The Breaking Point

by James Dale Davidson

  The increasing cost of energy was a factor pushing the United States toward full-fledged financialization in which every effort was made to maximize profits through financial24 manipulation (which, as you know, entails low energy inputs). This is why financial sector debt exploded and financial market capitalization as a percentage of the S&P 500 shot up from around 7 percent as recently as 1990 to more than 22 percent in 2007 on the eve of 2008’s great recession.

  It has been more than forty years since the rapid increase in the consumption of hydrocarbon fuel in the United States was checked by our encounter with what Jevons described in The Coal Question as not “a fixed and impassable limit, but as it were an elastic obstacle, which we may ever push against a little further, but with ever increasing difficulty.”25

  And so it has been. Since then, we have seen evidence of a “declining state” along many dimensions.

  US Economic Growth Tracks World Energy Output per Capita

  To summarize, the meanderings of US economic growth closely track world energy production per capita. From 1945 through 1973, world energy production per capita grew at a rate of 3.24 percent per year. During the same period, from 1945 through 1973, US real GDP grew accordingly, at exactly the same average rate of 3.24 percent. That is only a correlation, but it is about as close a correlation as you are likely to find in a confused world.

  Notwithstanding the tripling of the price of oil in 1973 and a further jump after the Iranian Revolution, the growth of energy production per capita from 1973 to 1979 dwindled to an annual average rate of 0.64 percent. Between 1979 and 2000, energy production per capita declined at an average rate of 0.33 percent per year, also closely matching the decline in real GDP minus the federal deficit.

  The soaring price of oil has not reversed the decline in energy production per capita as EROEI has plunged, strongly hinting that the barriers to enhanced production are biophysical, associated with the exhaustion of supplies of the most readily extracted, cheapest oil. In my view, the effect of declining energy intensity on the vitality of the energy-hungry US economy has been evident in the declining growth rate, as real GDP minus the federal deficit since 1980 has fallen at about the same rate as per capita energy production: 0.3 percent.

  Gordon’s thesis that “economic growth may not be a continuous long-run process that lasts forever” is well-placed heresy. Specifically, Gordon argues that high rates of growth previously experienced in the United States and other developed economies are “one-off” effects that cannot be compounded going forward. He predicts an “epochal decline in growth from the US record of the last 150 years.” I think he may be right, but if I am correct about the cause of this decline in growth—in large part from biophysical causes—it makes little sense to suggest, as the International Monetary Fund (IMF) does, that countering it “depends on whether European and US policymakers deal proactively with their major short-term economic challenges.” The epochal decline in growth cannot be countered by any feasible policy invention.

  To the contrary, if I am correct, the causes of the slowdown Gordon identifies are baked in the cake. These are what I have called megapolitical rather than political. They will happen no matter who is president of the United States because they are informed by factors that lie outside the reach of short-term policy choices. Note that in “a provocative exercise in subtraction,” Gordon suggests that “future growth in consumption per capita for the bottom 99 percent of the income distribution could fall below 0.5 percent per year for an extended period of decades.”26

  At that rate, it would take 139 years for income to double—about twice as long as the pace of income growth from December 2007 through Q1 2015. But, per Soddy, there is good reason to doubt that this truly medieval rate of growth could compound long enough to actually realize the doubling. Remember, prior to the Industrial Revolution, sporadic growth of the organic economy tended to either get absorbed by population increases or get cancelled by subsequent economic decline—usually associated with bouts of bad weather—tribulations that were clearly not caused by trace amounts of carbon dioxide in the atmosphere.27

  The Zero-Sum Character of the Stationary State: Zero-Sum Gains and Crony Capitalism

  Part of what you should understand in looking ahead to a long-term secular stagnation or stationary state is a point Kenneth Boulding made in “The Shadow of the Stationary State”: a drawback of the stationary state, much less a declining one, is that income gains would be of a zero-sum character. In order for one firm or investor to gain income or market share in an economy without growth, other investors or businesses must lose an equivalent amount.28

  As Boulding observed from a late-twentieth-century perspective, the logic of the zero-sum character of income gains in a no-growth society gives a powerful impetus to crony capitalism, encouraging privileged groups to seek profits by changing the rules in an antimarket direction. He wrote: “Unfortunately this increases the rate of successful exploitation—that is, the use of organized threat in order to redistribute income. In progressive societies; exploitation pays badly; for almost everybody, increasing their productivity pays better than trying to force redistributions in their direction. One can get $10 out of nature for every dollar one can squeeze out of a fellow man. In the stationary state, unfortunately, investment in exploitation may pay better than in progress. Stationary states, therefore, are frequently mafia-type societies in which government is primarily an institution for redistributing income toward the powerful and away from the weak.”29

  Boulding’s logic is sound, but it is unclear in what context he concludes that “stationary states are frequently mafia-type societies.” He must have been referring to stationary or quasi-stationary preindustrial societies, or what were known in the early ’70s as “underdeveloped economies.” Obviously, in a game of musical chairs, where the whole world competes for a dwindling number of good perches, the ablest and most nimble, along with those who are already successful, have a leg up.

  Such is the world you live in, where crony capitalists buy laws to secure a larger piece of a declining pie at your expense. (Recall the details reported earlier of the vast costs calculated by Dawson and Seater at $37 billion in annual lost GDP as of 2011.)

  Cheap Energy Helped Counter the Drag on Growth from Crony Capitalism

  Another way of looking at the problem is that rapid growth in cheap energy in previous decades provided the propulsive force to overcome the drag on growth imposed by rapidly accumulating corporatist regulation. The economy needed a boost to overcome the inefficient antimarket impediments to growth. Think of a heavily laden truck with flat tires that requires more fuel to move forward. Without such a boost from growing hydrocarbon inputs, economic growth becomes stagnation.

  Certainly, a big part of the problem, as indicated above and in previous chapters, is the maneuvering of the great predators, as Braudel called them, to secure a larger piece of a declining pie at your expense. Not incidentally, their resort to antimarket legislation and regulations, as we have seen, has deleterious effects on growth, compounding the effects of the energy input slowdown in curtailing prosperity.

  Constrained Economy Erupts in Crisis

  Dramatic manifestations of the energy constraints on growth became apparent by 2008. The fatal flaw of fiat money, sporadically evidenced during cyclical downturns and now chronically in view with the plunge in EROEI, is that in the absence of growth, the requirement to pay interest on money borrowed into existence obliges debtors to curtail outlays, with the threat of deflationary contraction lying in the shadows of widespread debt default (hence, the subprime crisis and the collapse of Lehman Brothers).

  When the financial crisis almost collapsed the world economy, we were missing a quantity of oil production equal to the annual output of Saudi Arabia. Clearly, this mattered. It is symptomatic of the chronic confusion that shrouds understanding of the energy intensity of economic growth that the Obama administration, along with green energy shills, applauds the recen
t decline in the number of BTUs per dollar of GDP. They miss the point that little of this decline in energy intensity reflects improved efficiency (higher returns from the energy we use).

  Rather, close analysis shows that declining energy use in the United States mostly reflects structural shifts, such as offshoring of energy-intense manufacturing; a greater proportion of government spending in the GDP accounts, which mostly involves the electronic transmission of cash, requiring minimal energy requirements; and, yes, the minor efficiencies realized from shifts to higher quality fuels and more onsite generation. Add to that the declining returns associated with the massive inefficiency of the corporatist sector (i.e., education, health care, and the military), and declining energy intensity is nothing to celebrate.

  This growth slowdown magnifies the unsustainable disconnect between primary energy consumption and the growth of debt. As Tim Morgan reminds us, the inevitable result to be expected from a widening gap between financial claims and the real energy economy of the future is that financial claims, meaning both debt and money, are destined to be destroyed on a truly enormous scale. In other words, we’re headed for a version of the no-growth stationary state, culminating in the Breaking Point collapse.

  The Debt Supercycle Endgame

  The shortfall in energy inputs manifested itself in stagnant, or falling, income for most people, debt strains, defaults, and financial crisis. Taken together, these strains amount to an affordability crisis that almost collapsed the world financial system in 2008 and likely will do so during the coming Breaking Point. It is important to understand that there is little prospect that the terminal crisis can be avoided, as it would require astonishing breakthroughs in oil prospecting. Equally notable, it would require an unlikely abandonment of the corporatist establishment’s ecofascist campaign to demonize carbon dioxide. Consequently, as Gail Tverberg points out, “adding one percentage point of growth in energy usage tends to add less and less GDP growth over time.”30

  Another factor that amplified the returns from the early integration of hydrocarbon energy into the economy was the high, early EROEI. When the EROEI was one hundred to one, as it was as recently as 1930, more energy surplus was available to grow the economy because less energy was required simply to extract the energy itself.

  Unfortunately, the US government has painted itself, and the entire world economy, into a corner. Its attempt to preserve the untenable status quo—leveraged by quantitative easing into between $500 trillion and $700 trillion in derivative bets against higher interest rates—is running out of time. Derivatives—or as Warren Buffet memorably described them, “financial weapons of mass destruction”—are now worth as much as ten times more than the entire world economy. The fragility this entails makes a voluntary abandonment of further credit (or debt) expansion all but mathematically impossible. Since 1980, the shadow economy of monetary and debt claims on future energy have multiplied 400 percent faster than the underlying real economy.

  And that does not account for the shadow claims on future production, embodied in unfunded liabilities for government entitlements that multiply by the trillions every year. According to an estimate by Professor Kotlikoff, the unfunded “fiscal gap” of the US government amounted to about $205 trillion as of 2013.

  The Concertina of Debt Collapse

  This is what is coming your way: either a global crack-up boom—an inflationary culmination of the terminal crisis of US hegemony in a final and total catastrophe of the currency system—or more probably, the terminal crisis will play out in a deflationary collapse. As Soddy explained, the money supply becomes a “concertina,” expanding during the boom phase and contracting when debt is repaid or extinguished through default. I suspect this crack-up boom will also be the terminal crisis for the entire modern economic history dominated by nation-states at ever-greater scale. This won’t merely be a crisis for the US imperium; it will be a global crisis of fiat money. As Darryl Schoon has pointed out, even “China’s rapid growth was fueled by the unprecedented expansion of the US money supply—an expansion directly responsible for America’s exploding appetite for consumer goods from China and the US dot-com stock market bubble in the 1990s.”31

  As I detail in chapter 20, China accounted for as much as 45 percent of the increase in world oil demand after 2004. Much of that demand proved to be artificial, leveraged from the Chinese credit bubble. The subsequent collapse in oil prices in 2014, along with the waterfall declines in other commodities, reflected the waning of the exaggerated credit-fueled demand as the Chinese bubble began to deflate.

  To the extent that demand for oil occasioned solely by Bubblenomics is not duplicated by a subsequent credit-ramped artificial boom somewhere in the world, the collapse of economic growth, occasioned by the depletion of cheap hydrocarbon energy, may be delayed a few more years into this century of crisis. The twilight of fossil fuels heralds the end of fiat currency, as well as the eclipse of the consumer economy regulated by the all-powerful nation-state. Whatever else you do, however, be sure you put aside some gold and silver to prepare for the collapse of the shadow economy of money and debt.

  A reputable source for acquiring and storing precious metals is Matterhorn Asset Management of Switzerland. They can secure you precious metals inside a mountain redoubt formerly used by the Swiss Army. For more details, contact Johny Beck, partner, Matterhorn Asset Management AG at jb@goldswitzerland.com. Their websites are www.goldswitzerland.com and www.matterhorngold.com.

  Although the Great Depression looms as a period of mythic economic woe in the popular imagination, it involved only a temporary interruption in the rapid compounding of real GDP per head. While it does not seem serious as measured by the dubious national income accounting, the growth slowdown of the twenty-first century poses a much worse threat to future growth than did the Great Depression.

  At the time of the Great Depression, the economy suffered from disruptions associated with the terminal crisis of British hegemony. As a consequence, the world monetary system was deranged, with capital flows from London to the periphery interrupted. True, energy was involved—remember British coal production peaked in 1913—but oil was plentiful and growth was not constrained by the dwindling availability of energy. Also, EROEI was still highly favorable in the 1930s.

  The record confirms the inference that vibrant growth would rapidly restored. Lord Keynes wrote in “Economic Possibilities for Our Grandchildren” (1930) that he expected the real economy to have grown between four and eight times within one hundred years. He underestimated. Using the US economy as a yardstick, it had expanded by eightfold by 1985. In that same essay, Keynes declares himself on the opposite end to Soddy on the question of compound interest. “Perhaps it is not an accident that the race which did most to bring the promise of immortality into the heart and essence of our religions has also done most for the principle of compound interest and particularly loves this most purposive of human institutions.”32

  With high EROEI in 1930, there was plenty of scope for rapid growth in the post-Depression economy, which duly did grow in what F. A. Hayek called “The Great Prosperity.”

  To a large extent, the quarter of a century of Hayek’s “Great Prosperity” really made for mass prosperity. Productivity rose by 97 percent, and median wages rose by 95 percent. The incomes of the poorest fifth jumped by 42 percent, while incomes of the wealthiest 20 percent climbed by 8 percent. Then Nixon repudiated the gold reserve standard, facilitating the shift to financialization.

  Today, the prospects for renewed growth seem dim, with EROEI on new projects crashing toward single digits.33 You can look forward to a future of dematerialized growth, involving leisure, presumably to play chess, learn to paint, read the classics by daylight, and otherwise enjoy life amplified by little or no exogenous energy. As Roger K. Brown suggests, however, there is more than a tinge of nonsense invested in inflated hopes for dematerialized growth as, no matter what, it could not continue forever. Brown notes:

 
; That dematerialized growth cannot continue forever is, I think, fairly obvious. Consider the logical end point of such activity; You give me a better back rub and I sing you a better song. Note the emphasis on increasing quality exemplified by the use of the word “better”. I cannot consume exponentially increasing amounts of back rubs (or of any other dematerialized service) and you cannot listen to exponentially increasing amounts of my singing. The idea that generation after generation of venture capitalists can pay for their mansions by financing such dematerialized services is nonsense.34

  And so “we stumble downward into a spiral of retrenchment, drift and collapse.”35

  Notes

  1 Smith, Adam, The Wealth of Nations (Chicago: University of Chicago Press, 1976), book 1, ch. 8.

  2 Boulding, Kenneth E., “The Shadow of the Stationary State,” in The No-Growth Society, ed. Mancur Olson and Hans H. Landsberg (New York: W. W. Norton, 1973), 95.

  3 Smith, The Wealth of Nations, 90–91.

  4 Ibid., 179.

  5 Ibid., 184.

  6 Ibid., 185.

  7 Wrigley, E. A., Energy and the English Industrial Revolution (Cambridge: Cambridge University Press, 2010), 239.

  8 Jevons, The Coal Question, 205.

  9 Ibid.