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How peak oil can devastate the rest of the economy

Written By: - Date published: 1:15 pm, January 14th, 2009 - 24 comments
Categories: economy, Environment - Tags:

We all know the story of the sub-prime crisis that had developed into the credit crisis  – a flood of credit saw mortgage lenders lending to anyone, including people who couldn’t really afford the repayments. To get these potentially bad loans off their books, the banks pooled them together into new, unregulated instruments and sold their returns to others. Problem is, out these instruments turned out to be worth a lot, lot less than everyone thought because a lot more people are defaulting on their mortgage payments than was predicted.

But the question we rarely hear asked is ‘Why did more people default’? Because these people who were poor loan risks (ie, low-income) were also living in ‘energy poverty’ – more than 10% of their income going on buying energy. This made them extremely vulnerable to rapid increases in energy prices. And rapidly increase energy prices did, breaking record upon record from 2004 through to mid-2008. Petrol in the US tripled in price during this period, but oil-use is so embedded in the economy that people could not reduce their consumption in proportion. The result was that people in energy poverty were having to spend a much larger part of their income on energy even while the rising cost of transport sent the value of the houses these people had bought in the US exurbs into free-fall. More people became insolvent and started defaulting on their mortgages in larger numbers, sparking the credit crisis and sending the world into recession. It was the oil shock that sent the world into recession. The credit credit along with last year’s food and commodity price rises was just a vector of the oil shock.

Oil is so pervasive that it affects every other part of our economy. Let’s look just at food. As oil supply falls following peak oil, we will struggle to maintain the supply of food. Not only does food take vast amounts of oil to produce in modern agriculture but the fall in oil supply will put food crops into ever greater competition with biofuel crops for arable land. Already over a fifth of maize production in the US (the world’s largest maize exporter) is used for biofuels rather than food. Plastics, road surfaces, pharmaceuticals, and a huge list of other products are made from oil. With a bit of clever chemistry, they can be made from plant matter instead, which sets up another conflict with food production. In fact, having exhausted the world’s ability to supply ever larger amounts of fossilised plant matter for our fuel and materials production, we will face the choice of using current plant matter instead, setting up a three way fight between fuel, food, and materials for the world’s shrinking resource of arable land.

It comes down to a simple fact: our wealth is based on the use of energy. If the amount of energy we use shrinks, so does the economy. Therefore, to return to growth, or even maintain our per capita wealth, after peak oil we’ll need to replace the energy from the dwindling oil supply and use energy more efficiently (ie waste less of it). Problem is, there is no source of energy that could be expanded rapidly enough to replace falling oil supply, once it starts falling. The prospects for improving energy efficiency, however are brighter. That’s the topic of the next post.

24 comments on “How peak oil can devastate the rest of the economy ”

  1. Sam P 1

    Nice one Steve, am enjoying these peak-oil posts, keep up the good work.

    One question though .. you make some big statements (especially in para 2) about the correlation between fuel/commodity prices and people defaulting on mortgages. Do you have a reference for this or is this your own thinking? I’m just wondering how much this correlation has been empirically tested/studied?


  2. Peter Johns - bigoted troll in jerkoff mode 2

    Forget about planting biofuel crops if the food is needed. Biofuels are one of the cons of the 2000s, it is a feelgood thing only. It adds to starvation. There is not the volume of land around to grow these biofuels in meaningful amounts.

  3. Sam P. It’s interesting that there is little material around dealing with specifically why the number of bad mortages was so much higher than predicted but I’ve seen a number of references to the role of the oil shock. see here http://www.econbrowser.com/archives/2009/01/the_oil_shock_a_1.html for example. There were also some references in the recent economics periodicals but not online. There were also a number of news articles in the US media in 2007 talking about falling house prices in the exurbs driven by oil prices before the sub-prime crisis took off. So, no, I don’t have anything fantastic as a source. but I’m sure people will be working on it 🙂

  4. Sam P 4

    Thanks Steve, was just wondering where the thought came from, it is a really interesting link between the two! 🙂

  5. Carol 5

    Actually PJ, there are some good biofuels that don’t add to the problems. I watched the debates in parliament on this during the December sittings. One ACT MP, who had been against such biofuels, changed his mind when he examined the evidence. NZ’s Labour-Green scheme was to focus on NZ using the ‘good’ crops for biofuel, that are an improvement on fossil fuels without adding to starvation etc. I think becuse they use plant sources that aren’t used for food, and that are readily available in NZ.

  6. Peter Johns - bigoted troll in jerkoff mode 6

    Carol – what I think is that the volume of biofuel attained from crops will be small, ie, how much land or T of stock is needed to make say 1000 litres of biofuel. As a chemist I think it will be in-efficient use of land as the yield will be low and processing costs high, remembering the old days of extracting bark, pulp etc.

  7. Carol 7

    OK, PJ. Yes I agree biofuels can only make a small contribution, and with Steve that we need to cut back on energy use and improve energy efficiency.

    BTW I understand farming animals for meat is also an inefficient use of land – ie it requires more support crops to feed the animals than could be used to feed humans.

  8. Peter Johns - bigoted troll in jerkoff mode 8

    Farming can be a inefficient use for land, but there is also uses such as high country sheep farms that use low quality land, hence making it more efficient.

    But, what are we trying to achieve here, kick the cows of the land so we can make a bit more fuel? This will still lead to a distortion of food supply such as milk/meat.

    At the end of the day I would rather have cows/beef for food farting than have this land for biofuels.

    I can see a future where we will be rationed on meat/milk so we can save the planet, I bet this could be a Green agenda, even though they may not have thought of it yet. Certainly they want to tax cows for doing a natural act – farting.

  9. RedLogix 9

    Problem is, there is no source of energy that could be expanded rapidly enough to replace falling oil supply, once it starts falling.

    In another thread I mentioned nuclear fusion, and that despite decades of research and billions of dollars thrown at magnetic confinement, the results have been dissapointing. In writing that I was concious that there is an alternative electron technique called Inertial Electrostatic Confinement (IEC).

    Googling will give lots of results; the fusor.net site has lots of info and many very capable enthusiasts for these things. SImple non-power producing devices can and have been built in peoples’ garages. But for a long time no-one has been able to get anywhere near a nett-power producing device.

    Dr Robert Brussard (of the Brussard Ramjet fame) spent much of the last few decades of his life (he died in Oct 2007) progressing a breakthrough idea that may yet prove to be the critical piece of human ingenuity which really does solve the Peak Oil problem; a problem Brussard himself was deeply motivated by. He saw a practical IEC machine as humanity’s ONLY hope for avoiding a long downhill slide into chaos.

    This wikipedia page is a pretty good and readable summary for non-technical folk. Polywell Fusor is worth reading.

    Another good overview here

    Right now there is reason to be cautiously optimistic that IEC Polywells MIGHT work. I have to emphasis it that it remains to be seen if a practical, power producing version can ever be made to work, but it could be our very best hope. (And that is a fairly thin thread to be clinging to.)

  10. George.com 10

    so if energy alternatives are going to replace fossil fuels, now (or 3-5 years back even) is (was) the time to get them up and running, proven, manufactured in sufficient quantities, infrastructure installed and consumer products manufactured to take advantage. Waiting until the peak oil crunch is upon us seems a little too late to me. We won’t likely have the abundent financial and energy resources available to quickly retool our economies. If people think the conversaion will be easy and pain free, I think they are in for a shock. War time conditions at best perhaps, rationing and shortages, emphasis on energy at the expense of the more profligate uses of our resources.

  11. RedLogix 11

    The point I think that a lot of non-techie people miss is this. It is quite unlikely that some totally novel and practical source of energy remains to be discovered. Modern science actually has a pretty good idea where all the energy sources are, and the constraints to harnessing them.

    While it is a bad idea to rule out something completely new and game changing, the hard truth is that as the decades have gone by, and theoretical physics has evolved very accurate and reliable models of reality, the room left for a such a discovery has shrunk to virtually zero. Betting the house on such a tenuous possibility is a fools wager. The only known and true sources of energy for a stable, sustainable civilisation are either:

    1. Direct or indirect solar renewables. (Not counting fossil fuels, which are just stored non-renwable solar energy.)

    2. Nuclear fusion.

    That’s it folks. That’s the whole enchilada. There are no other entries without opening the door to the science fiction crowd.

    Solar renewables are by and large fairly straightforward technologies, things like direct conversion solar/electricity cells, or indirect such as wind, wave and tidal energy conversions. The main obstacle is that while a lot of solar energy arrives at the earth’s surface, it is of fairly low entropy (low quality), very diffuse (spread out over a large area) and of course only arrives in useful quantities for about 25-35% of the day (necessitating massive anciliary storage facilities). From a theoretical perspective there is nothing difficult or challenging about these technologies, it’s just that all these factors combined tend to make them rather expensive. Which is why they currently contribute less than 1% of all human energy use. Worse still, scaling this number up does not come with much in the way of extra affordibility.

    This leaves fusion. The Holy Grail.

    Bussard’s Polywell Fusors are a radical, brilliant possibility. You really have to hope against hope that some decent funding allows them to get to a definitive, positive result. If they do, it will change the energy game, and by extension all the possibilities for our technical civilisation forever. Bussard would be remembered as one of the greatest minds ever, ranking alongside Newton, Maxwell and Einstein.

    Yet all the history of fusion research is stacked against them. Everything about fusion is HARD. It is almost as if nature really doesn’t want it to work outside of the deep heart of suns. So yes, human ingenuity just might do it yet, but it is still one hell of a long shot. And if the Polywells, or something very similar, do not work, there really is no feasible, timely fallback position for our world as we know it.

  12. T-Rex 12

    Good man RL, I was going to have you up on that “decades and billions but no closer” comment but then got distracted elsewhere. Pleased to see you found the work Bussard did (I think I read the other day that they now have funding for the next step). There’s also a pulse fusion project going on through NRL in the US that has some promise, and you of course the large ITER and JTER developments in Europe.

    I have more optimism for fusion than some, the decades and billions have actually been pretty sporadically spent when you look into it. Anyway, I’ve got to run off into the mountains (yay!) but before I do just wanted to mention the energy source you left off the list above – namely fission power using plutonium fuel cycle with breeder reactors – it’s proven tech and reserves are good enough for the next 2000 years or so… which is basically the same as saying “forever”, because if we’re not flying around the stars by then we don’t deserve a better source of energy.

    Good series of posts steve. I think the biggest thing for me is not so much preparing for an energy supply crash, but developing infrastructure in anticipation of what might come next, rather than for what we’re about to run out of. Wellingtonmotorwayscough.

  13. Matthew Pilott 13

    The first generation of biofuels rely on crops that are edible, and require top-notch land.

    The next generation, well underway, will be based on the byproducts of edible food and non-edible crops (if that’s not an oxymoron) grown on marginal land.

    After that, biofuels will be microbial – pond-scum, basically. No loss of arable land at all (I gather the benefit there is the concentration of resources – instead of huge tracts of land, we’re talking about stuff bubbling up in vats).

    The potential for these fuels is great, but it won’t be a replacement for fossil-fuels (although let’s be realistic, it’s highly doubtful a single source in isolation will be a replacement…)

    Didn’t Fonterra say that it could easily provide enough industry by-product to satisfy New Zealand’s biofuel requirements for an E12 fuel if it were made mandatory, and there was a methinex plant being geared up to take all this on, that has now been mothballed since mandatory biofuel has been recinded?

    As I understood, biofuels were a chance to deal with huge volumes of dairy industry waste and reduce our dependence on imported oil. Cheers, National, keep up the good work. I assume we’ll hit the Industrial Revolution shortly.

  14. Sam P 14

    This may interest you Matt

    When I worked for Fonterra dealing with environmental stuff they were looking into supplying up to 10% of their own fuel with bio-fuel made from milk waste, and that was 6 years ago. The plant I worked at had to subsidise a pig farm so the pigs could eat all the waste milk (a lot is wasted from accidental contamination and backwash when cleaning equipment, etc) which couldn’t be sent to the waste plant as it is highly pollutant and expensive to treat. This waste milk can easily be made into biofuel.

    A lot of criticism of bio-fuels assumes they all come from maize and are inefficient. Sugar-cane is a much more efficient way to make bio-fuel (although not enough to entirely replace oil without felling the entire amazon and probably some more again!). The Brazilians have been driving their cars with sugar cane biofuel for over 10 years!

    So there is a bit more to it then stopping producing food to grow maize

  15. Sam. But if we’re talking biofuels on the scale to replace falling oil supply (let alone increase energy supply) you’re going to need huge areas of land, no matter what the feedstock. And that feedstock has to come from somewhere – either its grown on existing arable land, or it means destroying more of what wild land is left or it means taking a product that is already being used elsewhere. In your example, for instance, what was being fed to pigs is now being turned into biofuel – the deficit in the pigs’ energy intake nees to be made up from elsewhere. No free lunches.

    There are a few decent options for biofuels, appearantly there are some trees that like semi-arid conditions and produce a nut that is very suitable, and there is biofuel from celluose (although you have to ask what the trees are being used for currently)

    I think it could be good for the Pacific Islands, some of them have large areas of fallow land and have extremely high oil costs but I can’t see it being a solution on a global level.

  16. Joanna 16

    Thanks for this series of articles Steve – they are very interesting.

    I would like to draw your attention to this article in New Scientist relating the research of Mark Jacobson. Basically, it lists the top 7 renewable energies and dicusses some concerns with others (eg: biofeuls). Most interesting was the idea that the entire fleet of cars and trucks in the US could be replaced with electric cars and powered by 3 square Km of wind turbines. does anyone have any info for our wind/solar generation in NZ?
    I have seen some interesting lectures recently on H2 generatio/storage and I think that will become very viable eventually but for now, I am sure we could be doing heaps more with the technology we have .

  17. Joanna 17

    hmm, ok i don’t think I did the link-thingy right above so here it is in ugly form
    sorry about that

  18. Sam P 18

    At the moment wind generates about 2.5% of NZ’s electricity (www.windenergy.org.nz) and I don’t think there is a significant solar contribution.

  19. Matthew Pilott 19

    Cheers Sam P – I might scrounge around for what I read from Fonterra. I seem to recall them saying they’d supply the raw material for free – that makes sense if it’s currently a waste product that is difficult to dispose of as you suggest.

    Incidentally I read today that Fonterra wanted to triple their profit outside of the core (milk solids) profit. Myabe they want to get into the fuel industry themselves. There was an $80m methinex plant in the pipeline before the election…

    Steve P – if (as is suggested) biofuels can be made from waste then i think they could be very useful – the cellulose you talk of is a waste product from the timber industry isn’t it? There’s talk of de-maizing maize, and using the stalks for biofuels – so we get the food and the fuel. Not sure whether this is pipe-dreamery at this point though, but I’m hesitant to write off the concept when these sort of ideas are coming thick and fast.

  20. Joanna 20

    Thanks Sam – that site is quite a good read and the figures seem to suggest there is potential for a lot more wind generation.

    One argument i often encounter against a move to renewable energy is that it is not reliable all the time (for example dry weather for hydro or still days for wind)

    The answer for peak oil is going to be a combination of known technologies rather than a new magical one (as others above have pointed out). and with careful planning we should be able to ensure a constant supply of energy (with in reason – I actually think a big part of this is going to be re-learning the value of quality products that need replacing less often)

    The question now becomes, knowing what we know, how can we move more quickly towards inplementing these technologies, and what planning/consnets will be needed etc etc while still ensuring that a thorough job is done?

    If i know anything about opponents to this idea, its that if early adoption of green technology is not a sucess they will use this to hold up any further development for as long as possible.

  21. Con 21

    Joanna wrote:

    One argument i often encounter against a move to renewable energy is that it is not reliable all the time (for example dry weather for hydro or still days for wind)

    Tidal power is a good one. There’s a bit of a lull at high tide and low tide, but it’s very reliable.

    The good thing about having a mix of energy sources is that they complement each other. If it’s not a sunny day, there’s a decent chance it’s windy. Plus there are ways to store wind energy (by pumping water up hill into reservoirs, for instance), so a lack of reliable base-load power can be worked around.

  22. Joanna 22

    Con- has much development been done on Tidal power – it is something I haven,t heard much about in terms of potential generation.
    I totally agree with you about the mix of energy sources complemententing each other – and I think we are well placed in NZ to take advantage of most of them – and we should. This is an area I think the government should be investing in especially as the ecconomic future looks bleak – a great way to get some new industries going with new jobs in research, enginerring and also in manufacturing, marketing etc etc, and hopefully some great products to export to the world.

  23. Phil 23

    But the question we rarely hear asked is ?Why did more people default??…. It was the oil shock that sent the world into recession.

    Your argument in the second paragraph is interesting, and i’m sure to some extent holds true for an individual household. However, i’m not convinced of it’s accuracy on an international level . After all, one countries imports of oil are another countries exports. Broadly speaking, the net effect of oil prices (as distinctly separate from volumes) on global GDP should be roughly nil. 🙂

    One of the major factors that you haven’t mentioned, but has been well documented internationally, was the effect of ‘teaser rates’. Put simply, lo-doc home loans were provided to people with initially very low interest rates attached to them. Two or three yeas down the track, when they’re up for refinance, the rate being faced is two, three, or even four times larger than what they’re used to.

    It was refinance costs that sent the world into recession.

  24. george.com 24

    Steve. A couple of interesting discussion starters covering when peak oil may arrive and what potential damage it can do. This got me considering what are the permutations of a peak oil society and what possible pathways are there out of the crisis. I formed 3 broad groupings – the optimists, realists and pessimists. dealing with each in tern.

    The optimists see (broadly) business as usual. We could term them the ‘she’ll be righters’. yes, there may be the odd hick up with transition to a post oil world however we have the altermative technologies, there is enough power and the technology and infrastructure will come together at about the same time to avert any significant problem.

    Pessimists see great potential for society to step back several hundred years in its development, some dramatic collapse and even a return to some type of tribalism.

    realists walk perhaps between the other two. Society will not get bye without some fairly severe and/or prolonged problems but will have the ability to remake itself – a process of gradual (or maybe bumpy and uneven) down-powering.

    I don’t relish the realities of life in the pessimists world. Some people might actually enjoy it, if for no other reason than they can use the extensive gun collections they have amassed.I don’t automatically subscribe to the optimistic view of development either. Some of our liberatrian & neo-liberal friends will place great faith in the ability of the market to solve the problem. I don’t. There is the possibility of either scenario emerging as peak oil starts to bite. My view of reality is a little different.

    There is open the chance for a fascist style state to develop, that doesn’t excite me greatly. I see the possibility for a collective negotiated society as possible, perhaps with more emphasis on localism than globalism. This type of society will not make the libertarians/neo-liberals very pleased. Collective and negotiated versus individual and market.

    It might involve the prioritisation of resources – transport fuels prioritised, public provision of transport and other goods and services rather than privatised. It might also involve urban farming of various descriptions.

    How likely? Maybe no more of no less than the other possible scenarios. I haven’t bothered to do a probability tree. Difficult to conceive of perhaps in our market dominated and individually fetished society. That said, our parents/grandparents had little inkling of what a war time society would be like until hitler & stalin thought it a good idea to divide up Poland. There are examples of this style of economy – society.

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