Calculation of elasticity in standard models
The cost share of energy in GDP has varied between 5 and 10% since the oil shock in most OECD countries. It could be concluded that the elasticity of the production of an industrialized economy to energy is low. It is true that on balance, this elasticity should be equal to the energy cost share. It is then tempting to conclude that an alteration in energy consumption would lead to a modest change in the GDP of an industrialized country. Thus, we could confidently envisage the possibility of limiting our physical supply of oil. It is this reasoning that allows certain economists to claim that energy is a marginal subject, or even a non-subject.
Why do standard models not reflect the real energy dependence of our economies?
Their reassuring argument is based on two unrealistic assumptions.
On the one hand, these models assume that the price of energy accurately reflects actual supply and demand. Yet the price of a fuel as crucial as oil is not set by “the law of supply and demand”, but by a mechanism that is similar to that of the setting of LIBOR money market rates – which we know today can easily be manipulated.
On the other hand, standard models assume that the hydrocarbon industry is not subject to any constraints in terms of extraction. Conversely, when there are additional constraints, the equation that links the elasticity of GDP to energy with the energy cost/GDP ratio is distorted by shadow prices. The latter reflect the power of external constraints and distort the cost share downwards compared to elasticity. Yet there are many such constraints, whether geological or geopolitical. However, most economists continue to assume that energy elasticity is equal to its cost share, i.e. very low. This is due to the fact that many economists prefer to look at monetary prices and quantities rather than physical quantities.
It is therefore clear that it is time to reexamine the energy dependence of industrialized economies.
The real dependence of GDP on fossil fuels
Econometric studies of primary energy consumption patterns in volume (and no longer by price) show, in a robust manner, an elasticity of between 0.4 and 0.7 depending on the OECD countries and periods, and an average in the region of 0.6. This is therefore much higher than the 0.08 often used in the calibrations of macroeconomic models. This dependence, which remained invisible for many years, could well be one of the keys to understanding the sluggish growth in industrialized countries for the past three decades. Because, despite the oil counter-shock, after the 1980s, neither the North Atlantic basin, nor Japan returned to the level of growth in per capita fossil fuel consumption that prevailed prior to the first two oil shocks. And what if the “technical progress” much vaunted as an engine of growth masked, to a large extent, the increase (which has become impossible today) in per capita consumption of fossil fuels?
Need for energy transition
This would mean that with no transition aiming to free our economies from their carbon dependence, in a context whereby the peak in conventional oil has already been exceeded since 2006, we could simply no longer recover any form of sustainable growth.
It is up to politics, today, to draw from this the determination required to initiate this major societal project of energy transition. We know the projects: thermal renovation of buildings; eco-mobility; “greening” of our industrial and agricultural techniques. Financing solutions do exist and have been proposed by the National Committee for the Debate on the Energy Transition. What are we waiting for?