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Running Out

Running Out

Courtesy of Michael Panzner at When Giants Fall

Out of the large universe of so-called experts, there are only a relative few, as I noted in a post at Financial Armageddon, worth paying attention to. One of those individuals is Jeremy Grantham, chairman and co-founder of global investment firm GMO, who I don’t always agree with, but whose opinions I have always respected. In fact, I’ve noted his insights on several occasions — see "For Some, a Total Loss," "Give ‘Em Enough Hope…," "Another Permabear Who Doesn’t Know What He Is Talking About?" and "Words from the Wise" — but I haven’t really strayed to far outside the realm of financial markets and economics. Now, though, Mr. Grantham is out with his latest quarterly newsletter, and it includes a section (excerpted below), entitled "Initial Report: Running Out Of Resources," about a somewhat broader theme that features prominently in my new book, When Giants Fall:

Getting Used to Lower Growth and Higher Prices

As the economy sorts itself out from the recent financial turmoil, we are very likely to have lower growth rates for quite a few years. We described the reasons for this last quarter: writing down excessive loans and curtailing expenditures as we realize we are not as rich as we thought.

Economic expansion will also be held back by the decreasing growth of available man hours. Since 2000, this growth has declined to below 1% per year from an average of 1.62% for the prior 50 years. Over the next 30 years, it is almost certain to continue to decline to about 0.5%, ignoring the temporary cyclical bounce in employment that we will get as the current severe recession ends.

Behind these two issues, however, lurks another longer-term and more important factor affecting future growth, and that is the increasing limitations on resources: we are simply running out of everything at a dangerous rate. We apparently have trouble processing numeric issues of this kind, and this missing faculty will cause considerable grief. We do not understand the implications of exponential or compound growth rates: the main implication being that they are impossible to sustain.

No better example of resource limitation in the face of both denial and strong efforts can be found than U.S. oil production. As is well known, we have been on the steep downslope of production since 1974 despite our best attempts to “Drill, baby, drill!” The largest oil discovery in the Gulf in the last 20 years will keep our engines running for a mere 41 days. Nothing we do can reverse the decline, and drilling our reserves faster has been described as “oil independence through more rapid exhaustion of our reserves!” Coal reserves of the highest quality – anthracite – are basically mined out everywhere, and the second choice – bituminous coal – has probably also passed its peak. All attempts to maintain the growth of total hydrocarbon output must now depend on subbituminous coal, lignite (which is a little bit better than burning rock, but not much), and tar sands, which are themselves increasingly energy- and water-intensive to exploit.

Modern agriculture has been described as a way of turning hydrocarbons into food. Without cheap energy – a single gallon of gas is the energy equivalent of 100 hours of old-fashioned labor – the world would certainly have trouble producing half of the current food supply, and that fraction could be substantially less. Hydrocarbons are not only critical to farm equipment and food distribution over very large distances, but also play a dominant role in fertilizer production. With sparse hydrocarbon usage, American agriculture would have to be totally and painfully restructured away from very large scale monoculture. Hydrocarbons are very efficient in the use of manpower but surprisingly inefficient with everything else, including output per acre and output per unit of energy.

All metals are facing the same depletion problem as hydrocarbons. Where 30 tons of copper ore once produced a ton of copper, it now takes 500 tons of ore! And with every extra ton of ore required, the energy intensity also rises. Several specialized metals critically important as catalysts are past their peak production. Water resources, so necessary for agricultural growth, are under incredible economic pressure, and are simultaneously diminishing in absolute terms.

This would be a dangerous situation with zero population growth; in fact it would guarantee that per capita growth would slow. Yet population growth in the last century has been the fastest in the history of man. The recent 100-year growth exceeded that of any 2000-year block in history. And in terms of absolute numbers added, the world’s population has increased 2.5 times in my lifetime, from 2.5 billion to 6.5 billion.

It should be obvious from simple arithmetic that population growth is on a direct collision course with increasingly scarce resources. For millennia, food constraints held the world’s population nearly constant. About 12,000 years ago, these constraints were altered significantly with the start of organized agriculture. Then, around 200 years ago, the so-called Agricultural Revolution – the introduction of science to farming – allowed for another doubling in output. All of this was dwarfed, however, by the harnessing of hydrocarbons – the sun’s energy stored over hundreds of millions of years. This remarkable patrimony is now about half gone, and some time in the next 10 to 40 years, half of all of our resources will have been used or, stated another way, one last doubling will remain. We are looking at the last of 14 doublings in the past 250 years. We are, if you prefer, 13/14ths of the way through the game in exponential terms! At 1% growth in hydrocarbon consumption, which would be a dramatic reduction in the growth rates of the last 30 years, our reserves would last for merely one more generation. As we move through our remarkable and irreplaceable hydrocarbon reserves, the price will, of course, rise remorselessly to ration supplies. Hydrocarbons will increasingly be limited to their highest and best uses: (probably) petrochemical feed stocks and aviation fuels. The price rise, which for a while is quite likely to be parabolic – rising at an increasing rate rather than a steady rate – will have an immediate effect on the price of all agricultural products. Also affected will be the price of all metals, which too have become extremely energy-intensive, as has hydrocarbon production itself.

This transition away from carbon-based fuels could have been relatively painless on paper, but in real life our species has such a modest ability to deal with distant outcomes or to defer gratification that a bad ending is probably inevitable. We need, it seems, the shock of a Pearl Harbor to really gear up and make sacrifices. For the record, in 1977 President Carter pointed out that we were running out of oil and would need to make some “sacrifices.” By “sacrifices,” by the way, he did not mean real wartime-like sacrifices, but merely a time of settling for a lower rate in the increase of wealth. He noted quite accurately that in the 10 short years preceding 1977, our planet’s population had used as much oil as in its whole previous history! (That is to say, it had doubled usage in 10 years, or had grown at 7% a year, which doesn’t sound so Draconian but, of course, is.) Carter urged us to fully insulate 80% of our houses in 10 years and to continue President Ford’s auto fuel economy initiatives; following these recommendations would have actually freed us from the need to import any sensitive Middle Eastern oil! As a famous symbol, he had solar panels installed on the White House roof. Remarkably, this very un-American speech of his was well received by its audience but, unfortunately for him (and probably for us also), very little else he did was.

Carter was dispatched by President Reagan, who was admirable in many other ways in my opinion, but apparently had psychological problems when dealing with limits. In a display of brilliant politics and complete innumeracy, Reagan argued passionately and appealingly that the whole idea that our children were not entitled to a much richer life than their parents was un-American, sacrifice was unnecessary, Carter had overstated the case, and down came the solar panels. Thus, our sole effort at dealing with some foresight with the iron laws of limits was brushed aside, and the particularly egregious age of SUVs and increasing dependence on oil imports was ushered in.

Well, dear readers, happy thoughts and wishful thinking do not make it so; 30 precious years have passed, and there is now no safety margin. We must prepare ourselves for waves of higher resource prices and periods of shortages unlike anything we have faced outside of wartime conditions. In fact, I believe we are already several years into this painful transition but are still mostly invested in denying it.

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