Wednesday, January 18, 2006

Twelve Dollars For A Loaf Of Bread?

A gold standard works pretty well, because gold is a physical element, for which supply tends to be tightly constrained.

It can't be inflated at will. It can't be conjured out of nothing, at will.

But even in societies with a gold standard, the value of gold wavered in respect to the value of goods and services. This is because goods and services are made available through the consumption of available energy.

Nobel Prize winning chemist Frederick Soddy, proposed a monetary system based on available energy. One in which the money supply would be governed by the supply of energy.

I don't know that humans could adhere to such a system, but in theory, it would likely work well. The money supply would be a reflection of the quantity of actual goods and services available. Energy efficiency would directly correlate with monetary efficiency.

We don't have such a system and probably never will. But our money supply, though unhinged from the physical world in the minds of economists, must function against real world values.

Its value is ultimately determined by the trade of goods and services that it represents. Those goods and services are constrained by the quantity of available energy. Thus the value of money, is ultimately tied to the availability of usable energy.

We can express this as V = E / M.

Where V = Value of Money, E = Quantity of Available Energy and M = Quantity of Money.

You can factor in various energy efficiencies or alternatives, but at any point in time, this relationship is essentially true.

Until late 2000, the US saw an almost unbroken rise in energy availability. Inflation of the monetary supply was offset partly by rising energy availability.

In the late 80s (1987-1998?) and the period of 2001-2002 this situation was reversed. The quantity of dollars continued to inflate while available energy took a downturn and stagnated. The energy downturn in 2000, actually preceded the official business recession by more than a full business quarter. It took time for the downturn in energy to smack around the bottom line for corporations, and drive many into bankruptcy.

The Fed responded by lowering rates to increase the money supply. This diluted the value of money in circulation and tilted profitability toward businesses that worked in the ethereal realms of finance. Those industries that survive on debt reallocation get the benefit of using dollars with relatively undiluted value to maintain their business, while diluting the value of money to those businesses that rely on physical trade.

As a result, the effective wealth concentration moved from physical real world entities to ethereal financial entities.

The result is that money accumulates at the top of ephemeral financial centers as it's drained from physical industries. Reinvestment in real world enterprises becomes a guaranteed money loser. So financial centers invent new imaginary instruments to repackage debt and resell it among themselves. An entire economy based on repackaging an imaginary construct, develops, grows and builds. This ephemeral construct then takes on a life of its own and becomes a powerful force, feeding on the US economy at large. It demands to be fed by inflationary dollars and drains the life force from the physical economy.

This virtual economy is now worth 6.7 times more than the physical economy. To pay it off, the physical economy must consume 6.7 times the energy it does now, to produce the goods and services needed to deflate the virtual economy.

Yet the virtual economy grows. It sucks the life out of the physical economy at ever greater rates. As a result the physical economy gasps and struggles, as more of it's life's blood is drained away.

As we ride out the peak oil plateau, the Fed is sure to continue to inflate the money supply, to counter the very problems that are caused by inflating the money supply. I believe it’s too much too hope for that the Fed will discover the physical universe and adjust the imaginary money based universe to compensate. The course we’re on, increases the numbers of dollars, and concentrates those numbers into the hands of the few. But while it does so, it reduces the actual value of those dollars in relation to the physical world. The rich are making themselves effectively poorer, but at a slower rate than they are impoverishing the rest of us. In relative terms, they are racing to the bottom slower than anyone else. But because they are focused on the quantity of dollars they aggregate, rather than the relative value of these dollars, they are completely blind to their self impoverishment.

Once we go over the peak, this policy will completely destroy the physical economy of the US. The dollars will accumulate in the hands of the wealthy at incredible rates, but they will not buy much of value. The physical economy will be dead and the vampiric Fed policies will no longer be able to feed upon it. The Fed’s financial policies at that time will be found to be baseless. As baseless as the US dollar will become.

And when folks talk about intervention, to stop other countries from denominating oil in Euros, they are arguing for a stop loss action to forestall an accelerated erosion of the value of the US dollar. It’s a misnomer to think that the dollar’s value is based on trust, or a belief in its value. Its value is ultimately based on the relationship between dollars in circulation, and available energy. This value is propped up, because the dollar is backed by the world supply of oil. This gives it a competitive advantage against other currencies. As oil becomes increasingly traded in euros, the dollar will lose competitive value. For the wealthy, this is worth sacrificing the lives of the lower classes in foreign wars to forestall.

But in the end, it’s a losing game. The Fed is acting as a destructive force, and some notable economists are calling for the Fed to fail faster. Other economic analysis back up arguments for higher interest rates using other arguments, but they all tend to agree that the current debt based Ponzi scheme the Fed has constructed, will fail if these are implemented. If rates rise, then those financial institutions who’s value rest entirely on increasing rates of debt accumulation, will fail. That’s most of them now, as debt accumulation has been the new basis for 85% of the US economy for years now.

The Fed has set us all up to fail. At this point, there’s no way out except down. Because once rates rise, 85% of the dollars will have nothing left to be leveraged against. They’ll dilute the value of dollars in circulation and show us the real meaning of inflation. At that point, a twelve dollar loaf of bread would become commonplace, while wages will remain stagnant.

5 Comments:

At 12:35 AM, Anonymous speedbird said...

Yes...

However, I can imagine two societies with equal energy availability which yet have different levels of wealth in real terms.

Me, I'm not a fan of any economics. Economic representations are just that - representations - and must be treated as such.

 
At 3:45 AM, Blogger Weaseldog said...

What is the definition of 'Wealth' or 'Real Terms', in this context?

In economics, both of these terms are nailed down as well as the definition of art, or pornography.

In energy terms, wealth could be expressed as W = P / E, where W = Wealth Per Capita, P = Population, and E = Energy Availability.

In my short post, I did not point out that Energy Availabilty wraps up a few terms such as energy the Quanitity of Energy combined with the Usability of Energy. I took this as a given. Energy not made available to work, isn't available energy.

Only energy that can be put to work by the society applies, just as energy inputs in an econosystem only apply to energy that can be captured and harnessed. For instance, an ecosystem in Costa Rica and one in the Sahara have vastly different energy inputs, though both may receive similar quantities of sunlight.

The region now defined by Texas has had oil underground for millions of years, but would not have been counted as available energy to the Native Americans that lived there before the industrial revolution came to Texas. Likewise the per capita oil wealth peaked in the late 1960s and has declined since.

Now if you change the definition of wealth to be something else, then non of this matters. But in an energy context, wealth should be measured in terms of energy. A hunter gatherer society that survived with little mnore than food and cookijng fires for energy inputs, might prefer to express wealth as Leisure Time / 24 hours. But this tells us little about relative wealth of technological societies which is my interest here.

We might note that the relationship of E / P, has been in decline for the entire planet since 1987, when energy per capita peaked.

 
At 7:57 AM, Anonymous Mike said...

It's also the same year that Greenspan took over and began his headlong dive into the Stygian Pool of never-ending liquidity & credit.

Money supply up, true wealth as you define it down. Do the math.

 
At 8:19 AM, Anonymous speedbird said...

I think I see what you're getting at. If our society can be defined in terms of energy use, then it's a failing society...

Available energy is an interesting concept. Doing 'useful' things (moving a truck, making electricity) with the heat produced by *burning* fuel is terribly difficult. The best we can do is the jet engine. I have a suspicion fuel cells might be able to do better - but then they don't really 'burn' stuff.

If only we could get at all that solar energy... just go into the desert and tap it off, one kW per square metre. That's a gigawatt per square kilometre. Just imagine.

 
At 9:10 AM, Blogger Weaseldog said...

Well fiat money is certainly failing as an abstraction for goods and services.

If it's not intended to be an abstraction for trade in real world things, then it's an abstraction for abstractions.

After peak oil, and especially after peak gas, real world productivity must decline. But we can be sure that the quantity of fiat money will not.

This will devalue mutual funds and pension plans as inflation rises faster than the value of these funds. Further, once retirees start cashing out on these funds, their market value will quickly diminish and many will just disappear as they approach a zero dollar value from failed stocks.

Out monetary system must fail after peak oil, because it is dependant on growth. Like any ponzi scheme it must die when it runs out of entities that are pumping money into it.

This understanding of the relationship between money and energy is the reason I don't discuss ways to make money off of peak oil. I'm not convinced these matter.

 

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