The Breaking Point

by James Dale Davidson

  Labor Theory of Value: An Energy Theory of Value

  Morgan also inadvertently refreshed my understanding of that vexed topic—the labor theory of value—to which Adam Smith, David Ricardo, and Karl Marx all subscribed but which proved so much more incendiary in Marx’s treatment. Tim Morgan suggests that the labor theory of value is really an “energy” theory of economic value. He writes, “Human effort is energy, and that energy is in turn derived from the food that we eat, which itself is another form of energy. The nutritional content of food can be measured in calories (a unit of heat), and human labor can be quantified in Watts, a unit more commonly used to measure electricity.”

  If we are smart about it, we can see that the equation of human somatic muscle energy with exogenous energy dramatically overvalues human effort. There is no conceivable way that the great majority of work done in a modern economy could be performed by human labor alone. Morgan offers a compelling example: put one gallon of gasoline in a car, drive it until the fuel runs out, and then pay someone to push it back to the starting point. This illustrates the major difference between the price of energy and its value in terms of work done.5

  A Gallon of Gas Worth $6,420 in Work Equivalent

  It is a stark illustration. A (US) gallon of gasoline equates to 124,238 BTU of energy, which in turn corresponds to 36.4 kWh. “Since one hour of human physical labor corresponds to between 74 and 100 W, the labor-equivalent of the gasoline is in the range 364 to 492 hours of work. Taking the average of these parameters (428 hours) and assuming that the individual is paid $15 per hour for the strenuous and tedious activity, it would cost $6420 to get the car back to the start-point. On this rough approximation, then, a gallon of fuel costing $3,50 generates work equivalent to between $5,460 and $7,380 of human labor.”6

  This cost mismatch reflects the fact that human muscle power is very inefficient and inadequate in comparison to the work that is done for us by hydrocarbon fuels on a daily basis.

  If you are still not convinced, Morgan invites you to employ “workers pedaling dynamo-connected exercise bicycles to generate the energy used by electrical appliances in a typical Western home.” He guesses, and so do I, that the cost of powering the home that way would be many magnitudes higher than “the average electricity bill.”

  More Energy Deployed since 1900 than in All of Previous Human History

  This is why the challenge to economic growth poised by the plunging EROEI is so serious. Unlike in the past, when almost all physical work was powered by human and animal somatic energy, most work today is powered by exogenous sources. Morgan writes, “Of the energy—a term coterminous with ‘work’—consumed in Western developed societies, well over 99% comes from exogenous sources, and probably less than 0.7% from human labor.”7

  Leslie A. White put the meager yield from human energy (labor) in perspective in the 1940s:

  The first source of energy exploited by the earliest cultural systems was, of course, the energy of the human organism itself. The original cultures were activated by human energy and by this source and form alone. The amount of power that an average adult man can generate is small, about 1/10 of one horsepower. When women and children, the sick, aged, and feeble are considered, the average power resources of the earliest cultural systems might be reckoned at about 1/20 hp per capita. Since the degree of cultural development—the amount of human need-serving goods and services produced per capita—is proportional to the amount of energy harnessed and put to work per capita per year, other factors remaining constant, these earliest cultures of mankind, dependent as they were upon the meager energy resources of the human body, were simple, meager and crude, as indeed they had to be. No cultural system, activated by human energy alone, can develop very far.8

  For most of recorded history, economic growth was negligible. Historian J. R. McNeill states the obvious: “The economic growth of the last two centuries, and the population growth too, would have been quite impossible within the confines of the somatic energy regime.”9 Those confines were first stretched by the use of coal to replace wood in the early days of the Industrial Revolution.

  In Something New Under the Sun, McNeil estimates that energy use worldwide increased by threefold during the nineteenth century.10 That process of accelerating energy conversion increased even more dramatically during the twentieth century, when global oil production compounded at an annual growth rate of 5.73 percent. This represents a truly astounding departure from the past. McNeill points out that humans have probably deployed more energy since 1900 than in all of human history before 1900. “My very rough calculation suggests that the world in the twentieth century used ten times as much energy as in the thousand years before AD 1900 and in the hundred centuries between the dawn of agriculture and 1900, people used only about two-thirds as much energy as in the twentieth century.”11

  A “Very Passing Phase”

  Little wonder that the material standard of prosperity in the advanced countries, those that harnessed the most energy, in the twentieth century reached unprecedented heights. If McNeil can be believed, twentieth-century prosperity was supported by one-third more work than had been accomplished through the whole of human experience back to the dawn of agriculture. We live better than our ancestors because so much more work has been done on our behalf. It is the situation that Soddy described as a “very passing phase” of augmenting our energy income of current sunshine by consuming “energy capital” or coal (and oil), comprising the “stored sunlight of Paleozoic summers.”

  According to Soddy, the “flamboyant period of high consumption of energy capital was bound to end soon.” How soon? Soddy doesn’t say, except to imply that we have enjoyed what can only be a limited and passing phase of prosperity based on using up the energy that capital stored over hundreds of millions of years.

  Morgan suggests that this phase is already over. He asks whether you as an investor can confidently expect global oil output to double again in the next seven to eight years. By implication, that is what would be required to return to the twentieth-century growth rate in living standards. Morgan tells us that the answer turns on EROEI. I prefer to think in terms of EROEI rather than “peak oil” because peak oil has become entwined with, and confused by, the whole corporatist green energy agenda. It is easier to misconstrue the assertion that the world is running shy of oil into a rationalization for crony capitalist rip-offs, like Solara and corn-based ethanol, than it is to fabricate subsidies on the basis of EROEI.

  In fact, the last thing the corn lobby wants to hear is an analysis of their biofuels in energy budgeting terms. Tim Morgan comments: “Biofuel EROEIs seldom exceed 2:1, and some are negative, meaning that the energy extracted from producing so-called ‘green’ fuels is actually less than the energy put into the process in the first place! In the energy budgeting terms in which we are going to have to calculate our decisions in the future, producing such fuels is value-destructive, and is about as rational as putting barrels of oil into rockets and blasting them into space.”12

  Morgan argues that critics of Peak Oil “have provided the right answer to the wrong question. Cornucopians needs tell us that there is nothing to worry about, because reserves of oil (and of other fossil fuels) remain abundant. This completely misses the point . . . Because the real issue is not absolute volumes of energy at all, but surplus energy (that is the difference between the gross amount of energy produced and the energy consumed in the extraction process).”13

  Another virtue of analyzing energy prospects in terms of EROEI enables you to better calculate the crisis horizon. In principle, a peak in oil production could be compatible with a long, gradual falloff in output. Other things being equal, a peak only implies higher oil prices (or insufficiently high prices to justify rapidly escalating capital investment to produce ever-more-elusive barrels of oil). It doesn’t tell you when energy returns reach the cliff’s edge, where the capture of surplus energy plunges so far that neither the real economy as we have known
it nor the shadow economy of money and debt remains viable.

  Net Energy Is Key

  Both Morgan and Soddy insist that the economy is a physical system vitally dependent on surplus energy. Soddy’s was an abstract argument. Morgan’s analysis in Life after Growth is built on an impressive array of detail documenting the ongoing drastic decline in the availability of surplus energy. Morgan is a former top analyst for London-based interdealer Tullett Prebon, which specializes in wholesale trading in energy markets. He has a market insider’s view of energy. Among other things, he deflates the collective delusion that shale gas and oil, which can be extracted through fracturing techniques, or “fracking,” represent a quick fix that governments and their populations might like to suppose.14

  To the contrary, he explains that the critical EROEI equation is still very low. For one thing, drilling costs for extracting oil from tight sands are very high. For another, the rate of production decline from initial levels tends to be astonishingly rapid: “Compared with an annual decline rate of about 7–10% from ‘traditional’ oil wells, decline rates for production in the Bakken Shale play in the United States have been put at as much as 69% in the first year.”15 In fact, the economic return from these wells has been so sketchy that the promoters who develop them have to maintain large lines of bank credit or float junk bonds to stay in business.

  The Financial Times quotes research by David Einhorn of Greenlight Capital in which he found that, since 2006, large shale producers had spent $80 billion more in acquiring and developing shale reserves than they had made from actually selling oil, and they stayed in business only through a constant inflow of capital.16 Cash flow from production has generally proven insufficient to finance drilling of expensive additional wells, as well as meet the costs for remediating and replacing the large quantities of water required in fracking.

  As recently as the 1930s, oil discoveries tended to have EROEIs in excess of one hundred to one. By the 1970s, this ratio had declined to about thirty to one and has continued to plunge. As costs have risen, few current discoveries offer EROEIs greater than ten to one. Average field sizes have also declined. Morgan claims that the overall EROEI of the North Sea today may be no higher than about five to one. “Tight sands” production from shale offer “EROEIs of barely 5:1 (if that).”17

  More ominously, the “EROEIs of surface-mined tar sands is probably little better than 3:1 (if that), and those sands (accounting for about 4/5 of the total) which cannot be surface-mined can only be extracted using massively energy intensive techniques such as SAGD (steam-assisted gravity drive), such that EROEIs are minimal, or even negative.”18 (Think of microwaving a mountain.)

  Obviously, the overall EROEI is a composite of that from new oil production combined with the EROEIs from legacy fields, such as the giant Al Ghawar in Saudi Arabia, which has been producing millions of barrels of oil a day since 1951. Unless major new fields with EROEIs equivalent to Al Ghawar are discovered soon, a most unlikely prospect, the composite EROEI for the world economy will continue to dwindle. Morgan draws the indicated conclusion: “It is that the economy as we have known it for more than two centuries, is entering a potentially terminal phase unless some means can be found to stabilize the overall surplus return on energy invested. At some point between EROEIs of perhaps 8:1 and 4:1, the economy would cease to be viable at all.”19

  Ecofascism

  Hence the shrewd observation by Peter J. Taylor noted in The Way the Modern World Works: World Hegemony to World Impasse, about the invention of “eco-catastrophe” and “Eco-Fascism” as its putative solution. Taylor sees that some among the rich and powerful have reconstrued the threat to prosperity arising from depletion of hydrocarbon energy resources into an ecological crisis. The marker of this crisis is hysteria over the level of ambient carbon dioxide emissions in parts per million. A doomsday alarm over “climate change” due to the accumulation of trace amounts of a gas that is crucial to photosynthesis, and thus the earth’s annual “income from sunshine,” would be funny, were it not so threatening to your well-being and that of billions of persons.

  As Taylor tells us, “Eco-Fascism” can be understood as “a subterfuge of the rich to maintain their dominant status.” He describes the selfish interest of those wishing to reserve the good life for themselves as requiring “a cover of legitimization, a justification that defines the new politics as a logical and sensible reaction to a world in crisis.”20 A coming chapter analyzes the “Eco-Fascist” program for cartelizing world energy supplies and the added dangers it entails in an age when solar irradiance is falling.

  Here it is worthwhile to recall Soddy’s forecast that the final stage of the “flamboyant period” of energy capital consumption would be distinguished by war over scarce resources in which “imperialism marks its final bid for survival.” This was a deduction, not an observation. Dick Chaney and George Bush were school boys when Soddy died in 1956.

  Of course, those who deny that the economy is a physical system informed by a surplus energy equation dismiss the problem by saying that the sums spent on purchasing energy account for “only about 8% of global GDP,” and therefore “energy inputs are somehow ‘too small to matter.’” Really? According to Morgan, this view is “one of the most irritating aspects of ill-informed debate.” One could just as easily say that since a human heart seldom weighs more than 10.5 ounces, even in a 250-pound man, removing the heart could not count for much, as at less than two-thirds of 1 percent of body weight it is “too small to matter.” Of course, the heart is so central to the human energy system that without it the rest of the body would be no more than dead weight.

  Equally, as Morgan emphasizes, “The reality is that energy is completely central to all forms of activity, so the threat posed by a sharp decline in net energy availability extends into every aspect of the economy, and will affect supplies of food and water, access to other resources, and structures of government and law.”21 I go further and argue that any discontinuity—either a surge or a slowdown in net energy uptake in the economy—will not only alter the growth rate but also alter the nature of money.

  This is a view that I explored in an earlier book, Brazil Is the New America. As you may not have read it, it is based on the deduction that the collapse of growth occasioned by the disappearance of cheap energy will have a more devastating impact in the US economy than that of Brazil.

  Distorted in a Green Prism?

  In the rare cases when economists reflect on the implications of fossil fuels on economic growth, their thoughts tend to flow along a few well-worn channels. Especially over the past half-century, many have turned discussion of the impact of energy inputs and growth rates into consideration of aspects of entropy and materials throughput, with a heavy emphasis on environmental degradation.

  It is much easier to find research linking high rates of economic growth to soil erosion—or complaints, echoing Marx, that consumer society is entering a terminal phase—than to uncover analyses exploring the links between economic growth and the nature of money and debt. Even where you can find such tidbits, they tend to be tinged with indelible coloration from “the far green side of the political spectrum,” to quote Roger K. Brown, of the blog The World Is Finite.22

  I have found that the fluctuations in hydrocarbon energy conversion are important megapolitical variables. I identified a shift in the nature of money, and the proliferation of debt, among the changes informed by the impact of cheap oil and implicitly undone by its disappearance.

  Money and Power

  Manipulation of money has been integral to the exercise of power ever since money was first invented. As David Glasner wrote in “An Evolutionary Theory of the State Monopoly over Money,” “The history of money virtually coincides with a history of the debasement, depreciation, and devaluation of the currency by the state. . . . Thus, coinage and tyranny seem to have emerged together, a confluence which is borne out by the experience of the ancient world. Both coinage and tyranny origin
ated in Lydia. Gyges, the Lydian king of the seventh century BC to whom the term tyrant was first applied (Durrant 1939, 122), is also credited with having made coining ‘the prerogative of the state after he had first used it to obtain supreme power.’”23

  The sudden emergence of economic growth at previously unprecedented rates after the Industrial Revolution created new opportunities for exploitation of money—including the chance to franchise the vast seigniorage profits of fiat money.

  Rapid growth enlarged expectations of future production, thus generally enhancing the collateral value of the shadow economy of money and debt that represents claims on future wealth. Naturally, the lien on future income tended to rise with its apparent value. Surging growth also implies at least mild price deflation, another factor that creates an opening for exploitation of the public: in this case, through inflation.

  For example, during the late nineteenth century, the high-water mark of the gold standard, and the progress of production, led to a general fall in prices in the United States by 1 percent on average each year. (Prices fell about 20 percent over twenty-three years.) As Murray Rothbard wrote in his 1998 essay, “The Gold Exchange Standard in the Interwar Years,” the phenomenal advance of productivity led to falling prices. As he states, “With productivity outpacing the new supply of gold, prices had to fall in terms of gold during that period.”24 This gradual decline in the price level increased incentives to save, as each dollar that remained unspent would be worth more in the future.

  Of course, it is probably not a coincidence that at about this time, the very notion of thrift came under attack as contributing to economic distress. In particular, the famous mountaineer A. F. Mummery and economist J. A. Hobson published an influential book in 1889: The Physiology of Industry: Being an Exposure of Certain Fallacies in Existing Theories of Economics.25 In this proto-Keynesian volume, they lambasted thrift, arguing that underconsumption was responsible was the cause of the slowdown in late nineteenth-century growth. Although it was not conceived as such, The Physiology of Industry can be viewed as a kind of unconscious plea for fiat money, which goes to show that the intellectual fads tend to fall in line with the underlying physical basis of the economy.