Blockchain, Institutional Evolution, and the Path to Sustainability — Part I

This is the first section of a three part series highlighting how cryptoasset technology can incentivize renewable energy adoption and lead to the development of a decarbonized techno-economic paradigm.

IENE

Biophysical Economics and Natural Constraints

In order to properly contextualize the civilizational crisis set in motion by the forces of anthropogenic climate change, this research evaluates the works of biophysical economists and complexity theorists to provide an explanation as to how, on a species level, the process of economic growth has led to the destabilization of the biosphere. This theory rests on the assumption that the economy is an energy system with evolutionary characteristics because it is a biophysical process constrained by the laws of thermodynamics. In order to properly evaluate the implications of biophysical economics, it is necessary to approach the literature from four angles.

· First, it is useful to understand the fundamental property of thermodynamics — the entropy law — and how it applies to life on earth and the survival of our species.

· Second, by explaining history through an energy-centric worldview, it is clear how this analysis differs from classical economic theory and can better contextualize the current crisis.

· Third, it will explain how money was created to organize energy surplus and stimulate economic growth, but remains detached from the actual physical economy.

· Fourth, it will examine how technology and the neoclassical notion of progress may lead to efficiency in production given the constraints of labor and capital, but carries severe implications for energy consumption.

· Finally, it will consider how declining Energy Returns on Energy Invested (EROEI) since the dawn of the industrial age has led to the financialization of the economy and helps explain many current events tied to the global slowdown.

Entropy and the Economic Process

The biophysical critique of the neoclassical school begins by taking apart its mechanistic worldview, dominated by a circular model of production and consumption, and replacing it with the linear governing laws of all energy processes — thermodynamics. Rather than atomize individuals and reduce their foundational laws to that of pure self-interest, biophysical economics takes an integrated systems approach by evaluating each individual according to socio-biological needs. Nicholas Georgescu-Roegen, as the father of the discipline, laid out the basic tenant of this new framework of human nature in the mid-twentieth century and first applied the laws of thermodynamics to the production and consumption process.

The First Law of Thermodynamics stipulates that in any closed system, energy can neither be created nor destroyed. Neoclassical economics succeeds in incorporating this law by operating under a circular model of production and consumption, where value cycles through the economy unscathed. However, neoclassical economics neglects to account for the Second Law, also known as “Entropy”, which is the physical process responsible for the civilizational crisis faced today. The Entropy Law stipulates that in a closed system, energy always flows from a higher concentration to a lower concentration in order to reach thermodynamic equilibrium. It implies that energy makes a qualitative change towards equal distribution in the system as concentrated sources degrade and distribute evenly. In other words, heat always travels from the warm to the cold body. For example, an iron tool placed in fire will heat up as energy from the flame enters and cool down once it is removed as energy distributes throughout its new surrounding environment. The term entropy refers to the state of disorder within the source and applies to both matter and energy. As it is related to the economic process, humans are concerned with finding low entropy sources, also known as ordered sources of energy suitable for use in production, and emit waste as disordered or dissipated energy. High entropy refers to energy in a state of disorder unavailable for human use. A lump of coal or bushel of wheat is considered energy available for immediate use, whereas the heat energy of the ocean, although significant in quantitative terms, is qualititatively impossible to acquire for economic use.

Entropy is also at work in biological systems. Organisms, for example, act as complex energy systems that temporarily halt and reverse the process of entropy to produce negative entropy. A plant or animal survives by gathering available energy from its environment and emitting waste, or nutrients unavailable for use. In the short run, namely the lifespan of the living system, it is entirely preoccupied with offsetting the entropic process by acquiring ordered energy from the surrounding environment and condensing it into usable nutrients; in the long run, the entropy law predicts that the high density of energy within the living system will eventually reach thermodynamic equilibrium with its surrounding environment. In other words, the throughput of energy in the living system eventually degrades the physical structure, causing the organism to break down and die — hopefully having completed its ultimate goal of reproduction. The body of energy, no longer living, will decompose and dissipate into the surrounding environment towards thermodynamic equilibrium.

The entropy process within an organism, that of acquiring available energy from the surrounding environment and transforming it into disordered energy, is also true of groups of organisms. Within a living system, there exists a feedback mechanism that signals an end to the growth phase of that system. An organism, after reaching an evolutionarily optimal size, will release chemical feedback loops that stop the growth phase. Within populations of living systems, ecology and the laws of nature provide a feedback loop to stop growth by limiting the amount of flow energy the immediate environment can provide at any given time, which either reduces the population smoothly or leads to the population’s collapse. History is filled with instances where human civilizations grew too quickly and outstripped the natural carrying capacity of the surrounding environment.

In all modern civilizations, the economic process transforms low entropy sources of energy into high entropy; in energy terms, production and consumption on the species level is an extension of our biological selves. Although the total quantity of energy remains unchanged, with the exception of solar energy, the mining of minerals and consumption of fossil fuels necessary for the production process characterize a qualitative phase shift that moves energy in only one direction: from order to disorder. As Georgescu-Roegen articulates, “matter-energy enters the economic process in a state of low entropy and comes out of it in a state of high entropy.”[1] This forms the basis of scarcity because humans cannot move energy from a state of disorder to order; without entropy, it would be physically possible to turn atmospheric CO2 back into a lump of coal, just as it would be possible to capture and reconfigure rubber particles lost as a tire degrades on the pavement.

Nicholas Georgescu-Roegen

Low entropy sources of energy, that which are available for human use, come in two forms: stocks and flows. Stocks include rare earth minerals, fossil fuels, and other terrestrial deposits created by complex, long-term earth processes over millennia. Flows originate from what are considered renewable sources, like wind, water, and solar energy, which also include biomass as an extension of this source. Given the nature of each source, stocks are limited in quantity whereas flows are limited in both rate and quantity. The Industrial Revolution shifted the primary energy input of the economy from flows to terrestrial stocks for the first time — the superior type of energy for the production process. Horse driven ploughs and wind sails, two forms of work reliant on flows, were replaced by mechanized agriculture and steam-powered vessels, which rely on fossil fuels. This shift dramatically increased the quantitative throughput of energy in the economic process and led to a drastic increase in output of goods and services, sustaining a drastic increase in global population. Humans discovered a method of capitalizing on the solar energy that lie dormant and fossilized for millions of years and used this new windfall to free civilization from the restraints of biological earth flows.

Despite the undeniable economic and material advantages of this shift, it has had the side of effect of hastening the entropy process and increasing disorder in the climate system. This outcome is a theoretical prediction of the biophysical economists because its models account for the constraints assumed by the laws of thermodynamics. In fact, Georgescu-Roegen, writing in the 1970s before any real climate change activism movement had taken shape, predicted that thermal pollution from the exhaust of the combustion process would pose a bigger threat to civilization than terrestrial stock shortages of minerals and fossil fuels.[2] For any closed energy system to continue, including the current industrial economy, it requires the constant input of new low entropy sources. This fundamental thermodynamic constraint is “the reason why an engine (even a biological organism) ultimately wears out and must be replaced by a new one.”[3] When the energy system expands to encompass the entire biosphere, the system will have to adjust to realize a new thermodynamic equilibrium. For the current industrial process to continue, it will soon need both another external source of input stocks and a sink for waste.

History According to the Biophysicists

Through the lens of the Entropy Law, biophysical economics highlights the essential role energy plays as the catalyst for all life on earth. Every single organism has a process for gathering energy from its environment, using it as an input for some sort of metabolism process, and exhibiting waste as an output. Prehistoric hunter-gatherers relied on the energy easily available and found in nature, just as any other species of organisms would. They collected plants, hunted animals, and made tools using the resources of the environment, which limited the size of human populations to the natural carrying capacity of the surrounding ecosystem. There was little notion of scarcity in both source and sink, as the natural environment was so vast that waste was quickly absorbed and plants or animals quickly regenerated.

These original sources of energy were all directly or indirectly harvested from phytomass. Phytomass, as the energy expressed in the form of photons beamed from the sun and retained by the earth’s atmosphere, is the source of all life on earth, either directly through the process of photosynthesis in plants or indirectly through the organisms up the food chain that consume plants or other organisms. Fully in sync with the earth’s natural system of converting solar energy into plants and animals, prehistoric hunter-gatherers only took from the environment what was needed to consume immediately. Every single individual was driven by the process of obtaining and consuming his or her own energy because manual labor was the only source of work. Rudimentary tools, such as spears and clothing, helped humans survive in the existing paradigm but did not characterize structural change in the way humans organized energy.

The biophysical economists point to paradigm-shifting great leaps forward, dubbed Promethean Innovations, as points of time where a new technology sets in motion a dramatic reorganization in the social methods of processing energy. These innovations, as Bonaiuti describes them, permit a new qualitative transformation of energy from chemical energy to mechanical work and generate a positive feedback loop that allows the new system to maintain its own material structure in addition to generating a surplus of accessible energy. Fire, agriculture, and the steam engine constitute Promethean Innovations thus far in human history.

The domestication of fire occurred during the prehistoric epoc and, according to anthropologists, led to both biological and social changes; by cooking food, humans streamlined nutrient processing and enjoyed rapid cognitive development. On an ecological level, the domestication of fire also established a fierce competitive advantage in resource conflicts with other species, as humans now had the ability to stay warm in cold conditions and ward off predators.

The shift to agriculture dramatically reduced the need for manual labor in food production and allowed for the development of new technologies through the division of labor, which took advantage of the first-ever period of energy surplus in human history. With the domestication of plants and animals, humans could now harvest and store crops for consumption at a later date. It also took less manual labor to produce the same amount of food, which freed up individuals to direct their labor to towards activities other than agriculture, such as creating art and producing tools. This in turn led to the first true capital goods and division of labor, and as a result, the beginning of the economic era and civilization as we know it. This development also set in motion the proliferation of tools and technology. Also known as exosomatic instruments, these are objects constructed using resources from the natural environment, which stand in comparison to endosomatic organs, defined as the biological processes within the human body responsible for translating organic energy into manual labor. When the agricultural revolution took place, labor was freed to develop, innovate, and produce new exosomatic instruments, like the horse-driven plough, that further reduced the manual labor needed in food production, in turn creating a co-evolving system where further innovations led to further improvements in output per unit of energy.

The next Promethean innovation occurred with the invention of the steam engine. By extracting terrestrial stocks of fossilized carbon, humans could burn exosomatic sources of energy to produce mechanized work and replace the vast amount of human and animal labor previously required to drive the economy. For the last 200 years since the first industrial revolution, the extraction, processing, and transformation of fossil fuels has led to an exponential increase in production of material goods and carbon-based infrastructure. The production and consumption of goods and services has led to the standard measures of economic growth and GDP, the two foundational components of classical economics. In some form or another, almost all goods and services in existence since the dawn of the industrial age have been created using terrestrial stocks of energy. The primary energy transition from solar flows to terrestrial stocks also stimulated the reorganization of institutions from feudalism to industrial nation-states.

This period set in motion what Jeremy Rifkin calls the “colonizing phase” of civilization, characterized by high degrees of centralization, complexity, and institutional control, all meant to increase the throughput of energy.[4] As the European economies continued to expand and increase their demand for energy at the onset of industrial society, they turned to foreign lands and used institutional power to subdue local populations, set up systems of resource extraction, and transfer vast sums of matter and energy back to the mother economy. Industrial society, defined as the current capitalist nation-state world order, is inherently a colonizing system; the perpetual motion of society is tilted towards policies and actions that increase economic growth and GDP, or in other words, the energy throughput of the system. The entire system is built on the backs of terrestrial stocks of matter and energy, and current institutions are designed to increase the size and rate of this flow.

Many theorists have predicted that at some point, the supply of terrestrial stocks of energy will run out and industrial civilization will stall. Yet each limits to growth movement has been consistently proved wrong with each round of pessimistic claims of coming civilizational crisis. Thomas Malthus, writing on the precipice of the first Industrial Revolution, feared that overpopulation would soon strip civilization of agricultural society’s natural carrying capacity and lead to a painful feedback loop of mass starvation. However, he failed to foresee a Promethean Innovation and paradigm shift that allowed dormant, fossilized solar energy to be put to work in the food production process. Agriculture, traditionally reliant on phytomass energy in the form of manual and animal labor, became mechanized as tractors and chemical fertilizers generated vastly more output. Without exosomatic stocks of energy, it is entirely possible that Malthus’ predictions had turned out correct as civilization encountered its natural limits to growth, which could have led to collapse.

Yet the opposite happened. Western civilization successfully navigated what Rifkin dubbed an “entropy watershed”, moments characterized by a critical transition in qualitative energy consumption. As the accumulated entropy of the old system gives way to a energy environment shift, it creates new modes of technology, social, and political institutions; for example, he identifies the medieval wood shortage as the spark for coal demand as an alternative source of energy and therefore proliferation of the technology, culture, and institutions that maximize fossil fuel throughput.

Since 1750, the exponential explosion in all measures of material consumption is a mirror image of the fundamental driver of these processes — energy use. As Tim Morgan explains, energy use has been the master exponential which all other processes follow; the breathtaking growth of GDP, population, food production, consumer goods, etc. is all traceable back to the primary input. By organizing society on the schedule of stored, fossilized energy rather than natural flows, civilization has been able to essentially leap past the natural carrying capacity of the planet. To sustain this drastic increase in both the sheer number and per person energy use, denominated in population size and GDP per capita, we have had to invest in increasingly complex systems to move energy. From the span of only 200 years, we shifted from cloth sails to harness wind to a vast carbon-based infrastructure to burn oil. All of this complexity requires an increasingly high number of political and corporate institutions to maintain.

The Nature of Money

From the biophysical perspective, money is unique in that it is unbeholden to the Entropy Law. The financial economy originated as a medium of exchange, store of value, and unit of account to serve and organize the energy surplus.[5] Created with the advent of agriculture, the first time humans acquired a surplus, biophysicists think of money as stored credits representing tokenized claims on energy. Being a social construction based on faith, it can be used an infinite number of times and is not subject to the entropy law. The physical economy it serves, however, runs on matter and energy, which are subject to the entropy law. Because they move from states of order to disorder, they travel in a linear fashion through the economic process rather than the circular fashion, characteristic of our socially-constructed unit of value. Herein lies the divergence between the financial system and the real economy.

During the industrial revolution, the amount of surplus energy increased exponentially, as did money, wealth, and other classical denominations of value used to tokenize it. Because natural resources appeared infinite at the time the discipline was developed, economics only focuses on the scarcity of labor and capital for its models. They classical economists also have different conceptions of what money was invented to represent. John Locke, putting the natural right to private property at the core of his argument, defined money as the great enabler that allowed man to expand past ownership of the property that spoils by accounting for possessions that could not be consumed on the spot; he argued it was an artificial social construct that let people put claims on land, possessions, or any sort of property without physical control. Adam Smith emphasized how the exchange value of certain commodities were used to account for surplus labor and acted as the key enabler for the division of labor. As the foundation of commercial society, money denotes purchasing power and is the universal representation of capital, an essential element of the division of labor production process. Locke thinks of man as the cultivating animal, Smith thinks of man as the trading animal, and the biophysical economists think of man as the energy-processing animal.

The classical economists neglected to account for an even more universal element of commercial society: energy. Denominated in watts, joules, calories, and many other metrics, energy expended can be used to compare physical activity across all disciplines. The joules per cubic inch of gasoline can be directly compared to the caloric inputs of a hundred slaves pushing the car. Energy is the universal currency that accounts for all natural processes.

The biophysical economists recognize the importance of the financial economy but point out its flaw when it diverges too far from the physical economy it is supposed to represent. When the real economy encounters limits and struggles to maintain an exponential growth rate of energy and matter throughput, the financial economy compensates with cheap credit and inflation to paper over the slowdown. There will be growth in monetary GDP, but the actual material improvement has dropped off. In other words, “standard economic growth ignores finitude, entropy . . . because the concept of throughput is absent from its preanalytic vision, which is that of an isolated circular flow of exchange value.”[6] This flaw of classical economics did not matter during the early stages of economic growth because natural resources were easily accessible and vast unpopulated areas offered infinite sinks for waste and pollution. However, the theoretical prediction holds that given exponential growth of physical throughput, the gap between the real economy and the financial economy will continue to grow.

The Nature of Technology

For the most part, orthodox economics treats technology as either an externality or fixed variable — depending on the taste of the model — which fails to account for technology’s clear reliance on energy as its main input. As mentioned earlier, biophysical economists integrate the laws of thermodynamics with economic models through the entropy law, which implies physical constraints to growth. This worldview operates under a completely different interpretation of technology than what is used in mainstream society and suggests that most industrial innovations are actually extraordinarily inefficient — not in their use of labor and capital, but in their use of energy. For example, consider the way humans obtain the 2,000 or so calories, in the form of food, needed to sustain themselves on a daily basis. Rather than pick an apple as a hunter-gather would, at the expense of only his or her physical energy, the current agricultural system uses fossil fuels 1) as an input for chemical fertilizer 2) to power the tractor that harvests the produce 3) power the devices that make the tractors 4) create packaging for the food 5) transport the food from the point of production to consumption and 6) generate electricity to refrigerate the food along the way. The invention of the tractor reduced the amount of manual labor needed, pairing one person with a reasonable capital investment to reap a crop output that previously required the energy of thousands of human workers. If labor represents the amount of human energy put into the production process, and capital represents the financial value of the equipment used by labor to increase efficiency, the model neglects to account for the rare earth metals and fossil fuel inputs required to build and run the equipment. There is no recognition that the supply of the key component to this production process — hydrocarbons — are finite because metrics only focus on total output.

Before the advent of agriculture, humans took from the environment exactly what was needed at the time to consume on the spot. Now, humans have complex, large-scale systems of producing, transporting, and storing food, all of which need to be organized by either public institutions or corporate entities. The process that brings this agricultural produce to market also includes the energy to 7) supply the office space and labor the corporation needs to do its job 8) supply the office space and labor for the bank that finances this activity 9) supply the same resources for the government agency that regulates and monitors this activity. The current food system uses exponentially more energy than the 2000 or so calories needed to sustain human life on any given day; earth’s current population of about 7 billion individuals consumes the caloric equivalent of 200 billion hunter-gatherers.[7] This process has high amounts of complexity, resource inputs, and labor involved so it leads to a lucrative growth statistic for the global economy yet moves civilization exponentially farther away from thermodynamic equilibrium exhibited by our ancestors. It produces a high amount of food and GDP per capita, which represents progress in the dominant cognitive paradigm because it is more technologically complex and efficient in capital and labor. However in biophysical terms, this complexity is “related directly to its capacity to harness energy from the environment through numerous sub-systemic processes of social organization, thus maintaining increasing distance from thermodynamic equilibrium.”[8]

In classical economics, the returns to scale realized by massive corporations and the specialization of labor they facilitate leads to incredible efficiency and profits; in the entropic worldview championed by the biophysical economists, however, this process serves to move civilization further away from thermodynamic equilibrium. The neoclassical idea of progress, characterized by globalization, expansion of markets, and technological efficiency of labor and capital, is at odds with the entropy law, which posits that the more an economy processes energy, the further it will decouple from ecological equilibrium and the closer the system will come to collapse. All technology increases the rate of energy consumption because in some way all are supported by a fuel or environmental resource; no technology can create its own fuel.[9] From the biophysical worldview, the only technologies that lead to sustained periods of prosperity and exhibit surplus energy return are Promethean. They do not create energy out of thin air, but denote a qualitatively different method of procuring, processing, and transforming energy, leading to the structural change in cultural, political, and economic institutions that best facilitate the new throughput.

Energy Return on Energy Invested

According to the biophysicists, the debate over when oil production will peak is irrelevant because the metric that matters, energy return on energy invested, peaked decades ago. EROEI, also known as net energy, simply refers to “the difference between energy extracted and energy consumed in the extraction process.”[10] According to the neoclassical school, this metric is insignificant. Total output and the production process as it relates to GDP is the relevant metric. However, if the economy is modeled as a surplus energy equation rather than a circular exchange of value, then it the essential metric because it directly determines the matter-energy throughput leftover for the other areas of the economy. No matter how much oil is produced using fracking and other advanced extraction techniques, it is besides the point because it is not the absolute volume of energy production that determines the health of the economy, but the surplus. The more energy it takes to obtain, less is available for the rest of the economy and the more relatively expensive it becomes.

In energy terms, fossil fuels have become increasingly expensive since the EROEI of oil peaked in the mid 20th century. Promethean Innovations typically have at least a 10x increase in the EROEI of any given energy source, but returns are limited when that energy source comes in the form of terrestrial stocks with finite quantities. Oil used to be freely accessible through the small, simple technologies of the early industrial revolution, but now requires highly complex and energy intensive carbon-based infrastructure for extraction, transport, and distribution. High quality crude oil has given way to tar sands, fracking, and other sources of fuel with low EROEI. For example, oil discoveries in the 1930s peaked at about 100:1 EROEI, whereas the best finds today only provide returns of 10:1.[11] Tar sands, shale gas, and biofuels are all even lower.

The process has a positive feedback loop that only ends with either the collapse of the financial system or the exhaustion of terrestrial stock supplies, because with higher investment in energy infrastructure needed to acquire harder to reach fossil fuels, it requires even more investment to bring sources to market and justify returns on the infrastructure invested. The more the economy remains reliant on fossil fuels, the more it is tied to the recessionary impact of net energy decline, not total energy decline.[12] History has routinely shown that industrial societies always expand in search of cheaper and more accessible sources of energy; after exhausting its easily accessible oil endowments, the U.S. has spread the reach of its institutions to developing countries with relatively untapped supplies of natural resources. The U.S. economy produces little fuel with high EROEI yet continues to consume the most energy in the world by financing and developing stocks overseas. Growth in the energy industry itself, as a percentage of GDP, is actually a sign that the economy is becoming less efficient in throughput because it takes more resources to keep up with demand. It takes more energy to run deep-sea drilling machines and more talented individuals to organize the process.

Part II of this series can be found here: https://medium.com/@Kbaranko_391/blockchain-institutional-evolution-and-the-path-to-sustainability-part-ii-e9255c4bf975

Works Cited:

1. Nicholas Georgescu-Roegen, “The Entropy Law and the Economic Problem,” in From Bioeconomics to Degrowth, ed. Mauro Bonaiuti (Abingdon, Oxon: Routledge, 2011), 50.
2. Georgescu-Roegen, “Energy and Economic Myths,” 69.
3. Georgescu-Roegen, “The Entropy Law and the Economic Problem,” 53.
4. Jeremy Rifkin, The Entropy Law.
5. Tim Morgan, Life After Growth.
6. Herman E. Daly, Beyond Growth (Boston: Beacon Press, 1996), 33.
7. Geoffrey West, Scale.
8. Nafeez Mosaddeq Ahmed, Failing States, Collapsing Systems: Biophysical Triggers of Political Violence.
9. Georgescu-Roegen, “Feasible Recipes versus Viable Technologies.”
10. Tim Morgan, Life After Growth (Great Britain: Harriman House, 2013), 13.
11. Morgan, Life After Growth, 61.
12. Nafeez Ahmed, “Brace for the Oil, Food, and Financial Crash of 2018,” Medium, January 05, 2017, https://medium.com/insurge-intelligence/brace-for-the-financial-crash-of-2018-b2f81f85686b.