Economics

Where does money get its value? What physically is economic wealth, and what conditions allow for innovation and growth? What if our global economy is fundamentally supported by a consumption of energy? And if most of our energy comes from burning finite resources of fossil fuels, What does this imply for future global economic growth and climate change?

Hypothesis

Economics textbooks normally describe wealth, value, or capital, as a “stock”. The GDP is a “flow” that is related to the stock in a fairly complex fashion. The monetary value of the capital stock is sustained by our collective beliefs.

This seems a bit unsatisfying though. What exactly is it that sustains our beliefs? Surely our beliefs come from somewhere. Our sense of value isn’t totally naive or ill informed.

Perhaps as a clue, we can look to thermodynamics and physical laws. These state that for us to make a measurement of the size of any “stock”, we must perceive some sort of proportional flow. That’s how measurement works. For example, we perceive the size of someone through a flow of light.

So, even if wealth may be a human quantity, everything we consider as part of civilization is still a part of the physical universe. And certainly wealth can be measured and quantified. So maybe our perceptions of the wealth “stock” can be linked to some sort of physical flow.

But which flow? Flows we measure are always associated with a consumption or dissipation of some sort of potential energy. For a waterwheel within a mill, the mill consumes high potential energy at the “top” of a height gradient in a stream. The gradient sustains all wheel motions in the “middle”. The flow finishes its journey at the “bottom” of the local gradient, where waste energy is dissipated and lost forever.

Similarly, the “primary” flow that sustains civilization is a consumption and dissipation of high energy density “primary energy resources” that include fossil fuels. These fuels ultimately propel all of civilization’s activities, even our thoughts and perceptions of wealth, and are aided by the raw materials from which civilization is made.

With growing availability of potential energy supplies, civilization can grow and support more activities. If we start to run out of energy supplies, then we might expect civilization wealth to enter a phase of decline that can be saved only by discovery of new energy reserves. If we ever run out of energy altogether, then lacking food we should soon all be dead. Lacking fuel, our machines would stop. The gradient that meaningfully distinguishes civilization from its surroundings would disappear and all internal flows would grind to a halt. Civilization wealth would no longer be measurable.

The point here, is that maybe economic capital isn’t best thought of as an inert stock that is a collection of stuff. Rather it is a relative stock whose value is in its capacity to sustain an energetic flow. Just as the watermill can do nothing without water and a gradient, even if all the stuff remains, a civilization would be worth nothing without there being reservoirs of high energy density primary energy like oil and coal. It is this energy plus our prior accumulation of stuff that sustains the economy’s flows and what we perceive as wealth.

An important point here is to recognize that individual elements of civilization wealth or capital should not be thought as being purely additive. Through internal communications and trade, civilization is a whole. Nothing has any intrinsic value that can be separated from everything else. Global energy consumption sustains all of civilization together.

Our buildings, our people, our nations, our knowledge, and everything else we consider to be part of society’s wealth, all work in combination to sustain society’s global “feeding”. While an ounce of gold may seem to be inert and consume nothing, it is part of civilization, and it acts as a valuable part of society. Gold helps, however indirectly, to facilitate all of society’s energy consumption. If, however, an identical piece of gold were left abandoned and forgotten in the middle of the desert, it would currently be worthless.

It might help to think of civilization as a global organism that collectively feeds on the energy in coal, oil, natural gas, uranium, hydroelectric power and renewables. Global civilization wealth, or capital, is sustained by civilization’s rate of “food” consumption. This consumption supports not just the production of new wealth through the GDP. It also sustains all of civilization’s historically accumulated production of wealth. Just like us as individuals, civilization must continually feed to survive and maintain its past accumulated growth against the ever present forces of dissipation and decay.

For more details on the physics and a comparison with traditional models see here. But, if the above is correct then we might expect to see that a very general measure of global economic wealth (or total capital) can be tied to global primary energy consumption through a numerical constant. Consuming energy faster means we can have more wealth. Consuming less means sustaining less. Wealth is power.

Hypothesis evaluation

As argued in studies published in Climatic Change, Earth System Dynamics, and arXiv this simple hypothesis does indeed look to be true. The observed relationship between the current rate of energy consumption or power of civilization, and its total economic wealth, is a fixed constant of 9.7 ± 0.3 milliwatts per inflation-adjusted 1990 dollar. Equivalently, expressed in the units of the plot shown below, the constant equals about 300 kiloJoules per year per 1990 dollar. The plot shows wealth in blue, energy consumption rates in red, and the value of the constant in green. Currently, the global energy consumption rate of about 16 TW sustains about 16,000 trillion 1990 dollars of global wealth. In 1970, both numbers were about half this. Both quantities have increased by an average amount of about 1.85% /year since.

Note that the comparison here is not between energy consumption and the global gross domestic product (GDP), as has been erroneously claimed in published criticisms of this work; GDP has units of currency per time. Wealth has units of currency. GDP and wealth are not at all the same thing.

What real (inflation-adjusted) GDP can be tied to, however, is the rate of change in how fast civilization as a whole is consuming energy, through the same constant of 9.7 ± 0.3 milliwatts per inflation-adjusted 1990 dollar. At global scales, and over longer timescales, we must continue long-term growth of our capacity to consume primary energy reserves in order to sustain a positive real GDP. If consumption becomes too difficult, due to reserve depletion or accelerating environmental disasters, all our efforts to produce growth will be more than offset by inflation and decay. Energy consumption will continue. It may even be higher than it is today. But if energy consumption rates decline then global civilization will enter a phase of collapse.

This model cannot be easily compared to mainstream models in two key aspects. For one, human consumption is not a component of production that can be subtracted to obtain an “investment” in capital. This is because people are already subsumed into a very general representation of capital. Consumption does exist, but it is treated as being “orthogonal” to production, sustaining what remains of prior historical production. For another, the model described here is falsifiable. Traditional macroeconomic models may be popular, but they are not falsifiable because their production functions can always be “tuned” to match observations. This is important, because falsifiability is the hallmark of science.

The overall conclusion here is that, for a given quantity of money to mean something it must be supported by a fixed amount of global primary energy consumption: 9.7 ± 0.3 milliwatts per inflation-adjusted 1990 dollar. Turn off all the power and civilization is worth nothing.

Implications for the economy and climate

Adding some basic math and physics that I describe in the academic papers listed below, there are quite a wide variety of implications, some rather depressing, and a few enjoyably counter-intuitive (if still far from cheering). In a nutshell:

•If the global economy is able to achieve gains in energy efficiency or energy productivity, it will accelerate energy consumption by accelerating healthy civilization growth into new energy reserves. Efficiency gains create a “super-exponential” acceleration of energy consumption and carbon dioxide emissions while growing the GDP. Expressed in terms of economic demand, this effect has been termed “backfire” or “Jevons’ Paradox”.
•Growing global wealth requires increasing global emissions of carbon dioxide because both are linked to energy consumption rates. The two go hand in hand ... unless we change civilization’s fuel mix. If we are to simply stabilize CO2 emissions at current growth rates, this would require building the equivalent of about one new nuclear power plant per day.
•If we are no longer able to grow our rate of consumption from our energy reservoirs, then civilization wealth will enter a phase of collapse. A collapsing civilization will emit less CO2 because it is consuming less energy.
•If global warming becomes so severe that it causes civilization collapse despite our best efforts to avoid it, it will manifest itself economically through hyper-inflation.
•Stabilizing atmospheric CO2 concentrations below a level of 450 ppmv that might be considered dangerous requires civilization to begin a collapse of its wealth almost immediately.

Like any other organism, civilization's growth rate is determined by its past well-being, environmental predation, whether it eats all its food, and whether it is able to move on to discover new food sources. For civilization, food is things like oil and iron, things we deplete, but can use also to discover new reservoirs (if they exist). Our ability to discover these reservoirs might easily be impeded by natural disasters, such as those we might experience from CO2 induced climate change.

To see more, presented in a fairly non-technical form, please see a recent talk on this subject at the Pacific Institute for Climate Solutions, or a radio interview with Radio Ecoshock. A slightly more technical short talk was presented at the Third Santa Fe Conference on Global & Regional Climate Change

This work was initially developed under a NASA New Investigator Program award, and has been supported more recently by the Ewing Marion Kauffman Foundation, whose views it does not claim to represent.