The Khazzoom-Brookes Postulate: Rethinking Energy Policy Economics — SMP&CO Strategy Review
The last century could have arguably been humanity’s most productive growth period, with aggregate global economic growth seeing a 33-fold increase in global GDP from US$ 3T in 1900 to nearly US$ 101T in 2017. Accompanying this exponential rise in global economic prosperity, was the increase in total energy consumption seeing a 12-fold increase over the same time period from 12,100 TW/h to 151,500 TW/h. Technological advances and improvements in industrial processes have contributed significantly to this period of rapid growth, but against conventional intuition, there is a phenomenon that seems to contradict the basic economic idea of greater efficiency and increase technology reduces the cost and consumption of that resource — in this case, energy.
Basic economic logic would have us believe that energy consumption should go down relative to the increase in over all energy efficiency in consumption of devices — this should be a simple and intuitive relationship right? For example, battery technology has improved leaps and bounds in the last few years alone such that a Tesla Model 3 can travel nearly 250 miles after only a 30 min charge at a Tesla Supercharger Station.
In the late 80s and 90s however, economist Harry Saunders built on the work of two contemporaries of his — Daniel Khazzoom and Leonard Brookes — Saunders identified a seemingly paradoxical relationship based on their works in energy efficiency noting that —
“Energy efficiency improvements that, on the broadest considerations, are economically justified at the microlevel, lead to higher levels of energy consumption at the macrolevel.”
It then, starts to become clear when looking at the problem from both a micro and macroeconomic twin-lens. Energy efficiency makes for greater production capacity and there by lowering costs across the supply chain, but what we fail to consider is the kind of energy resources we utilise to power our progress — its one thing to consume efficiently, and another thing entirely to produce efficiently. There is a market failure hiding in plain sight that has eluded both policy makers and even economists.
Energy productivity and the productivity of other factors of production fed on one another with rising energy efficiency contributing to to rising productivity of other factors of production — labour and capital — and rising output contributing to rising energy efficiency by way of embodied technical progress.Without this interactive process we should not have had, in the meantime, the very large improvement in energy conversion efficiency- an historical example of the Khazzoom-Brookes postulate at work.” (Brookes, 1992)
The Status Quo
Consider this snapshot of the modern world — the top 3 sources of energy are, in decreasing order of share: crude oil, coal, and natural gas. Our refineries and wells aren’t actually that different from those originally struck into the earth a century ago; as a matter of fact, production efficiency hasn’t improved as much as consumption that John D. Rockefeller would still recognise a modern Baby Standard operation. The reasoning behind why production technology has lagged so much is because there has always been a seeming abundance that there was no incentive to innovate, but that is changing very fast — we are approaching peak oil, coal, and natural gas, so much so that we could see the end of economically viable crude oil well within the 21st Century.
The elephant in the room when discussing energy is climate change and the environmental impact. The economics has always driven lower costs in consumption, and relatively constant costs on production mainly because we thought our resources would last forever, but we are actually near the end of the road now.
Policy Implications
The Khazzoom-Brookes Postulate should be taken into serious consideration when preparing energy policy, since it is the lopsided focus on demand that has hurt investment and innovation on the supply side of energy. Cheap energy, and micro-level increases in energy efficiency has made everyone complacent that all things energy are better, when in fact it has made things worse. Policy makers should focus now on correcting this market failure that is generating unintended negative externalities such as increased pollution, geo-economic turmoil, and skewed economic growth in less developed economies.
An interesting solution to bridging the efficiency divide is to use one of economics’ oldest tools — the price mechanism. In order to correct this market failure, there has to be incentive to innovate in this sector, so like subsidies on oil consumption, there should be either a tax break or subsidy to producers of more efficient energy such as hydroelectric and wind power, or subsidise processes that increase the productivity of existing peak supplies such as a better refining process for oil and coal using catalytic converters for example.
In conclusion, it’s important to remember that the world is much more complex and surprisingly less intuitive than we’d like believe. The Khazzoom-Brookes Postulate, though initially controversial and hotly contested by the energy lobby and environmentalists alike, shows that improvements can and must be made in order to surpass this 21st Century Energy Bottleneck; building a more sustainable and inclusive future.
Endnotes
[1] 1 TW/h = 1,000,000,000 KW/h, which to put in perspective, is about enough energy to power 93,000 average-sized American homes for 1 year.
[2] The US$ values used are computed for using a 2011 base year.
[3] Peak (resource) — it is the maximum production level of that resource after which it would begin to decline due to depletion.
[4] This piece was first published in the UP School of Economics Free Market Publication on Sept 18, 2018. Link: http://www.upsesc.com/khazzoom-brookes_sept_18.html
References
[1] Herring, H. (1998). Does energy efficiency save energy: the implications of accepting the Khazzoom-Brookes Postulate. EERU, the Open University.
[2] Ritchi, H. and Roser, M.(2018) — “Energy Production & Changing Energy Sources”. Published online at OurWorldInData.org. Retrieved from: ‘https://ourworldindata.org/energy-production-and-changing-energy-sources' [Online Resource]
[3] Roser, M. (2018) — “Economic Growth”. Published online at OurWorldInData.org.Retrieved from: ‘https://ourworldindata.org/economic-growth' [Online Resource]
[4] Saunders, H. D. (1992). The Khazzoom-Brookes postulate and neoclassical growth. The Energy Journal, 131–148. https://www.jstor.org/stable/41322471
