Economic Scenarios for an Age of Declining EROIs

One of the most interesting presentations on the ASPO USA Peak Oil Conference 2009 was delivered by Charlie Hall (ESF) and Hannes Kunz (IIER). This is a short overview of their research.

They suggests that a fundamental change in economic dynamics requires a new approach to macroeconomics. Instead of the traditional "Growth" paradigm their research has lead to a much wider system definition which includes

• Financial systems (money supply, credit, prices, etc.)
• Resource systems (energy, human labor, other natural resources)
• Global flows of goods, energy and funds (exports, imports, balances)
• Population development

The New Paradigm: Decline is as much part of a human ecosystem as is growth

Energy and GDP

Economic Scenarios for an Age of Declining EROIs describes consistent correlations of Energy use and GDP:

GDP$ per Energy Unit Consumed is defined as Total Global GDP (in US$ PPP) divided by the sum of Human Labor and External Primary Energy Inputs.

Primary Energy inputs and economic output are highly correlated, even before eliminating distortions from globalization. Mining, agricultural inputs, raw materials and manufacturing contain a significant amount of “energy accounted for elsewhere”, which is not included in traditional energy efficiency reviews. Most differences can be explained from energy transfers from industrial processes. The result is a rough average of 133 US$ purchasing power parity of GDP produced per GJ of energy input.

The first conclusion of the presentation is that most of our increased “productivity” comes from replacing human labor with fuel and machinery. The “productivity increase” leads to immediate gains for an economy and rising standards of living.

The Energy Squeeze-Out

Over the past decades, our fossil energy sources have become less efficient. Independent of the arrival of “Peak Oil”, increasing amounts of upfront energy are required to explore the next new units of energy. The concept of EROI (Energy Return on (Energy) Investment) describes this as: Energy Units Gained from one Energy Unit Used.

A change of EROIs from 80:1 to 20:1 (current estimate for global oil production) equals a “salary increase” of physical work from oil by a factor of almost 4, significantly reducing benefits to our economy. Higher energy cost quickly reverses previous gains from increased “productivity”.

Looking at EROIs and expected changes shows significant trouble ahead. Transportation will be highly affected by declining EROIs (and thus higher cost). The highest impact however will be seen in agricultural production.

High contribution of energy to food production (4-5% of global non-renewable energy consumption goes into food); in OECD countries, another 10-15% is used for processing and transporting food. With rising energy prices, farming and food processing will have to reduce input and thus output directly with higher fuel prices (less fertilizer equals less crop). Food prices will still rise both due to shortages and higher production cost and squeeze out poorer countries.

Lower EROIs will start squeezing out low-efficiency applications of energy. A significant number of industrial transportation and production chains will become unmanageable.

• Cost of commodity transportation becomes significant
• Global arbitrage of labor cost for low-cost/high-volume goods will become unattractive over long distances
• A substantial portion of global trade (the lower cost bracket) will be unattractive
• Food production and processing will no longer work on todays levels, with more local food and less processing
• Results might be very different compared to most people’s expectations

Download the full presentation in pdf to learn more.