The Inevitable Collapse of High Carbon Economy

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PEOPLE who’re worried about the possibility of global economic recession need to take Mr Nassim Nicholas Taleb seriously. Who is he? He is the professor of sciences of uncertainty in the University of Massachussets at Amherst. This year Penguin books published his classic ‘The Black Swan, the impact of the highly improbable’. Mr Nassim questions the wisdom of popular economic theories taught in the business schools and has come down heavily against the Gaussian modern portfolio theory.

One has to consider Mr Nassim’s views seriously before an impartial post mortem analysis of present global economic crisis is performed. The signs are there – the world is undergoing an economic metamorphosis. No economic system and sector would remain unaffected and insulated. The bailout packages would lock mostly public funds or drain the government reserves and the ripples of such decisions would be felt far and wide spatially and temporally in the days to come.

Whereas the world is grappling with a real environmental crisis and almost everyone is talking about global warming and climate change, there is global economic cooling and a possible change in financial climate. Could these processes be related? The high carbon based global economy is certainly on the verge of an inevitable collapse after accumulating enough entropy within the market system. A simple explanation for the snowballing global economic crisis could be the failure of the markets to internalise various kinds of accumulated externalities. Some of these externalities such as the costs to clean the air, restore the ecosystems, expenditure on health and sanitation are created by the high carbon economy.

One of the founding principles of environmental economics is that economic systems are considered as subsystems of the larger environmental system. In their much acclaimed classical paper on ‘Nature’ (May 27, 1997) Mr Costanza and 14 others had shown that the net contribution of the services from the Earth’s ecosystems was $ 18-54 trillions and this was not captured by the markets. They claimed that internalisation of these costs would drastically alter the market pricing system.

Economies cannot grow forever with hidden environmental subsidies. The Americans are the largest polluters on this planet contributing 20 per cent of green house gas emissions. High consumption also boosts energy demand and creates more waste. The American model of macro credit-based lifestyle was viable up to a point as long as the hidden subsidies and the risk factors were within manageable limits. The citizens continued to borrow and the banks continued to sanction loans and credits. Such economies are bound to reach a limit of sustainability because the consumer lifestyles are not sustainable.

The Americans continued to patronise consumer goods and countries like the Peoples’ republic of China, Taiwan, South Korea , Thailand, Japan created massive manufacturing infrastructure to operate on vast scales of economies. The Chinese economic success story owes a lot to patronage by American consumers. The Chinese overlooked the destruction of their own environment in the process of creating vast economies of scale to out price any competitors. Relaxed environmental and safety standards, cheap labour and vast installed production capacities so far enabled the Chinese manufacturers to be competitive, but they were least concerned about the developing economic crisis.

With economic recession in USA, the Chinese enterprises would be seriously affected. China would have to face the twin problems of repairing its’ economy and ecology. Its’ huge corpus of foreign exchange reserves would be drained out in addressing these twin tasks. It has been shown that USA is the least efficient country in fuel efficiency. In absolute volume terms this means that American demand for oil was always an overestimate. Since the USA failed to manage its’ high carbon based, oil guzzling extravagant economy – the world had to internalise the externalities created by the record escalation of the oil prices.

Judicious demand management by American economy would have softened the oil prices. Unfortunately the major global economic stakeholders are not paying adequate attention to demand management of hydrocarbons. Globalisation may have simplified the free market economies but it has also thrown in uncertainties. By keeping out OPEC as an elite group of hydrocarbon producers the World Trade Organization has followed a policy, which is discriminatory and smacks of an outdated feudalistic approach. As long as hydrocarbon trade is not brought under WTO regulations, the world attempting to switch over to a low carbon economy would continue to face crisis. Under such constraints the quest for energy security would be like chasing a mirage. Hydrocarbon demand management coupled with fuel efficiency and an equitable regulatory regime under WTO would enable a smooth transition to low carbon-based economy. During this transitional period, which may last at least a decade – there needs to be greater infusion of capital for inventing new eco-friendly and efficient technologies. At present only a few countries like Israel, Germany, Norway, Sweden, Netherlands, Canada, France, Spain, Italy have shown sensitivity in this regard.

New fuel-efficient technologies mean creation of new knowledge and new enterprises. With infusion of adequate capital to fund research in solar photovoltaic and hydrogen-based fuels, the breakthroughs could be reached even faster. Areas like nano technology have now make it possible to engineer materials with supreme precision. These new materials would be ‘intelligent’ and efficient. Houses would be able to generate their energy in the available sunlight thus reducing the energy demand from the central power grid. Green fuels, green technologies would support green or low carbon economies.

The global economic meltdown may actually come as a boon to energy researchers and natural resource managers. Energy efficiency would lead to a reduction of pressure on natural resources and environment. Global problems have global solutions. Already there is a degree of consensus in Europe on the need to move from a high carbon to la ow carbon economy.

The government of India is also working on a new policy for the domestic automobiles manufacturing sector to make fuel efficiency a mandatory principle. Mr Taleb was not wrong when he warned – “While many study psychology, mathematics or evolutionary theory and look for ways to take it to bank by applying ideas to business, I suggest the exact opposite: study the intense, uncharted, humbling uncertainty in the markets as a means to get insights about the nature of randomness that is applicable to psychology, probability, mathematics, decision theory and even statistical physics.”

The modern portfolio theory has been proven wrong – as we are transiting into an age of low carbon economy. The hidden connections between ecological crisis and economic crisis need to be understood.