[donshan]

$this->bbcode_second_pass_quote('bobcousins', '
')Science also shows some things are inherently unpredictable. Have you not heard of chaos theory? The butterfly effect? Non-linear systems? Weather forecasts?

If you are relying on Newtons laws of motion, you are about 200 years out of date.

You also begging the question "What is the purpose of economics?" The purpose of economics is not to provide long term management of the planet. It is to allow people to make money.

Honestly dude, you are barking up the wrong tree.

[jaws]

$this->bbcode_second_pass_quote('bobcousins', '
')You also begging the question "What is the purpose of economics?" The purpose of economics is not to provide long term management of the planet. It is to allow people to make money.

[advancedatheist]

Michael Perelman argues that mainstream economics gets natural resources wrong because it assumes that you can discount the future, and that every resource has a substitute if the price for the original resource rises high enough. (Regarding the latter assumption, I guess economists don't study basic physical science.) What happens when you finally arrive at the resource-depleted "long run" this way of thinking rationalized?

[donshan]

$this->bbcode_second_pass_quote('advancedatheist', '[')url=http://www.globalpublicmedia.com/transcripts/409]Michael Perelman[/url] argues that mainstream economics gets natural resources wrong because it assumes that you can discount the future, and that every resource has a substitute if the price for the original resource rises high enough. (

[ubercynicmeister]

The long and the short of it - and it's surprising that no-one else has responded to your question in this way is: YES, modern economic theory is utterly flawed, and Matt Savinar points this out very cleverly both at his website and in his book. Note well: ALL OF WHAT I WRITE BELOW HAS BEEN WRITTEN BEFORE AT THIS AND OTHER WEB-SITES ASSOCIATED WITH PEAK OIL. I am merely condensing and gathering the remarks together.

Firstly John Maynard Keynes almost got it right, when he said that the govt has a role and a right and, indeed, an obligation to "do" things within the economy, to stabilise it, to help the sections of Society that cannot help themselves.

So far, so good. Then along came the Oil Shocks of the 1970's and the whole basis of Keynesian Economics came under fire from one Professor Friedman who won the Nobel Prize for Economics (they musta been handing them out on the side of breakfast cereal containers that year) for his theory, which we now know as "Economic Rationalism", also "Freemarket Fundamentalism".

The change from a centrally planned economy to a free market one was supposed to bring us eternal wealth, health, happiness and every form of boon, benefit, pleasant thing and we're all (supposedly) deliriously happy if we wear what another Friedman called "the golden straight-jacket".

This is the economy we presently endure, and - even when Oil was ridiculously cheap - freemarket economy after freemarket economy foundered, collapsed, and generally shook itself to bits like the out-of-balance machine it really is.

Take Japan. After years of an Economic Boom, in the Post World War 2 period, marked mostly by protectionism, central planning and Government regulation of the Economy, the Japanese decided in the 1980's to introduce some freemarket reforms: floating the currency, deregulated banks, and the investment sector, etc etc.

Their economy, after experiencing growth in certain sectors that can only be described as "absurdly over-optimistic" - while other areas stagnated - the Japanese Economy has inverted, collapsed and is still heading downwards. Japan, in the most optimistic estimates, has been bumping along on the bottom since the collapse of it's share-market in the early 1990's. The share-market boom, it turns out, was driven by by Japanese women investing their husband's money without said Hubby knowing about it, and thereby both of 'em ended up losing everything . It should be noted that Oil was a whole lot cheaper THEN than it is NOW.

Japan still hasn't gotten over what the deregulation did to it's economy. Always the promise that "once the transition to a free-market economy is finished, the pain will be over", yet always that transition seems to always further off, always it seems to occupy more time, more resources, more consultants need to be paid, more pain needs to be inflicted with zero gain for the general population, more uncertainty, more time-wasting, more debt, more spending-on-credit.

Mind you, some people are doing exceedingly well out of it - the consultants. for example.

Japan is a microcosm for the rest of the West, too - in every economy that has tried Freemarket Reforms, they have seen their economies flop (Australia - we're supposedly "booming" right now - pity no-ones told the real economy, which is actually stagnating). And all of this BEFORE the price of Oil went up. Don't forget - Japan was the World's Second Largest Economy before it started Freemarket Reforms. Now, it's Number 3 and going down. Japan, BTW, imports all of it's Oil, and most of it's coal.

Now we see that while Keynes got it mostly right, he left out one huge part of the reality that scuppered his ideas some 40 years after they were introduced (note: this is a better track-record than Freemarket Fundamentalism / Economic Rationalism, which has wrecked everything in about 25 years) . The part he left out was, of course, energy.

In our civilisation, thanks to the Industrial vandalism of the 1950's and 60's, we are entirely dependant for our energy on one form of it: Oil, in some form or other.

Nuclear Energy doesn't need oil, you say? Well, think about the way that the 'fuel' gets to the reactor: a diesel powered digger extracts the ore and loads it onto a diesel powered truck, which takes the ore to the processing plant, where diesel powered equipment turns it into something that is more easily transported. Another diesel powered truck then takes it to a port, where a diesel powered ship takes it off to the fuel-making plant, usually clear on the other side of the world.

So, if we start to run outta Oil where's all this diesel coming from?

This is why there's now a movement on to start to introduce "energy" economics - where the physics takes precedence over the money.

Both Keynesian Economics AND Economic Rationalism place the importance of money above that of everything else. In a sense, they are right - if enough people believe that money matters most, they'll be more quiescent when someone with money tries to order them around. Thus "money matters most" becomes a self-fulfilling prophecy. Energy is made from Money, Money acts without concern over energy or energy prices, say both the Keynesians and the Economic Rationalists.

Energy economics (from the little I understand of it) places energy at the heart, with money at the periphery, where it should be. Money is made from energy, says energy economics. Money cannot act or even exist without an underlying support of energy in whatever that form - be it the energy of human power, they energy of Oil, the energy of solar power, the energy of nuclear power, the energy of some exotic source, like (say) Zero Point Energy.

The easier the energy is to extract, the cheaper it will be. For example, Oil when it was first discovered, was incredibly expensive - no-one used it, because the damn stuff was too hard and too expensive to transport, to refine and to use. Then someone figured out how to get all of the above happening cheaply, and voila! An Oil Boom.

It is said that, at one stage, the amount of energy (in barrels of oil) needed to be put into drilling an oil well was 1/100th that of the amount that came out of the Oil well.

This created wealth. It did so by driving costs associated with everything down. In that sense the Economic Rationalists were certainly right: if one lowers cost, one gets wealthier. Where the Economic Rationalists got it wrong was the one might reduce costs - but only by money invested in the first place. Stopping spending money is not the same as reducing costs. The 'fly in the ointment' for both Keynesian and Economic Rationalist Economics comes along later - when the source of energy starts to get a little shaky, or supply and demand are equal - or demand exceeds supply, even by a small amount.

Then the Freemarket "Bull" (so called because of the amount of bull that is used to help inflate already over-hyped stocks) turns bear, and starts to maul people.

This is what we're seeing now.

I hope I've answered your question.

[jaws]

$this->bbcode_second_pass_quote('advancedatheist', '[')url=http://www.globalpublicmedia.com/transcripts/409]Michael Perelman[/url] argues that mainstream economics gets natural resources wrong because it assumes that you can discount the future, and that every resource has a substitute if the price for the original resource rises high enough. (Regarding the latter assumption, I guess economists don't study basic physical science.) What happens when you finally arrive at the resource-depleted "long run" this way of thinking rationalized?

[donshan]

$this->bbcode_second_pass_quote('ubercynicmeister', 'T')he long and the short of it - and it's surprising that no-one else has responded to your question in this way is: YES, modern economic theory is utterly flawed, ...
...
Energy economics (from the little I understand of it) places energy at the heart, with money at the periphery, where it should be. Money is made from energy, says energy economics. Money cannot act or even exist without an underlying support of energy in whatever that form - be it the energy of human power, they energy of Oil, the energy of solar power, the energy of nuclear power, the energy of some exotic source, like (say) Zero Point Energy.
.

[donshan]

$this->bbcode_second_pass_quote('jaws', '
')There's nothing wrong with discounting. From what I've read of Perelman, he's a red, and is just pushing his good old red agenda.

Discounting works because you are discounting the future price, not the future supply of the resource. If you have a resource with a lot of substitutes, the future price will not rise much (elasticity is high) because everyone will switch to some other resource. The discounting process will then make most of the resource available in the present. If you have a resource without substitutes then obviously a diminution in supply will cause large price hikes on the market, therefore discounting will still leave you with a fairly even production path year-after-year into the future.

[ubercynicmeister]

Hi Donshan.

$this->bbcode_second_pass_quote('donshan', '')$this->bbcode_second_pass_quote('ubercynicmeister', 'T')he long and the short of it - and it's surprising that no-one else has responded to your question in this way is: YES, modern economic theory is utterly flawed, ...
...
Energy economics (from the little I understand of it) places energy at the heart, with money at the periphery, where it should be. Money is made from energy, says energy economics. Money cannot act or even exist without an underlying support of energy in whatever that form - be it the energy of human power, they energy of Oil, the energy of solar power, the energy of nuclear power, the energy of some exotic source, like (say) Zero Point Energy.
.

[jaws]

$this->bbcode_second_pass_quote('donshan', 'A') quote by Pereman from the link above RE discounting( note, I bracketed one word which I assume is a transcription error in this radio interview):

$this->bbcode_second_pass_quote('', ' ')Now, if you were to discount at the rate that corporations do, say, 10 to 20 percent per year, the world 100 years from now would be virtually worthless because the value falls very, very rapidly with a high discount rate. So in this way the economy [doesn't?] disregards the future.

[donshan]

$this->bbcode_second_pass_quote('jaws', 'T')he problem with oil is that we're really not sure how substitutable it is. If it's just a highly profitable form of energy like any other, then the market for reserves will drive up the price until it's equivalent to other forms. If it's a unique resource that we can't do without then the elasticity is very low and it pays to preserve. My belief is that many of the current uses for oil are highly substitutable, however there is a small share that is unique and not substitutable. Until supply has fallen so low that only the unsubstitutable needs are being supplied, conservation of oil is going to be less important a consideration to oil suppliers than competition from alternative energy.

[jaws]

I don't disagree with that last quote, but when dealing with nationalized oil companies long-term value is irrelevant. Politics is what sets production, and politically for a country like Saudi Arabia it makes more sense to produce now instead of later.

[donshan]

One more thought on calculating the price of substitutions for oil, which brings me right back to my first post. It is almost impossible to calculate future fuel costs with any precision, because of the large number of variables, many of which are interrelated. The econometric model gets more and more branches with assumptions on every branch. Let one branch have flawed assumptions or input data and the conclusion is wrong.

K. Deffeyes' book " Beyond Oil" goes into most of the possible alternative substitutes for conventional oil- from coal to hydrogen. He covers it from a geological perspective, but the many failed commercial ventures he cites hint at the difficult economics.

To illustrate my point, play a mind game of what if a very large Multinational oil company decides to build an oil shale project to supply gasoline to the market at a rate of one million bbl/day. What will be the production cost of that gasoline when all the plants are built in 5 years?

After all the attempts of mining the shale by shovel and truck into retorts failed, the current approaches heat the shale in-situ with steam or electrical resistance heaters, and collect the heavy oil liquids. Steam use is blocked because all the available water rights are taken and you are fighting 7 States and Mexico for water. So you use electric heating. What price do you assume for electricity? Do you just use the current power rates in Utah with an adjustment for inflation? No, because if you are planning a million bbl/day production you must build your OWN power plants ( or contract for them). So you build a dedicated nuclear power plant (more needed later). You should consider using your own fuel oil to fire your electrical power plants. Just be sure your EROEI is modeled right.

Now you are getting heavy oil, that requires hydrogen in the refining process to make gasoline. Do you use prices for hydrogen from natural gas, which is the current refining process? Not unless you can project the availability and price of natural gas, and take into account all the costs of big LNG imports or build the Alaska natural gas pipeline. Or maybe you use your nuclear electricity to make hydrogen from water. Massive amounts of hydrogen will be needed to convert the long carbon chains in heavy oil into lighter gasoline. Much more electricity is now needed before you get the gasoline. The model needs to examine alternative hydrogen sources too. However, all this still depends on building more pipelines to get the product out of Utah, and building cities for all the workers. Maybe it is easier to bypass oil shale and go directly to electric powered trains and vehicles. Put those assumptions into the model. You also need to include all the costs to meet environmental requirements and permits, which involves knowing what pollutants will be generated, and what technology will be used to control them.

Perhaps someone could build a model of ALL the factors of production involved to get oil from shale. It is still filled with assumptions with a high probability you have overlooked something, have not adequately considered all the price feedbacks and you come up with wrong answers.
It is my observation that economists building econometric models do not adequately include all the engineering constraints imposed by physics and thermodynamics on their equations.

That is why people depending on these econometric models keep making flawed business decisions.

At one time in my career I was project manager funding our computer department to build a model. They kept bringing me the model, I kept pointing out flawed assumptions. They then said "fund us one more month and we will fix it!". It went on and on until I decided to cut my losses and canceled the idea.

Models can be very useful, as long as you appreciate the assumptions. The best ones work on boundary conditions, which perhaps is how Reynolds comes up with a range of $300 to $1000 /bbl for substitutes for conventional oil. Too many people are not satisfied with a factor of 3 error band, even when it is highly useful.

Would the CEO of the oil company in my oil shale project like an answer that his cost of gasoline from shale would be between $300 and $1000/ bbl? Maybe and then he cancels the project, unless the world oil price is heading to these prices too.

Instead, maybe some economist promoting the shale project brings him a model that gives numbers like $33 to $35 /bbl. It looks too good to be true and it is! Is the CEO smart enough to see that?

[lorenzo]

Myopia is indeed the key-word here.

This month's Le Monde Diplomatique features a brilliant but ultra-boring essay on the new accounting rules that are being created (US/EU-worldwide). I was shocked at what I read there. It shows how a small clique of technocrats wants to turn the entire world's population into one of shareholders buying into purely virtual companies whose share values don't have to reflect in any way any fundamentals of any kind.

http://www.monde-diplomatique.fr/2005/11/RICHARD/12911

The article sharply shows how accounting standards have changed over time, with norms growing increasingly towards "virtual accounting", with the aim of giving quick dividends to shareholders, based on almost fraudulent and gratuituous assessments of CEOs. The new rules are almost barbaric: they now allow the CEO to present an entirely ficticious book based on entirely ficticious projections about the potential future value of the shares.
All the real fundamentals of a company's health have been eliminated.

So, Donshan, you're describing basic fundamentals of real companies making real business decisions, but we're already waaaayyy beyond this. Today's companies make money in a purely virtual way, on their shares, no matter their fundamentals.

1. In the first phase of capitalism (1800-1860), companies had to include "potential losses" in their books and the cautionary principle of the lowest potential future market value of the shares; this kept shareholders cautious and companies with their feet on the ground.
> This way, it was impossible to issue dividends at the beginning phase of an investment; because all kinds of costs (R&D, etc...) were put in the books, brutally, at the beginning of the investment cycle; these costs had to be valorized, which takes time. So, investors knew that ROIs based on real fundamentals take time to come about.

2. In the second phase of capitalism (ca. 1900-2004), those who supported the shareholders revolted against this cautionary principle and after countless wars, they succeeded, throughout the 20th century, to include this cautionary principle as something that can be "amortized", "written off", put on the long track, eliminated as a post at the beginning of the investment cycle.
>This nasty little trick means that these costs are written off following a fixed procedure, not following the real "lowest potential market value". Amortizing thus creates a fiction, with which one can relegate the real costs which slow down the process by which a company makes profits, to a later date.
>Shareholders could now cash in very quickly on their investments; no need to wait years to get a real share of the real profits of a real company.
>This is what allowed pure speculative investments; because one could cash in at any time, step out at any time, get a dividend real quickly, without you having to take the burden of the real costs the company has made (because they are being magically amortized).

3. Today, in the final phase of capitalism, after Enron, WorldCom and countless other speculative bubbles, an international consortium of accountants was called to revise the rules. Now one would think they would get rid of the potential for such bubbles. But on the contrary, they created more conditions which make bubbles much more likely.
>This final phase of capitalism (2004-...) invents a really brilliant nasty idea: costs are no longer amortized, you don't even have to write them in your books as fundamentals, amortization has been declared dead; instead comes: the freedom of the CEO squad to write "maximum potential future market values" of the shares, and use them as the basis for estimations about potential profits. The world turned upside down!
>No need any longer to have a company that produces real stuff; you can just create a company, tell the world that you "expect" a 200% increase of your share value over the coming year, you don't have to prove anything on paper (which used to be the case in phase I and II); just go out and say something. Wear a tie!
>This is the perfect recipee for more bubbles and crashes; people will invest, expect a fast dividend and cash, tomorrow, and pull out if lucky or lose everything if gambling badly.

So we have moved towards a purely virtual business culture of fantasy expectations and fantasy "facts" taken as fundamentals.

Now, personally, I don't give a damn, because I'm not that much of a shareholder, but now comes the dirty part: governments themselves are using my tax-money, to invest in such a fantasy world. If they crash, I lose all my money, without having had any say in it and without having any way of recovering it. (Tax money is my money; my productive labor is part income, part tax; I am free to decide what I do with my income, but the State manages its income, which is my money too.)
Banks do the same thing. So I can't even invest my own income into something more stable and durable (I can, but the Bank *itself* which allows me to do so, finds its entire financial base in the fantasy investments; so if my Bank crashes, my cautious non-stock investments are gone too.)

This is what upsets the author of the essay most; if it were up to him, the entire world's elite should be free to gamble, whether on the stock market or in Las Vegas. But when it comes to public goods and public money (which is still my money too), it should be managed more cautiously, preferrably with the 19th century cautionary accounting principle in mind.

So there we have it. A grand history going from companies having to take into account the "potential lowest future market value of the shares" and writing real costs in their books brutally at the beginning of an investment cycle --- all the way to companies hiding all the real costs of their assets, which have been excluded as important accounting parametres, and which have been replaced by the authority of CEO-teams whose only real obligation is to issue statements about "potential maximum future value of the shares", without these statements having to have any factual basis.

Disastrous!



English version of the article: does not exist! Le Monde Diplomatique uses the word "Anglosaxon" all the time, so they select the articles which they will translate to show them to an Anglosaxon public, very carefully. This one, they didn't select, because the article is extremely harsh on the Anglosaxons. The new accounting standards are Anglosaxon in nature, and there's a serious debate and rage about it, here in Europe.

You can get it if you subscribe, here: http://mondediplo.com/

Here's the free French version:
http://www.monde-diplomatique.fr/2005/11/RICHARD/12911

[donshan]

$this->bbcode_second_pass_quote('lorenzo', 'M')yopia is indeed the key-word here.

So, Donshan, you're describing basic fundamentals of real companies making real business decisions, but we're already waaaayyy beyond this. Today's companies make money in a purely virtual way, on their shares, no matter their fundamentals.

[Jake_old]

Eloquently put lorenzo. The difference between stage 2 and 3 doesn't seem like a milestone to me.

We have a situation here when a company is in the process of trying to move to the FTSE from a lower division as it were, the chairman actually just states the value of the shares. Just like you said here.

$this->bbcode_second_pass_quote('', ' ')the freedom of the CEO squad to write "maximum potential future market values" of the shares, and use them as the basis for estimations about potential profits

[Vexed]

Interesting take (propaganda?) on why government numbers are actually much better than they appear.

Why the Economy is a lot stronger than you think

The discussion of a Knowledge Economy made me think of all the overblown hype about the rise of a New Economy during the dot-com bubble.

But I thought the following quote was worth considering:

$this->bbcode_second_pass_quote('', 'G')lobalization, outsourcing, and the emphasis on innovation and creativity are forcing businesses to shift at a dramatic rate from tangible to intangible investments.

[rogerhb]

$this->bbcode_second_pass_quote('Vexed', 'W')hy The Economy Is A Lot Stronger Than You Think

[Ludi]

"intangible investments" = "hot air."

We been down this here road before, I do believe....

[Jellric]

Famous last words.

"This time it's different."