While it’s impossible to predict how the Bitcoin experiment will pan out, it has already succeeded by creating a decentralized system for settling transactions, and by re-igniting interest in alternate currencies. Here I explore the idea of currency backed by energy.
A few months ago I wrote an article, The Joule Standard, which describes the idea of denominating a currency in units of energy (see also joulestandard.com). The idea is worth a look because 90 to 99% of the mechanical work done in modern economies is done by machines, which are “paid” in energy. The energy supply defines how much productive work can be done, while the efficiency with which we use energy defines how much utility can be created from that energy supply (widgets per kilowatt-hour).
The idea of money based on energy is not a new one. Buckminster Fuller explored the idea of a World Energy Grid, while Kim Stanley Robinson incorporated it into his Red-Green-Blue Mars trilogy. Technology has evolved quite a bit since then. As people are keenly interested in alternate currencies, perhaps its an opportune time to give this a second look.
Now some might say that this is a completely unrealistic idea. Who’s going to issue a currency based on energy, and how are transactions going to be settled?
The infrastructure for extracting, storing and transporting energy is global, as is the infrastructure for settling its transactions. With a simple “hack” to existing commodities markets, we can create just the sort of energy backed instrument I am describing.
The hack is to denominate energy commodities and futures, not in terms of weight or volume, but in Joules, the metric unit of energy. Natural gas, for example, contains 54 million Joules of energy potential per kilogram. The conversion factors for other energy commodities are similarly well known and experimentally verified. A one gigaJoule (billion Joule) note would equate to:
- 8.1 kg of hydrogen
- 18.5 kg of natural gas or LNG
- 22.2 kg of oil or diesel
- 42 kg of coal
- 0.27 megawatt-hours of electricity
Apart from creating financial instruments that are denominated in energy, pricing energy contracts in dollars per Joule also makes it much easier to understand the cost of different types of energy relative to each other and to national currencies. It’s hard to make A to B comparisons when every commodity has its own unit of measurement (BTUs for gas, metric tons for coal, barrels for oil, kilowatt hours for electricity and so on).
A note to economic historians out there, I am looking for data about the price histories of different energy commodities going back to the 1800s. If you know of good sources, drop me a line (brian at xlatn.com).
Since this system can free-ride on existing commodities markets, it will be straightforward for someone to start offering contracts priced in terms of energy content. Some might offer commodity specific notes, for example a gigajoule note that’s backed by natural gas or by a hydroelectric facility. Others might offer notes backed by a mix of energy commodities.
As more brokers in more countries recognize these contracts, that would lay the groundwork for a financial instrument (you can think of this as a protocurrency) that’s widely recognized, easily traded and has many of the attributes of money.
Would this catch on? I have no idea, but it will be straightforward to try.
An interesting aspect of this system is it forces users to understand that an economy, its energy supply, and basic physical laws are deeply connected. The machines we’re so dependent on require energy to operate. We can print as much paper money as we want, but ultimately performance in a mechanized economy is determined by the laws of physics.
The market for energy commodities is mature, global in scope, and spans many industries. Because of this, the Joule can take advantage of the technical and financial infrastructure that has been built up over the past century.This would be just another financial instrument that’s traded in global exchanges.
An energy supply, be it an oil reserve or a hydroelectric reservoir, can drive a predictable amount of work. Machines are much more predictable than people this way. If you have a trillion Joules in the bank (about 277 megawatt-hours of electricity), you can predict pretty precisely what output that will translate to in terms of widgets produced or transported. If you want to increase production, you can either increase the energy supply, improve energy efficiency, or a combination of the two. If you have your reserves parked in paper money, what you can produce with that money depends on when you convert it to energy commodities.
What about trust? The energy commodities and infrastructure that would back this currency are measurable properties. People buying oil contracts today expect that the oil backing those contracts is really there. That’s the nice thing about physics. Auditors can verify claims, for example how much energy a hydroelectric dam is forecast to produce in a year. Markets can account for risk by discounting suspect instruments and forecasts.
So where does the knowledge learned from Bitcoin figure into this? A decentralized system for settling transactions and tracking the exchange of currency units would be useful here, especially for facilitating smaller, peer to peer transactions. The difference with energy backed currency, I like the term metabolic currency, is that it can either be passed around for non-productive transactions or redeemed at some point for the energy backing it. In a non-productive transaction, a coin is simply passed from one party to another, in exchange for a good or service that has already been made, and remains in circulation, an example of a peer to peer transaction. In a productive transaction the coin is removed from circulation, in exchange for the energy commodity backing it, an example of an exchange mediated transaction. This is another important feature of a metabolic currency, that it mirrors how energy is produced, stored, and consumed. Once a coin is redeemed for energy, it is destroyed, just as the energy commodity backing it is consumed.
Such a system won’t require the entire financial infrastructure to be re-invented. The exchanges required to settle transactions, deal with conversions between financial instruments, account for risk, are all in place around the world. The companies which facilitate transactions, especially niche operators who’d be the first movers in a system like this, are also already there. The scale of existing trade is already massive, so liquidity won’t be a problem. Nor will someone be able to crash the system by dumping their holdings, not unless they have tens of billions of dollar equivalent to throw down at once. Basically all that’s needed to start the process are a few entrepreneurs who have the right skills and connections to experiment with the idea, then watch the market sort out the winners and see how it evolves from there.
If you stop to consider that machines do virtually all of the mechanical work in a modern economy, perhaps it makes sense to develop a financial system that’s based on the currency they are paid in. Will it be a perfect system? No, none is, but I’d feel more comfortable banking on physical laws versus laws written by politicians.