The Economic Growth Engine

Lund 29th October 2009

Dr Benjamin Warr

INSEAD Social Innovation Centre

The problem

How to avoid an economic collapse while simultaneously cutting carbon-

emissions?

Summary• Access to energy is essential for prosperity

• Understanding the role of efficiency for growth is critical

• Some problems with neoclassical growth theory

• Overview of resource exergy utilisation analysis

• An example of modelling economic growth with useful work as a factor of production

• Forecasts using the Resource Exergy Services (REXS) model

Energy, Exergy and Useful Work

• Energy is conserved, except in nuclear reactions. This is the First Law of thermodynamics.

• But the output energy is always less available to do useful work than the input. This is the Second Law of thermodynamics, sometimes called the entropy law.

• Energy available to do useful work is exergy.• Capital is inert. It must be activated. Most economists

regard labour as the activating agent. • Labour (by humans and/or animals) was once the only

source of useful work in the economy. • But machines (and computers) require another activating

agent, namely exergy.• The economy converts exergy into useful work

Tracking energy use and emissions by task

Sources: WRI, CAIT, IPCC – data for 2000

Exergy input share by source, (UK 1900-2000)

0%

20%

40%

60%

80%

100%

1900 1920 1940 1960 1980 2000

year

Biomass

Renewables andNuclear

Gas

Oil

Coal

Resource Substitution

From Coal, to Oil, Gas then Renewables and Nuclear

Exergy to Useful Work, via efficiency

3

���� USEFUL WORK

WASTE EXERGY(OFTEN LOW QUALITY HEAT OR POLLUTION)

1EXERGY INPUT

2x EFFICIENCY

THIS FRACTION IS NOT PRODUCTIVE

EXCLUDE IT FROM PRODUCTION FUNCTION

Exergy conversion efficiencies (US 1900-2005)

0%

5%

10%

15%

20%

25%

30%

35%

40%

200519851965194519251905

Year

Effi

cien

cy (

%)

Electricity Generation

High Temperature Heat

Mid Temperature Heat

Mechanical Work

Low Temperature Heat

Muscle Work

Useful work by type (US 1900-2005)

0%

20%

40%

60%

80%

100%

200519851965194519251905

year

shar

e (%

)

Muscle WorkNon-Fuel

Mechanical Work

Electricity

High Temperature Heat

Low Temperature Heat

Economy

• Since the first industrial revolution, human and animal labour have been increasingly replaced by machines powered by the combustion of fossil fuels.

• Technological progress in mechanisation increases the work output per unit exergy consumed.

• MORE WORK FOR THE SAME EFFORT• This strongly suggests that useful work should be factor of production, along with conventional capital and labour.

Economy-wide exergy to useful work conversion efficiency

0%

5%

10%

15%

20%

25%

200519851965194519251905

year

effi

cien

cy (

%)

US

Japan

UK

High Population Density Industrialised Socio-ecological regime

Resource limited

Low Population Density Industrialised New World Socio-ecological regime

Resource abundant

Evidence of stagnation –Pollution controls, Technological barriersAgeing capital stockWealth effects

Exergy Intensity of GDP Indicator

0

10

20

30

40

50

60

200519851965194519251905

year

EJ

/ tri

llio

n $

US

PP

P

US

UK

Japan

•Distinct grouping of countries by level, but similar trajectory

•Evidence of convergence in latter half of century

•Slowing decline

Useful work Intensity of GDP Indicator

0

0,5

1

1,5

2

2,5

3

3,5

200519851965194519251905

year

EJ

/ tri

llio

n $

US

PP

P

US

UK

Japan 1970 to 1973 structural change stimulated by price spike, but with continuing effect, despite subsequent price decline.

CO2 intensity of useful workCO2/useful work [tC/TJ]

0

100

200

300

400

5001

900

19

15

19

30

19

45

19

60

19

75

19

90

20

05

USA Japan

UK Austria

Problems with growth theory

• No link to the physical economy, only capital and labour are productive.

• Energy, materials and wastes are ignored.

• Unable to explain historic growth rates.

• Exogenous unexplained technological progress is assumed, hence growth will continue.

• Endogenous growth theory based on ‘Human knowledge capital’ is unquantifiable – there are no metrics.

exponents at factor cost (US 1900-2005)

0

5

10

15

20

25

30

35

1900 1920 1940 1960 1980 2000

year

GD

P in

dex

(19

00 =

1)

empirical estimate

78% of observed growth is unexplained

Multiplier effect or technological progress accounts for 1.5% per annum, in 2005 technology has a multiplier effect of 4.8

Solow “technological development will be the motor for economic growth in the long run”.

BUT IT IS UNDEFINED AND UNMEASURABLE The Solow Residual

Neo-classical estimates of GDP

Exergy-Efficiency-GDP Feedbacks

GDP growth

Exergy Demand and Production

Efficiency Improvements

Useful Work Consumption

Learning-by-doing

Exergy Intensityof GDP

Capital accumulation

Ayres-Warr Estimates of GDP

0

10

20

30

40

50

60

1900 1920 1940 1960 1980 2000

year

GD

P (

1900

=1)

empiricalestimate

Japan

0

5

10

15

20

25

30

35

1900 1920 1940 1960 1980 2000

year

GD

P (

1900

=1)

empiricalestimate

USA

What effect policies to reduce energy intensity of GDP?

0

5

10

15

20

25

30

2000199019801970196019501940193019201910

year

inde

x

r/gdp

e/gdp

Historical rate of decline in exergy intensity of GDP is 1.2% per annum

0

20

40

60

80

100

120

1950 1975 2000 2025 2050

year

GD

P (

1900

=1)

1.2% per annum1.3% per annum1.4% per annum1.5% per annumempirical

What effect policies to reduce energy intensity of GDP?

For Business-as-Usual, (1.2% decay rate) – by 2025 GDP doubles and exergy inputs increase by half over 2008.With a 1.4% decay rate output doubles ~10 years later, but for much reduced total energy use.

Coal, technical efficiency experience curve, US 1900-2000

0

0,05

0,1

0,15

0,2

0,25

0,3

0,35

0,4

0 500 1000 1500 2000

cumulative primary exergy production (eJ)

tech

nic

al e

ffic

ien

cy (

%)

empirical

logistic

bi-logistic

Petroleum technical efficiency experience curve, US 1900-2000

0

0,02

0,04

0,06

0,08

0,1

0,12

0,14

0,16

0,18

0 500 1000 1500 2000

cumulative primary exergy production (eJ)

tech

nic

al e

ffic

ien

cy (

%)

logistic

bi-logistic

empirical

Gas technical efficiency experience curve, US 1900-2000

0

0,02

0,04

0,06

0,08

0,1

0,12

0,14

0,16

0,18

0,2

0 200 400 600 800 1000 1200

cumulative primary exergy production (eJ)

tech

nic

al e

ffic

ien

cy (

%)

logistic

bi-logistic

empirical

0

0,02

0,04

0,06

0,08

0,1

0,12

0,14

0,16

0,18

0 100 200 300

cumulative primary exergy production (eJ)

tech

nica

l eff

icie

ncy

(%)

Aggregate technical efficiency experience curve, US 1900-2000

0

0,02

0,04

0,06

0,08

0,1

0,12

0,14

0,16

0,18

0 1000 2000 3000 4000 5000 6000 7000 8000

cumulative primary exergy production (eJ)

tech

nic

al e

ffic

ien

cy (

%)

empirical

logistic

bi-logistic

Efficiency ScenariosPossible trajectories for conversion efficiency

0

0.05

0.1

0.15

0.2

0.25

0.3

0.35

1950 1975 2000 2025 2050

year

tech

nic

al e

ffic

ien

cy (

f)

lowmidhighempirical

Efficiency growth

Low 0.4% p.a.

Mid 0.72% p.a.

High 1.2% p.a.

Resulting trajectories for GDP

0

10

20

30

40

50

60

70

1950 1975 2000 2025 2050

year

GD

P (

1900

=1)

lowmidhighempirical

For efficiency growth smaller than 1% p.a. we observe a future decline in GDP, where the historical rate is ~1.1% p.a.

Efficiency growth GDP growth (2030)

Low 0.4% per annum -2.0%

High 1.2% per annum 2.2%

Summary

•Neoclassical growth theory does not explain growth

•If useful work as a factor of production past growth can be explained well.

•Economic growth need not be a constant percentage of GDP. It can be negative.

•Future sustainable growth in the face of peak oil depends on accelerating energy (exergy) efficiency gains.

•Future efficiency gains may be inexpensive if existing double dividend possibilities are exploited

• But strong evidence of stagnation

US mid-range abatement curve 2030

Source: McKinsey & Co.