost of the extraction of energy supplies to rise, as finite supplies deplete.

Figure 1. The way would expect the cost of the extraction of energy supplies to rise, as finite supplies deplete.

In theory, we would expect extraction costs to rise as we approach limits of the amount to be extracted. In fact, the steep rise in oil prices in recent years is of the type we would expect, if this is happening. We were able to get around the problem in the 1970s, by adding more oil extraction, substituting other energy products for oil, and increasing efficiency. This time, our options for fixing the situation are much fewer, since the low hanging fruit have already been picked, and we are reaching financial limits now.

Figure 2. Historical oil prices in 2012 dollars, based on BP Statistical Review of World Energy 2013 data. (2013 included as well, from EIA data.)

Figure 2. Historical oil prices in 2012 dollars, based on BP Statistical Review of World Energy 2013 data. (2013 included as well, from EIA data.)

To make matters worse, the rapidly rising need for investment capital arises is other industries as well as fossil fuels. Metals extraction follows somewhat the same pattern. We extracted the highest grade ores, in the most accessible locations first. We can still extract more metals, but we need to move to lower grade ores. This means we need to remove more of the unwanted waste products, using more resources, including energy resources.

Figure 3. Waste product to produce 100 units of metal

Figure 3. Waste product to produce 100 units of metal

There is a huge increase in the amount of waste products that must be extracted and disposed of, as we move to lower grade ores (Figure 3). The increase in waste products is only 3% when we move from ore with a concentration of .200, to ore with a concentration .195. When we move from a concentration of .010 to a concentration of .005, the amount of waste product more than doubles.

When we look at the inflation adjusted cost of base metals (Figure 4 below), we see that the index was generally falling for a long period between the 1960s and the 1990s, as productivity improvements were greater than falling ore quality.

Figure 4. World Bank inflation adjusted base metal index (excluding iron).

Figure 4. World Bank inflation adjusted base metal index (excluding iron).

Since 2002, the index is higher, as we might expect if we are starting to reach limits with respect to some of the metals in the index.

There are many other situations where we are fighting a losing battle with nature, and as a result need to make larger resource investments. We have badly over-fished the ocean, so  fishermen now need to use more resources too catch the remaining much smaller fish.  Pollution (including CO2 pollution) is becoming more of a problem, so we invest resources in  devices to capture mercury emissions and in wind turbines in the hope they will help our pollution problems. We also need to invest increasing amounts in roads,  bridges, electricity transmission lines, and pipelines, to compensate for deferred maintenance and aging infrastructure.

Some people say that the issue is one of falling Energy Return on Energy Invested (EROI), and indeed, falling EROI is part of the problem. The steepness of the curve comes from the rapid increase in energy products used for extraction and many other purposes, as we approach limits.  The investment capital limit was discovered by the original modelers of Limits to Growth in 1972. I discuss this in my post Why EIA, IEA, and Randers’ 2052 Energy Forecasts are Wrong.

2. When the amount of oil extracted each year flattens out (as it has since 2004), a conflict arises: How can there be enough oil both (a) for the growing investment needed to maintain the status quo, plus (b) for new investment to promote growth?

In the previous section, we talked about the rising need for investment capital, just to maintain the status quo. At least some of this investment capital needs to be in the form of oil.  Another use for oil would be to grow the economy–adding new factories, or planting more crops, or transporting more goods. While in theory there is a possibility of substituting away from oil, at any given point in time, the ability to substitute away is quite limited. Most transport options require oil, and most farming requires oil. Construction and road equipment require oil, as do diesel powered irrigation pumps.

Because of the lack of short term substitutability, the need for oil for reinvestment tends to crowd out the possibility of growth. This is at least part of the reason for slower world-wide economic growth in recent years.

3. In the crowding out of growth, the countries that are most handicapped are the ones with the highest average cost of their energy supplies.

For oil importers, oil is a very high cost product, raising the average cost of energy products. This average cost of energy is highest in countries that use the highest percentage of oil in their energy mix.

If we look at a number of oil importing countries, we see that economic growth tends to be much slower in countries that use very much oil in their energy mix. This tends to happen  because high energy costs make products less affordable. For example, high oil costs make vacations to Greece unaffordable, and thus lead to cut backs in their tourist industry.

It is striking when looking at countries arrayed by the proportion of oil in their energy mix, the extent to which high oil use, and thus high cost energy use, is associated with slow economic growth (Figure 5, 6, and 7). There seems to almost be a dose response–the more oil use, the lower the economic growth. While the PIIGS (Portugal, Italy, Ireland, Greece, and Spain) are shown as a group, each of the countries in the group shows the same pattern on high oil consumption as a percentage of its total energy production in 2004.

Globalization no doubt acted to accelerate this shift toward countries that used little oil. These countries tended to use much more coal in their energy mix–a much cheaper fuel.

Figure 5. Percent energy consumption from oil in 2004, for selected countries and country groups, based on BP 2013 Statistical Review of World Energy. (EU - PIIGS means

Figure 5. Percent energy consumption from oil in 2004, for selected countries and country groups, based on BP 2013 Statistical Review of World Energy. (EU – PIIGS means “EU-27 minus PIIGS’)

Figure 6. Average percent growth in real GDP between 2005 and 2011, based on USDA GDP data in 2005 US$.

Figure 6. Average percent growth in real GDP between 2005 and 2011, based on USDA GDP data in 2005 US$.

Figure 7. Average percentage consumption growth between 2004 and 2011, based on BP's 2013 Statistical Review of World Energy.

Figure 7. Average percentage consumption growth between 2004 and 2011, based on BP’s 2013 Statistical Review of World Energy.

4. The financial systems of countries with slowing growth are especially affected, as are the governments. Debt becomes harder to repay with interest, as economic growth slows.

With slow growth, debt becomes harder to repay with interest. Governments are tempted to add programs to aid their citizens, because employment tends to be low. Governments find that tax revenue lags because of the lagging wages of most citizens, leading to government deficits. (This is precisely the problem that Turchin and Nefedov noted, prior to collapse, when they analyzed eight historical collapses in their book Secular Cycles.)

Governments have recently attempt to fix both their own financial problems and the problems of their citizens by lowering interest rates to very low levels and by using Quantitative Easing. The latter allows governments to keep even long term interest rates low.  With Quantitative Easing, governments are able to keep borrowing without having a market of ready buyers. Use of Quantitative Easing also tends to blow bubbles in prices of stocks and real estate, helping citizens to feel richer.

5. Wages of citizens of  countries oil importing countries tend to remain flat, as oil prices remain high.

At least part of the wage problem relates to the slow economic growth noted above. Furthermore, citizens of the country will cut back on discretionary goods, as the price of oil rises, because their cost of commuting and of food rises (because oil is used in growing food). The cutback in discretionary spending leads to layoffs in discretionary sectors. If exported goods are high priced as well, buyers from other countries will tend to cut back as well, further leading to layoffs and low wage growth.

6. Oil producers find that oil prices don’t rise high enough, cutting back on their funds for reinvestment. 

As oil extraction costs increase, it becomes difficult for the demand for oil to remain high, because wages are not increasing. This is the issue I describe in my post What’s Ahead? Lower Oil Prices, Despite Higher Extraction Costs.

We are seeing this issue today. Bloomberg reports, Oil Profits Slump as Higher Spending Fails to Raise Output. Business Week reports Shell Surprise Shows Profit Squeeze Even at $100 Oil. Statoil, the Norwegian company, is considering walking away from Greenland, to try to keep a lid on production costs.

7. We find ourselves with a long-term growth imperative relating to fossil fuel use, arising from the effects of globalization and from growing world population.

Globalization added approximately 4 billion consumers to the world market place in the 1997 to 2001 time period. These people previously had lived traditional life styles. Once they became aware of all of the goods that people in the rich countries have, they wanted to join in, buying motor bikes, cars, televisions, phones, and other goods. They would also like to eat meat more often. Population in these countries continues to grow adding to demand for goods of all kinds. These goods can only be made using fossil fuels, or by technologies that are enabled by fossil fuels (such as today’s hydroelectric, nuclear, wind, and solar PV).

8. The combination of these forces leads to a situation in which economies, one by one, will turn downward in the very near future–in a few months to a year or two. Some are already on this path (Egypt, Syria, Greece, etc.)

We have two problems that tend to converge: financial problems that countries are now hiding, and ever rising need for resources in a wide range of areas that are reaching limits (oil, metals, over-fishing, deferred maintenance on pipelines).

On the financial side, we have countries trying to hang together despite a serious mismatch between revenue and expenses, using Quantitative Easing and ultra-low interest rates. If countries unwind the Quantitative Easing, interest rates are likely to rise. Because debt is widely used, the cost of everything from oil extraction to buying a new home to buying a new car is likely to rise. The cost of repaying the government’s own debt will rise as well, putting governments in worse financial condition than they are today.

A big concern is that these problems will carry over into debt markets. Rising interest rates will lead to widespread defaults. The availability of debt, including for oil drilling, will dry up.

Even if debt does not dry up, oil companies are already being squeezed for investment funds, and are considering cutting back on drilling. A freeze on credit would make certain this happens.

Meanwhile, we know that investment costs keep rising, in many different industries simultaneously, because we are reaching the limits of a finite world. There are more resources available; they are just more expensive. A mismatch occurs, because our wages aren’t going up.

The physical amount of oil needed for all of this investment keeps rising, but oil production continues on its relatively flat plateau, or may even begins to drop. This leads to less oil available to invest in the rest of the economy. Given the squeeze, even more countries are likely to encounter slowing growth or contraction.

9. My expectation is that the situation will end with a fairly rapid drop in the production of all kinds of energy products and the governments of quite a few countries failing. The governments that remain will dramatically cut services.

With falling oil production, promised government programs will be far in excess of what governments can afford, because governments are basically funded out of the surpluses of a fossil fuel economy–the difference between the cost of extraction and the value of these fossil fuels to society. As the cost of extraction rises, the surpluses tend to dry up.

Figure 8. Cost of extraction of barrel oil, compared to value to society. Economic growth is enabled by the difference.

Figure 8. Cost of extraction of barrel oil, compared to value to society. Economic growth is enabled by the difference.

As these surpluses shrink, governments will need to shrink back dramatically. Government failure will be easier than contracting back to a much smaller size.

International finance and trade will be particularly challenging in this context. Trying to start over will be difficult, because many of the new countries will be much smaller than their predecessors, and will have no “track record.” Those that do have track records will have track records of debt defaults and failed promises, things that will not give lenders confidence in their ability to repay new loans.

While it is clear that oil production will drop, with all of the disruption and a lack of operating financial markets, I expect natural gas and coal production will drop as well. Spare parts for almost anything will be difficult to get, because of the need for the system of international trade to support making these parts. High tech goods such as computers and phones will be especially difficult to purchase. All of these changes will result in a loss of most of the fossil fuel economy and the high tech renewables that these fossil fuels support.

A Forecast of Future Energy Supplies and their Impact

A rough estimate of the amounts by which energy supply will drop is given in Figure 9, below.

Figure 9. Estimate of future energy production by author. Historical data based on BP adjusted to IEA groupings.

Figure 9. Estimate of future energy production by author. Historical data based on BP adjusted to IEA groupings.

The issue we will be encountering could be much better described as “Limits to Growth” than “Peak Oil.” Massive job layoffs will occur, as fuel use declines. Governments will find that their finances are even more pressured than today, with calls for new programs at the time revenue is dropping dramatically. Debt defaults will be a huge problem. International trade will drop, especially to countries with the worst financial problems.

One big issue will be the need to reorganize governments in a new, much less expensive  way. In some cases, countries will break up into smaller units, as the Former Soviet Union did in 1991. In some cases, the situation will go back to local tribes with tribal leaders. The next challenge will be to try to get the governments to act in a somewhat co-ordinated way.  There may need to be more than one set of governmental changes, as the global energy supplies decline.

We will also need to begin manufacturing goods locally, at a time when debt financing no longer works very well, and governments are no longer maintaining roads. We will have to figure out new approaches, without the benefit of high tech goods like computers. With all of the disruption, the electric grid will not last very long either. The question will become: what can we do with local materials, to get some sort of economy going again?

NON-SOLUTIONS and PARTIAL SOLUTIONS TO OUR PROBLEM

There are a lot of proposed solutions to our problem. Most will not work well because the nature of the problem is different from what most people have expected.

1. Substitution. We don’t have time. Furthermore, whatever substitutions we make need to be with cheap local materials, if we expect them to be long-lasting. They also must not over-use resources such as wood, which is in limited supply.

Electricity is likely to decline in availability almost as quickly as oil because of inability to keep up the electrical grid and other disruptions (such as failing governments, lack of oil to lubricate machinery, lack of replacement parts, bankruptcy of companies involved with the production of electricity) so is not really a long-term solution to oil limits.

2. Efficiency. Again, we don’t have time to do much. Higher mileage cars tend to be more expensive, replacing one problem with another. A big problem in the future will be lack of road maintenance. Theoretical gains in efficiency may not hold in the real world. Also, as governments reduce services and often fail, lenders will be unwilling to lend funds for new projects which would in theory improve efficiency.

In some cases, simple devices may provide efficiency. For example, solar thermal can often be a good choice for heating hot water. These devices should be long-lasting.

3. Wind turbines. Current industrial type wind turbines will be hard to maintain, so are  unlikely to be long-lasting. The need for investment capital for wind turbines will compete with other needs for investment capital. CO2 emissions from fossil fuels will drop dramatically, with or without wind turbines.

On the other hand, simple wind mills made with local materials may work for the long term. They are likely to be most useful for mechanical energy, such as pumping water or powering looms for cloth.

4. Solar Panels. Promised incentive plans to help homeowners pay for solar panels can be expected to mostly fall through. Inverters and batteries will need replacement, but probably will not be available. Handy homeowners who can rewire the solar panels for use apart from the grid may find them useful for devices that can run on direct current. As part of the electric grid, solar panels will not add to its lifetime. It probably will not be possible to make solar panels for very many years, as the fossil fuel economy reaches limits.

5. Shale Oil. Shale oil is an example of a product with very high investment costs, and returns which are doubtful at best. Big companies who have tried to extract shale oil have decided the rewards really aren’t there. Smaller companies have somehow been able to put together financial statements claiming profits, based on hoped for future production and very low interest rates.

Costs for extracting shale oil outside the US for shale oil are likely to be even higher than in the US. This happens because the US has laws that enable production (landowner gets a share of profits) and other beneficial situations such as pipelines in place, plentiful water supplies, and low population in areas where fracking is done. If countries decide to ramp up shale oil production, they are likely to run into similarly hugely negative cash flow situations. It is hard to see that these operations will save the world from its financial (and energy) problems.

6. Taxes. Taxes need to be very carefully structured, to have any carbon deterrent benefit. If part of taxes consumers would normally pay to the government are levied on fuel for vehicles, the practice can encourage more the use of more efficient vehicles.

On the other hand, if carbon taxes are levied on businesses, the taxes tend to encourage businesses to move their production to other, lower-cost countries. The shift in production leads to the use of more coal for electricity, rather than less. In theory, carbon taxes could be paired with a very high tax on imported goods made with coal, but this has not been done. Without such a pairing, carbon taxes seem likely to raise world CO2 emissions.

7.  Steady State Economy. Herman Daly was the editor of a book in 1973 called Toward a Steady State Economy, proposing that the world work toward a Steady State economy, instead of growth. Back in 1973, when resources were still fairly plentiful, such an approach would have acted to hold off  Limits to Growth for quite a few years, especially if zero population growth were included in the approach.  

Today, it is far too late for such an approach to work. We are already in a situation with very depleted resources. We can’t keep up current production levels if we want to–to do so would require greatly ramping up energy production because of the rising need for energy investment to maintain current production, discussed in Item (1) of Our Energy Predicament. Collapse will probably be impossible to avoid. We can’t even hope for an outcome as good as a Steady State Economy.

7. Basing Choice of Additional Energy Generation on EROI Calculations. In my view, basing new energy investment on EROI calculations is an iffy prospect at best. EROI calculations measure a theoretical piece of the whole system–”energy at the well-head.” Thus, they miss important parts of the system, which affect both EROI and cost. They also overlook timing, so can indicate that an investment is good, even if it digs a huge financial hole for organizations making the investment. EROI calculations also don’t consider repairability issues which may shorten real-world lifetimes.

Regardless of EROI indications, it is important to consider the likely financial outcome as well. If products are to be competitive in the world marketplace, electricity needs to be inexpensive, regardless of what the EROI calculations seem to say. Our real problem is lack of investment capital–something that is gobbled up at prodigious rates by energy generation devices whose costs occur primarily at the beginning of their lives. We need to be careful to use our investment capital wisely, not for fads that are expensive and won’t hold up for the long run.

8. Demand Reduction. This really needs to be the major way we move away from fossil fuels. Even if we don’t have other options, fossil fuels will move away from us. Encouraging couples to have smaller families would seem to be a good choice.

Content Discussion

Keith Pickering's picture
Keith Pickering on January 31, 2014

I suspect that the transition you see is real, but the timing will be much more gradual than you suggest. That’s because although the cost of extracting resources at depleted level (x) increases, the amount of resoures available at level (x) increases. That makes each depleted level longer-lasting than the previous level.

Further, the higher price of the resource at level (x) leads to a search for alternatives, including conservation, that will slow (but not extinguish) demand. Therefore the solutions you see as having not enough time will, in fact, have enough time and be employed.

J Elliott's picture
J Elliott on January 31, 2014

Yes, the cost of developing unconventional oil production has increased in recent years relative to conventional oil production costs.  This is due to the combination of depleting conventional oil reserves, higher costs of secondary/tertiary recovery technologies (heat/steam, chemical/hydraulic fracturing and displacing oil deposites with water/carbon dioxide) and restricted access to known conventional oil reserves.  In the U.S. the two historic examples of restricted conventional oil reserves access are shutdown of all off-shore developments on the East and West Coasts and Alaska’s ANWR.  Similar constraints can be witnessed in Europe and other parts of the World where governments control all oil reserves/development.  Mexico’s loosening of their oil reserves recently effectively removes some of these historic government constraints.

Gail Tverberg's picture
Gail Tverberg on January 31, 2014

Minerals dissolved in the ocean are an example of minerals with very high energy cost to extract.

f we start with a finite amount of mineral, and subtract what we are using from the total, that approach depletes mineral stocks pretty quickly.

 

Gail Tverberg's picture
Gail Tverberg on January 31, 2014

I agree that the resources would be longer-lasting, if it weren’t for the pesky detail that the financial system is already collapsing. The world economy has never been able to adjust to $100 oil, since 2008. Despite the financial shenanigans that have been going on since 2008, the situation still is’t fixed.  These things may not be obvious if you are not invovled on the financial end of things, but they are scary to watch if you are.

The collapse we are headed for in the short term is financial in nature, but it has the high cost of energy extraction behind it. 

 

Gail Tverberg's picture
Gail Tverberg on January 31, 2014

Oil companies are running into the problem now that they cannot recover the higher costs of unconventional oil production in the selling price of oil. The price doesn’t rise high enough. They are starting to cut back on new drilling. They also are  returning money to stockholders in dividends, figuring that they cannot find anyplace where they can make an adequate return on that money..

The problem is that workers wages don’t rise, as the cost of drilling rises. The price of oil is a little high, but not high enough to meet the needs of oil companies for further drilling.

Nathan Wilson's picture
Nathan Wilson on January 31, 2014

On the issue of the correlation between use of cheap energy and rapid economic growth, correlation does not imply causality.  Another possible explanation is that the listed countries have high growth rates because they have a large untapped labor pool.  In undeveloped countries most people work very inefficiently as farmers; as they modernize, suddenly one farmer (with power tools) can do the work of ten under the old system.  More people can then get productive jobs in other industries, and have salaries to buy more stuff, and even pay the remaining farmers more.  This (the entrance of more people into the workforce) allows/produces economic growth.

Note that this process is not sensitive to the cost of energy, the evidence being the poor efficiency typical of industries in developing countries.  The can work around poor efficiency (or higher energy cost) by throwing more cheap labor at the problems.

I don’t doubt that there are oil producing countries that fund their governments with taxes on cheap-to-produce energy.  The fix for this is simple: they need to industrialize and develop a manufacturing sector.

For developed nations like ours, cheap energy makes everyone more prosperous (as does cheap foreign labor, to the extent that we still have jobs).  Conversely expensive energy (like expensive healthcare, transportation, food, entertainment, or communications) makes everyone less prosperous.  But we are much wealthier on average than our grandparents were, so I’m sure we can learn to live within our means (eventually), even if our means must decrease.  Yes, “corrections” in the economy and financial system can be very painful and very sudden; hopefully we will get better at managing them (no, I don’t have a solution to the debt problem, but I’m sure it is solvable, since debt is just paper.  labor, energy, and raw materials are what make the economy go).

As to running out of important raw materials: I doubt it.  The most important stuff is energy, steel, aluminum, and rock; each of these is inexhaustible on planet Earth.  The other ingredients are used in sufficiently small quantities that as long as we have energy, we can continue to extract them from lower grade resources.  Yes, fossil fuels are cheap energy sources and convenient energy carriers.  But uranium and thorium are viable and inexhaustible as energy sources, and certain renewables are viable too.   Electricity is an excellent energy carrier, and ammonia fuel is an adequate one (between the two, we can replace everything except jet fuel).

As to the value of a small population: that only postpones the inevitable.  Sooner or later, we must replace fossil energy with nuclear and renewables.  As soon as we accept that renewables are not the only sustainable energy sources (and particularly avoid over-reliance on biomass), the value of small population fades away.

Roger Arnold's picture
Roger Arnold on February 1, 2014

Gail,

Wow!  A lot of material covered, mostly striking me as accurate and insightful.  I certainly don’t agree with everything, and I think your predictions of what will unfold in the coming decade are unlikely to hold.  But it’s going to be hard for me to figure out precisely where I disagree, or put my finger on the reasons.  That’s good!  I love articles that make me think, and there’s food here for a lot of thought.

About point number one, the “rapidly rising need for investment capital, just to maintain a fixed level of resource extraction” — well, yes and no.  It rises, but it doesn’t just keep on rising.  Not quickly anyway. The thing to remember about the resource pyramid is that as one moves down from higher to lower grade resources, the total amount of the resource at that lower grade also rises.  Generally by a lot.  That’s the rule for minerals, at any rate.  

The concensus in the peak oil community had been that the rule didn’t apply for oil.  Oil was either there, trapped in porous rock under an impermeable cap layer, or it wasn’t.  In the former case, a productive well.  In the latter, a dry hole.  To be sure, there were differences in quality of different deposits — heavy vs. light, sweet vs. sour.  And there were certainly differences in the extent and depth of deposits and the permeability of the formation.  Those did affect production rate and lifetime.  In general, though, oil was oil.  Once the accessible deposits had all been tapped and production began to decline, that would be it. Peak oil would have arrived.

I think the fracking boom and the tar sands operations have shown that it isn’t quite so simple.  Oil is not so different from other minerals as we had thought.  There are, in fact, low grade oil deposits, and the total resource held in them is at least several times larger than the total in the high grade, easily tapped deposits that we have called “conventional” oil.  Has conventional oil peaked?  Oh, yes!  Probably back around 2005, as predicted.  The end of “easy” oil.  But contrary to expectations of the PO community, it has proven feasible to move down the resource pyramid and tap the much larger resources held in lower grade deposits — tar sands, deep offshore, and oil bearing shales.  Not cheap, certainly, but feasible.

Once oil prices have risen to the point that extraction from lower grade resources is profitable, there is no reason for prices to keep on rising.  The extent of resources at that point is huge.  The new higher prices should hold until this new level is also depleted, and it becomes necessary to work still further down the resource pyramid  — if a next level down actually exists.

Of course it’s more nuanced than that.  The levels of the resource pyramid aren’t really discrete; they shade into one another.  Knowledge of resource quality and location is spotty, and higher grade resources will turn up well after production from lower grade resources has begun.  And resources are frequently put into production when the price of oil is too low to recover the cost of exploration, drilling, and finishing that went into the well.  If that happens too often, E & P will be cut back until prices rise further.  So prices do tend to continue rising.  But the general pattern should be a plateau, followed be a relatively steep rise to a higher plateau.

One point that you didn’t mention, that I think is significant, is that for any fungible commodity like oil, market price is determined by the cost of production at the margins.  The price of oil is determined by the cost of producing the next incremental barrel.  Hence, when it becomes necessary to begin tapping lower grade resources to meet demand, the price of all oil rises.  That creates huge profits for those owning existing production, even though the amount being spent on marginal production is comparatively small.  High profits for holders means money effectively disappearing from the working economy.  It seems plausible to me that the consequent drop in the rate of turnover — what economists term the “velocity of money” — is what really triggered the great recession in 2008.

I’m not saying, BTW, that oil depletion — or resource depletion in general — is nothing to worry about.  In fact I’m rather dismayed by the fact that the amount of fossil fuel that its feasible to tap now appears to be much larger than we had thought.  Talk about rope to hang ourselves!  I fully agree that the system under which we currently live is unsustainable, and approaching crisis.  But the details of how and when it will give out, and what may follow…ah, there’s the rub!

 

Roger Arnold's picture
Roger Arnold on February 1, 2014

Well said, Nathan.  I agree.

Roger Arnold's picture
Roger Arnold on February 1, 2014

I don’t see the collapse of the financial system as having much to do with the price of oil, per se.  I know that that’s often asserted, but I’ve never heard what I judged to be a convincing argument for it.  

The problems with the financial system have to do with complex derivatives, greed, and corruption.  The fast rise in oil prices, OTOH, and sucking money out of the economy, did have a lot to do with the recession and the collapse of housing prices.  That in turn exposed the problems in the financial system. Those problems have exacerbated the recession and made recovery difficult.  But I agree with Nathan, that the financial system is just a matter of paper and accounts.  In the end, it’s people and capital (intellectual, physical, and social) that matter.  We really should be able to work out something for the accounting.

Rick Engebretson's picture
Rick Engebretson on February 1, 2014

It seems like much of your formative influence dates from the 1970s, as does mine. After geopolitical contrived oil shortages we had President Ford (VP Rockefeller) warning “don’t be fuelish,” and conserve. Today, in Minnesota, there isn’t enough propane, period. So the state is setting up shelters, with no end to shortage in sight, or speculated. The oil and capital challenge is here and now. Your hypothesis is the reality, yet you are challenged for intellectual sport.

Once I arrived in this rural area, I luckily met some real conservation artists. One guy was the town blacksmith, who expanded on my shop experience. He could, and still does, repair anything. All these smart modern scientists might ask how a hay baler ties twine, or a combine shells corn. The blacksmith now rebuilds old, old, cars and makes money driving them to places around the country. I wish he would build new, new cars instead. Skilled recycling works. I won’t even tell you about the 92 year old farmer who fell in love with a new hydraulic log splitter at 90.

The real winners out here seem to be the Amish. I don’t know enough to say much. But conservation appears to work.

As regards “limits to growth,” we have also run into the wall. I’m reminded of an interview in Ken Burns’ “The Dust Bowl” documentary. The person said when the crops failed “we didn’t try do things differently, we just tried do it harder.” Ultimately many moved to California, then benefitting from hydro projects. Now California is dry. There is no place left to move to except Jim Baird’s ocean real estate.

Schalk Cloete's picture
Schalk Cloete on February 1, 2014

A very brave forecast which I certainly hope does not come true. Yes, I also expect another serious global economic downturn in this decade, but I cannot see how it could possibly be as prolonged and deep as you suggest. Study of the supply curves in this recent IEA report reveals that we still have vast quantities of cheap oil, coal and gas left. Yes, there are limits to how fast we can extract these cheap resources, but it will probably not take more than a 10% demand reduction to slash global market prices in half, thereby greatly improving the economic outlook. 

Following the crash, the “Goldilocks problem” will create some economic problems as energy prices fluctuate between cheap and expensive, but eventually our wise leaders will figure out that the perpetual resource consumption growth model is no longer viable. We can probably expect a new monetary system linked to a basket of real commodities to enforce financial discipline and floating consumption taxes (hopefully with a CO2 price as the cornerstone) keeping resource consumption within scientifically derived limits.

As other commentators have pointed out, we can perform the work necessary to maintain a good standard of living using currently available “expensive” resources, but the system through which we organize this work is badly in need of a major revision. In its current form, it badly distorts the value of real goods and services and allows for massive economic imbalances (both in time and space) to be built up for far too long. 

Anyway, I will certainly bookmark this page along with numerous other forecasts for validation against future data. 

Nathan Wilson's picture
Nathan Wilson on February 1, 2014

Back before modern factories, blacksmiths used to make wrought iron from ore, by baking it in a blast furnace with charcoal, then meticulously pounding out the slag, spending days on a single axe head.  Now tourist town blacksmiths shape steel that comes from factories, and wear clothes made in sweatshops from factory woven cloth.

The Amish are living make believe lives with our (hidden) technology.  Technology and industrialization is the only thing that separate us from the stone age.

Nathan Wilson's picture
Nathan Wilson on February 1, 2014

“…keeping resource consumption within scientifically derived limits

How should we determine the limits?  Spread the available resources over 1000 years?  Why not 1000 million?

As mentioned upthread, mineral resources come in a pyramid shape, with a small amount of easy resources, and a huge amount of difficult ones.  If each generation increases the knowledge and technology base passed to the next, we can legitimately argue that we are giving future generations access to the more difficult resources.  Hence it makes sense for us to allocate the easy resources to ourselves.

Conversely, once we agree to share with the people in the distance future, our fair “static” share becomes vanishingly small, effectively limited only to what we replace from lower on the pyramid.  Hence anti-technology groups (e.g. organic farmers, anti-nuclear groups, Amish communities) have a precarious claim to any resources.

Sadly, our society has never invented a better method for resource allocation than the free market.  Yes I recycle, although it does go against the free market’s least-cost method of waste disposal (land fills).

Robert Hargraves's picture
Robert Hargraves on February 2, 2014

A possible, longer-term solution to the energy-economics crisis can be found in advanced nuclear power. Prices have been kept artificially high in the US and Europe through regulations promulgated by bureaucrats with unreasonable radiation fears and green agendas. Even so, the Westinghouse AP1000 reactors being constructed in the US will undersell energy from solar and wind sources. The over-budget, maligned EPR being built in Finland will deliver energy at 1/3 the cost of solar energy in Germany.

The capital cost of the Westinghouse AP1000 reactors being built in Georgia is near $6/watt. The same reactors approaching completion in China cost $2/watt. 

New technologies such as liquid fuel reactors can lower costs further. The liquid fluoride thorium reactor has simplified fuel handling because of the liquid form. Thorium and uranium fuels are inexhaustible in the forseeable future of civilization. The high temperatures make economical the production of synfuels such as hydrogen, methanol, or ammonia, though replacing oil will take many decades.

This Energy Collective article details the approach to economical energy to replace coal and oil, http://theenergycollective.com/roberthargraves/262916/energy-cost-innova....

This book, THORIUM: energy cheaper than coal, provides an overview of the technology and benefits of the liquid fuel technology, http://www.thoriumenergycheaperthancoal.com.

 

Gail Tverberg's picture
Gail Tverberg on February 2, 2014

I hope you read my earlier post Why EIA, IEA, and Randers’ 2052 Forecasts are Wrong. Basically, they are assuming the wrong limit in their modeling. The amount of oil in the ground is not really the limit. The limit  is the amount of oil that can be pulled out, and still maintain our current complex integrated economy needed to pull the oil out. Once that is gone, we have real problems.

The limit on the current complex integrated economy is really a financial one, that we are hitting now. It is related to current high oil prices, and the slowing effect they have on the economy. It can also be visualized as a physical oil shortage–not enough oil for both maintining current production and adding enough new investment to continue economcy growth. 

Gail Tverberg's picture
Gail Tverberg on February 2, 2014

Rick,

I owuld point out that the 1970s crisis was very real. United States oil production began falling in 1971, and the Arab members of OPEC took advantage of our vulnerability. There was a real physical shortage, but fortunately at that time, other sources of oil that could be tapped, if we just got to work on it, and prices were somewhat higher. We were able to make some efficiency chages and also switch away from oil to nuclar and coal where we could, so the crisis was averted. But it still left us with lower economic growth, and and we ended the period with fewer options as to what we could do, the next time we ran into a crisis. We had alrady “picked the low hanging fruit.”

Gail Tverberg's picture
Gail Tverberg on February 2, 2014

It is too bad that the world isn’t a much bigger place, with a lot, lot more trees. We have had problems with deforestation for 4,000 years. Deforestation was reaching crisis proportions by the time coal was discovered as a way of heating, so as to save the forest.

We now have 7.2 billion people. We had fewer than 1 billion people when we ran into bad deforestation problems before. If we didn’t need to 1. Make metals, 2. Make glass, 3. Cook food, 4. Keep warm keeping our forests would not be nearly as bad a problem. (Needed for land for agriculture still puts pressure on forests.) It is hard to see how we can have much metal, other than metal used in its current form, perhaps rebent a bit,  in a way that doesn’t require heat treatment.

 

Gail Tverberg's picture
Gail Tverberg on February 2, 2014

With enough energy products, ores for any of these metals is inexhaustible. The question is whether we can keep our financiial system going at the same time.

What we run out of is the physical (and fiancial) resources needed to extract enough oil both to 

(1) Maintain the status quo–because of the rapidly rising needs for more energy to stay even

(2) Allow economic growth–through new investment

Nuclear and modern renewables are both fossil fuel based–we can’t ahve them without fossil fuels. It is only “old renewables” that work for the long term. We may very well have to go back to them, but there are not enough to go around for 7.2 billion people.

 

 

 

 

 

 

 

Gail Tverberg's picture
Gail Tverberg on February 2, 2014

Read my article that was published in the peer reviewed journal Energy. I have a copy of it that is not behind a paywall at this link: Oil Supply LImits and the Continuing Financial Crisis.

Roger Arnold's picture
Roger Arnold on February 2, 2014

Thanks, Gail.  I agree with you that the near term threat is rooted in the state of the financial system, and that oil supplies and prices did and do play a large part in that system.  I also agree that the system is very heavily dependent on the availability of credit and the ability to service debt, and that economic growth — or at least the perception of it — has a big impact on those areas.  

This is an important but complex issue.  I can’t begin to do it justice in a short comment, but the crux of what I believe is as I stated earlier: that sharply rising oil prices did trigger the recession, and that the associated collapse of the housing bubble exposed deep problems in the financial system.  The rot had been developing for a long time before the crisis, and had little to do with oil prices per se. (Though rampant speculation and market manipulation are certainly part of the rot and may have played a role in the speed and degree of rise of oil prices.)

I don’t think the rot in the financial system even had/has much to do with economic growth — except in the sense that growth allowed it to remain hidden.  Like a Ponzi scheme that only collapses when it can’t attract new investors fast enough to pay off the growing pool of existing investors.

Where I remain dubious is in the assertion of an intrinsic link between oil prices and economic growth — whatever “economic growth” actually means.  I would certainly dispute an intrinsic link between oil consumption and economic prosperity or quality of life.  Cheap oil, or cheap energy in general, are nice, but not (IMO) truly essential for prosperity.  Like cheap sugar, they are probably even detrimental to health, in the long term.

Rick Engebretson's picture
Rick Engebretson on February 2, 2014

Gail,

the 1970s oil crisis forced many to park their 400 horsepower muscle cars, and stop burning rubber and doing wheelies. IIRC the AMC (formerly Rambler) Gremlin sold well, Toyota rapidly grew in car sales and quality.

Similar is happening today. Some people must choose between gas for their snowmobile or gas for heating their home.

The challenges you describe are imminent. I just think there remains tremendous conservation opportunity. And it remains difficult to conduct civil discussion. But you still try; thanks.

Gail Tverberg's picture
Gail Tverberg on February 3, 2014

As I mention in the article, my beliefs are not Peak Oil beliefs. They are “Limits to Growth” beliefs. Limits to Growth is something that has happened in different ways, over and over, throughout the centuries. Meadows and others did models in 1972 that were documented in the book Limits to Growth, showing that the limits were likely to hit again, right about now, or a few years later than now. Updated analyses have shown that we are “on track” for hitting those limits.

Oil does indeed act like other minerals. A major problem that the modelers of the original Limits to Growth study found was the same very rapid growth in resources needed for extraction and to maintian current production that I mention. This growth crowds out economic growth, because when supply of a necessary resource such as oil is not growing rapidly, there is not enough for both maintaining the system at the current level and adding new economic growth.

Nathan Wilson's picture
Nathan Wilson on February 4, 2014

Nuclear and modern renewables are both fossil fuel based–we can’t have them without fossil fuels.”

Non-sense.  But I accept that their costs will go up (since when making concrete and steel, hydrogen/ammonia can do anything that fossil fuel can do, but at a higher cost).  I believe we are currently much wealthier and use more energy than is necessary for happiness, so expensive energy will be far preferable to the sort of global population collapse that would be require by a return to biomass energy.

Schalk Cloete's picture
Schalk Cloete on February 4, 2014

Sure, I agree with you on the premise that we need high quality energy resources to sustain the type of economy that allows us to extract the lower quality energy resources we have recently been forced onto. Jessica Lambert’s work together with Charlie Hall on the EROI pyramid (which I referenced here) illustrates this quite nicely. I therefore agree that the economy must contract if we cannot learn to use energy (especially oil) much more efficiently, but I just cannot see such an enormous and sustained contraction as you indicate. 

The curve you plot looks very much like the collapse scenarios in the limits to growth books, but the authors of these works repeatedly stress that their models are not valid in an environment of contraction. We have no idea how the global economy will react if we see a multi-year decline in world GDP, but I think that, if this happens, the associated turmoil will provide more than enough motivation to make major changes to the current system along the lines I hinted at before. We might even require a major reset like a debt jubelee or something similar.

I really hope it does not come to that, but my point is just that a multi-decade contraction in global economic activity appears highly unlikely given the level of motivation for fundamental change that this will provide to the ruling class. 

Rick Engebretson's picture
Rick Engebretson on February 4, 2014

I think this exchange between Gail and Schalk perfectly reflects a current dilemma. The older generation expresses particular concerns for system failure, the younger generation has doubts it can happen.

As another oldster who knew earlier generations, I can assure young people the system can collapse and did collapse. To know the survivors was to know the depression, dust bowl, world wars was burned in their character.

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