Energy Economics Wrap Up

Lots and lots and lots of interesting news and doings in the energy economy sector this past week or so. I confess that I haven't had time to completely read all of these myself. But the one thing is clear: among serious economists and capitalists, energy economics is rapidly gaining mindshare as a very important issue.

First off, from the excellent econ-blog, Econbrowser, comes an exchange with Dallas Fed Director of Energy Economics, Stephen Brown on the (free) WSJ Econblog on Will Oil History Repeat Itself Econbrowser coauthor and Professor of Economics at U.C. San Diego begins:

The price of oil has more than doubled in the last three years, going from $30 a barrel to now above $75. On previous occasions when we saw oil price moves of this magnitude, such as 1974, 1979 and 1990, the world economy went into a recession. What's different this time?

In my view, part of the answer has to do with the cause and timing of the oil shocks. In each of the previous episodes, oil prices made their move within the space of a few months and were caused by war-related cuts in oil production. By contrast, the current run-up has been a more gradual process extended over several years, caused by surging world demand running up against limits to what global producers can supply.

Brown, replies,

Rather, what we have seen is an expanding world economy driven by gains in productivity. The gains in trade with China and other countries have boosted output and labor productivity around the world. The increases in productivity hold down inflationary pressure even as they increase the return to capital investment and boost the demand for and the price of energy.

The result is strong economic expansion, a relatively benign inflationary picture, and rising oil prices. This describes fairly well the experience over the past few years.

Even though productivity gains and expanding world economic activity have been a major factor driving the price of oil upward, that does not negate the high likelihood that U.S. economic growth would have been even stronger had world oil supplies not hit capacity and oil prices had not risen over recent years.

The entire exchange is well worth reading in its entirety. Both men conclude that although the run-up in oil prices in the last three years has probably held back the economy to a serious degree, the gradual rise has allowed for individuals and corporations to reallocate resources to cope with them and thus has not led to an oil shock-driven recession.

One should also note though that both men caution that increased growth in consumption combined with the rather bleak outlook (not shared by the U.S. Energy Information Administration) for development of future reserves means that upward pressure on oil prices can be expected to remain high for the foreseeable future.

Which is pretty good news, actually. If prices continue to rachet up slowly then we have time to begin to transform our economies away from oil dependence. Enough time? Who knows? But, indications are that business leaders are starting to get it.

Witness this Business Week Special Report Wall Street's New Love Affair. A huge multi-article report on everything pressure being exerted on corporate boards to go green pension fund managers to solar energy's big comeback. The introduction states:

In liberal and conservative circles alike, energy independence is becoming a national imperative, and renewable energy is attracting an unprecedented array of groups. "We're seeing an alignment of the environmental interests, automakers, the agricultural industry, the security and energy-independence proponents, even the evangelicals," says billionaire venture capitalist L. John Doerr. "When did all those [interests] come together before?"

You know a cultural movement is real when the money men get on board. In just the past year a broad swath of financiers -- venture capitalists, hedge funds, investment banks, public pension funds, and even stodgy insurers -- have begun sinking billions of dollars into producers of ethanol, fuel cell superbatteries, microscopic bugs that turn glucose into plastic, environmentally friendly pesticides, anything that might tap into the green craze. Saving the planet, protecting America, doing God's work, cynically exploiting a feel-good trend -- call it what you will. Wall Street sees money to be made. When John V. Veech, a managing director at Lehman Brothers Inc. (LEH ), showed up at a renewable energy conference in June, he was amazed to see that it was standing room only. "If you went five years ago you'd see a lot of ponytails," he says. "Now these conferences are packed with suits."

I haven't had time to wade through all of it yet, but it is worth the read in order to see where these people are putting their money and how the "mainstream" business press is treating it.

Meanwhile, the Great Ethanol Debate continues. Vinod Khosla, co-founder of Sun Microsystems, serial entrepreneur, and venture capaitalist, who is now a very prominent investor and cheeleader for ethanol was recently called out by The Oil Drum's Robert Rapier, who's work on ethanol economics I regerenced here. Lots of electrons expended in this debate. Rapier's original post is entitled, Vinod Khosla Debunked. In addition to reiterating his own previous work on the viability of ethanol as a substitute for oil -- and that's the main thing issue, the idea that we can just continue with business as usual and use corn instead of Saudi Oil -- Rapier's main beef with Khosla's road show is:

People trust that he knows what he is talking about. The Wikipedia biography says he is “successful and influential”. Make no mistake; he is influencing people in this ethanol debate, including political leaders. Khosla is convincing people that his projections are viable. Yet, are they carefully scrutinizing his claims? No, because they trust him. Yet claims like his, will dampen conservation efforts, and Americans will not be prepared for Peak Oil. After all, Khosla, a guy they trust, says we are going to produce enough ethanol to replace our oil imports.

Khosla to his credit took Rapier's criticism seriously (another victory for the blogsphere!) and the conversation between Khosla and Rapier is written up by Rapier on the Oil Drum, in A Conversation With Vinod Khosla. Although Rapier pushes his own opinion forcefully, he does a very good job of summarizing Khosla as well. Khosla's own, unvarnished, pro-ethanol position can be found on this Google Video interview.

This entire set of links should take about two or three hours to go through. But at the end the reader will be rewarded with a very complete working knowledge of both sides of the debate on ethanol fuel. Worth every minute. Because, as the links above show, investment and policy decisions are being made now that will profoundly shape our economic future. If the economists are right, we have some time to play with to get our energy economics house in order. But a trip down an economic or resource dead end would probably use up what time we have to spare.

It seems to me the most conservative approach would be the following:

1. An energy policy approach that acknowledges that there is no single-solution to oil dependence and that allocates research and development to all technologies with the idea that each region will have a combination of technologies that is appropriate. Here in the Midwest for example, we are blessed with excellent wind, moderate solar and lots of biomass (ethanol). Whereas Phoenix and environs will be a solar paradise.


2. Leveling with the American people that, the Vice President's assurances notwithstanding, the American lifestyle is negotiable. It will either be handed down to us by the invisible hand of the marketplace, or it will be the product of some healthy debate and thought on the part of the American people. But things will have to change.