Small-world macro: An ecological macroeconomics

1. Small-world macro:An ecological macroeconomics Karl Seeley Hartwick College Kostelec nad Černými lesy Česká zemědělská univerzita December 2, 2010

2. Iceland Ireland Hong Kong United Nations Human Development Report 2006, Table 21, and author’s calculations

3. http://delong.typepad.com/delongslides/2008/02/longest-run-eco.htmlhttp://delong.typepad.com/delongslides/2008/02/longest-run-eco.html

4. http://delong.typepad.com/delongslides/2008/02/how-did-we-esca.htmlhttp://delong.typepad.com/delongslides/2008/02/how-did-we-esca.html

5. Long history Energy use in the US, quadrillion btus http://www.eia.doe.gov/emeu/aer/eh/intro.html

7. Energy price paths http://www.bp.com/sectiongenericarticle.do?categoryId=9023773&contentId=7044469

8. Scorecard

9. Simple puzzle • Are we rich because we use lots of energy? • U.S. compared to India • Or do we have access to lots of energy because we’re rich • Japan compared to Russia • It seems to be both, and the model should reflect that

10. Program • Ecological take on the economy • “We’re rich because we use lots of energy” • Standard macroeconomics • “We can afford lots of energy because we’re rich” • Synthesis

11. Ecological economics • Essence of the economic process: • Extraction, processing, and disposal of resources

12. From Charles A.S. Hall, “Biophysical Economics: Definitions and Applications”

13. Ecological economics • Essence of the economic process: • Extraction, processing, and disposal of resources • Excellent on environmental issues • Mixed on price paths and long history • Not much to say about why some are rich, others poor • No consistent explanation for recessions • Policy: Be good to the Earth

14. Scorecard: ecological framework

15. Standard macro • Long run: production function • The economy’s ability to produce goods and services • Supply-side approach • Evolves over many years • Short run: consumption, investment, macro policy • How much of the economy’s ability is being used • Demand-side approach • Fluctuates around the long-run trend

16. Basic supply and demand Supply: a relationship between price and quantity people want to produce / sell Demand: a relationship between price and quantity people want to buy Price D S Equilibrium: where supply and demand meet, which tells you: 1. Price at which the market will clear P* Quantity Q* 2. Quantity that will be produced and bought

17. Basic supply and demand Price • Economic events move one or both curves • Innovation • New capital • Changes in resources • Policy • War • Tastes D S P* Quantity Q*

18. Conventional macroeconomics • Labor market determines wages and level of employment • Production function takes employment and creates output • Short-run condition fluctuates around long-run equilibrium • Demand-side factors

19. Labor market w • Technology (A) and capital (K) determine productivity • Productivity determines labor demand Nd • Demographics, social preferences determine labor supply Ns • Nd and Ns equilibrium N* Nd Ns w* N* N

20. Output Y • Output is a function of capital (K), technology (A), and labor (N) Y = F(K, A, N) • Look at output (Y) as a function of the labor input • Hold K and A fixed • Use equilibrium labor N* • Get equilibrium output Y* = Y(K, A, N*) Y* N* N

21. Standard long-run results • Per-capita growth results from increases in A and K • Ultimately it’s really technology (A) • Capital alone has decreasing returns • Capital “builds out” to the level warranted by tech • Per-capita growth has a lot to do with well-being

22. Short run r • Equilibrium Y* determines economy’s “potential” • Supply side • IS curve captures expenditure • Government • Construction of capital • Consumption • LM curve captures monetary • Fed policy • Preferences for holding wealth • Demand factors determine actual output • How far above/below Y*? IS LM r1 Y* Y1 Y

23. Long-run growth • Technology and capital push up the production function • Also shift labor demand • Population growth shifts the labor supply • Employment and wage increase • Potential output grows • (IS and LM come along) w w* N N* r Y Y* Y* Y N* N

24. Short-run fluctuations • Changes in demand (from IS or LM) • Move labor demand off of long-run trend • Change actual employment • Change actual output • (Can also go in the other direction) w w1 w* N* N1 N r Y Y1 Y* Y* Y1 Y N1 N* N

25. Standard model performance • Rich vs. poor: • Our K and A are higher, so we’re rich • If you want to be rich, invest and innovate • Long history: • Tech accelerated in 1500, 1800, 1900, because … • Energy is just another thing we buy • Like cars, shirts, iPods • We use more because we’re rich • High K and A make us productive  we can afford it • Connection to environment issues is ad hoc • Nothing in the model itself that addresses them

26. Standard model performance • Price history: • No larger vision of supply • It appears when we demand it • No rigorous connection from prices to macro events • Our recession: • Credit crisis has shifted both IS and LM left  output and employment are down

27. Standard model performance • Policy: • Short run: stimulate the economy • Long run: improve A, build more K

30. Standard model performance • Policy: • Short run: stimulate the economy • Long run: improve A, build more K • This decade’s economy was over-stimulated … … yet barely meeting potential • We’re now far below potential • But we can’t just re-stimulate • If environment truly isn’t connected to economy, long-run advice seems reasonable

31. Scorecard: standard model

32. Determining energy use • Circular problem • Productivity of labor affected by quantity of energy use • Ability to obtain energy affected by productivity of labor • Energy use per worker depends on capital and technology • Stage coach vs. train • Train uses more • Also allows a worker to accomplish much more • Building up capital and technology depends on past wealth … which is related to past energy use

33. Short-run relationship • Short-run, the economy can’t choose level of energy per worker • 200 years ago, train isn’t an option • Technology dictates low energy per worker • Today, stage coach isn’t an option • Few horses, no feeding facilities, few skilled drivers • Capital embodies a high-energy technology • Capital in turn dictates high energy per worker

34. Resources and productivity • Define resource use per worker:  = R/N

41. Resources and productivity • Define resource use per worker:  = R/N •  contributes to labor productivity growth • Preliminary estimate: • Productivity increases 2%/year exogenously • Additional change of 0.4   • Increases in energy use speed up productivity growth • Sufficiently large decreases in energy intensity can cause reduction in productivity

42. Technology redefined • Standard model: • Productivity driven by A • Technology • Capital gets built out to the extent warranted • Build enough capital to implement your level of technology • Eco-macro model: • Productivity driven by combination of A and  • “Effectiveness” and resource use per worker • Capital gets built out to the extent warranted • Build enough capital to utilize the resource needed and available

43. Eco model with two resources • Divide R into renewables—B—and exhaustibles—E • In the short run, the economy needs fixed proportions of B and E • Agrarian economy lacks knowledge and capital for accessing and employing E • Industrialization changes that • “B” is for “biological” • Some renewable resources are not tied to biology • But important ones are • And behave interestingly

44. Resource supply curves • Endowments from geology and biology • Effects of climate • Technology and investment • More capital, better technology, will increase currently available supply of timber or oil • So long as there are sufficiently accessible stands of trees or pools of oil

45. Renewables • Renewables are available forever • As long as you don’t drive the species extinct • Or kill the soil in which the trees grow • Production can be expanded • But it pretty quickly depletes the resource

46. Renewables over time Discovery/conquest of new land Clearing of forest for agriculture Fishing boats that go further from shore Soil exhaustion Depletion of fish stocks Cutting of most/all available trees PB More powerful timber harvesting equipment Bmax Bmax Bmax B

47. Our friend fossil fuel • Until it hits serious geological constraints, fossil fuel is fundamentally cheap • More concentrated than solar-based energy • Minimal processing to make it suitable for existing capital stock • Rate of flow depends primarily on investment and technology, not exogenously given by the sun

48. Exhaustibles over time PE New discoveries Construction of capacity for extraction New extraction technologies New technology and discovery not keeping up with depletion of the stock (There’s still some cheap oil) E Emax Emax Emax Emax

49. Fossil-renewable interaction • Fossil fuel frees up renewables • By replacing biomass as an energy source • Brings within reach formerly inaccessible stocks of renewables • For a while, can compensate for declining health of renewables • Increased chance of overharvest • Both a new resource, and a means of increasing supply of old resources

50. Resource mix • Capital and technology define , but also  • Share of resources that come from exhaustible sources • Stage coach:   0 • Some steel, but mostly wood • Energy source is oats (sun) • Train:   1 • Mostly metal • Energy source is coal or petroleum