With one word economics lurched into fantasy
from Steve Keen and RWER issue 106
Human society is energy blind. Like a fish in water, it takes for granted the existence of that without which it could not survive.
As with so many of humanity’s problems, this conceptual failure can be traced back to an economist. However, the guilty party is not one of “the usual suspects”—Neoclassical economists—but the person virtually all economists describe as “the Father of Economics”, Adam Smith.
Smith led economics astray on the vital issue of energy in the very first sentence of The Wealth of Nations, when he stated that:
THE annual labour of every nation is the fund which originally supplies it with all the necessaries and conveniences of life which it annually consumes… (Smith 1776, p. 10. Emphasis added)
I emphasize “labour” in that sentence because, apart from that word, it is virtually identical to the opening sentence of Richard Cantillon’s Essay on Economic Theory, which was published two decades before The Wealth of Nations:
Land is the source or matter from which all wealth is drawn; man’s labor provides the form for its production, and wealth in itself is nothing but the food, conveniences, and pleasures of life. (Cantillon 1755, p. 21. Emphasis added)
With that one word altered, economics took a terrible lurch away from realism and into fantasy. Cantillon’s insight was that what existed before Man and outside human society—let alone outside “the economy”—was the source of the material wealth we generate within the economy. Smith’s substitution saw an action within the economy itself—the work of the labourer—as the source of value, and the division of labour over time as the source of its growth.
Cantillon’s perspective, that wealth originated outside the economy—though the form wealth took was shaped within it—was correct, according to the incontrovertible Laws of Thermodynamics (Ulgiati and Bianciardi 2004; Eddington 1928, p. 37). Smith’s perspective was wrong, because he contemplated that the closed system of the economy could produce more outputs than inputs over time. This wasn’t known to be false until a century after The Wealth of Nations, when the Laws of Thermodynamics were developed, so Smith cannot be criticised for that mistake. But economists today should not persist with models of production that violate the Laws of Thermodynamics.
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Real-World Economics Review Blog 
Dear Steve,
You are absolutely right. Economics are not compatible with physical laws.
I carefully disagree in the way to work out this conflict.
The right way to combine economic theories with physical laws is to embed them into physical reality. No other way possible, in my mind.
And the right way to do so I described in many presentations during last ten years. (Check reseachGate).
Any process of every system (in an economic system, on our planet earth, in our universe) is only moving/changing with some energy involved.
–> for any production or any delivery of service, energy is the 100% determinating final source of everything. Without energy absolute zero production or zero delivery of service possible.
–> GDP summarizes the sum of a number of production process results monetary value or/and a number of delivery of service process results monetary value.
—> any GDP “sub-part” must have an energy value above zero.
—-> the sum of all Sub-parts of any given GDP must have a total sum of energy value necessary to put it into reality (= produce any product, delver any service).
—–> the monetary unit total accounting is nowhere definined and is a relative unit, the only link to physical reality is the basket of common used goods in the inflation rate basket, which is to be changed manyfold.
—–> the energy unit total accounting is stable over time, not relative, and gives an absolute measurement value.
Recalculate the total number of any kind of energy (human labor and external energy used for all production processes, all delivery of services) … and you get the real world dimension of any kind of any economic system. In any time and any place in our universe.
And do not think that economic efficiency is calculated right in monetary terms. That is far wrong. I calculated (very broadly), that the energetic efficiency – as an example – of 10.000 workers in a coal mine in UK around 1900 is nearly as good as the very same coal output with scaping machinery. My (estimated) calculation results in roughly 460 kg coal per kWh invested, both for coal miners (feed by food) as for diesel powered machinery.
The only difference is the relative price for human labour and for fossil labour (diesel).
Energyasnumeraire is correct so far as I can tell about the importance of energy. There are two problems with his idea to use it as a numeraire, one conceptual, the other practical.
Energy is essentially an input, though a critical one, in producing the goods and services people want. It can be deployed with varying degrees of efficiency. A motor car, typically uses no more than half the energy consumed to propel itself. Fully half is used to produce noise and heat, both forms of pollution. If a car engine is developed that uses 2/3 of the energy for propulsion, general welfare would be improved for the same energy consumption. If energy were the economic numeraire it would not be possible to credit improvements in energy use. It would not measure useful output. Energy cannot serve as a measure of absolute value unless it’s relationship to human welfare is always one-to-one. Although the two are highly correlated they are not the same.
Even if we could resolve that problem it is not obvious how to make his scheme practical. Businesses keep monetary accounts and are used to making returns to the statistical authority on those. Only specialised businesses record their purchased energy consumption in physical units. And no-one records labour input in joules or the labourer’s energy consmption in calories. An entirely different system to existing national accounts would be required with different and comprehensive reporting requirements.
Embedding production theory in physical laws is necessary to encompass both use of finite resources and (more urgently) production of pollutants, especially those that threaten the ecosphere. In encompassing entities that are not necessarily traded for profit our measures of economic activity must be developed to focus on welfare more generally not just traded goods and services. A less polluted world with a stable climate is obviously better and more conducive to human welfare, and our GDP replacement would register that. Distasteful as some people find it, the most likely numeraire will continue to be money, acting simply as an arbitrary unit of account. Absolute value will remain a chimera
Gholtham, thanks for the questions.
The first problem, You describe:
“Energy is essentially an input, though a critical one, in producing the goods and services people want. It can be deployed with varying degrees of efficiency.”
Well, I would answer: Yes, that is true. But I would say: Lets just count the yearly real invested total energy consumption for the sum of production and service processes. (Household energy use must be separated and is not part of the GDP producing processes)That existing inefficiencies … is an open optimizing problem in each company doing something.
Low energetic efficiency is a chance of more efficient competitors to jump into a niche of the economy … or a chance of earning more output by same input … but any capital goods (machinery and so on) requires itself a lot of long engineering processes, of industrial evolution processes and ideas build into steel and iron energy converting machinery to do the jobs …
Energy cannot serve as a measure of absolute value unless it’s relationship to human welfare is always one-to-one. Although the two are highly correlated they are not the same.
Even if we could resolve that problem it is not obvious how to make his scheme practical. Businesses keep monetary accounts and are used to making returns to the statistical authority on those.
The second problem:
“Energy cannot serve as a measure of absolute value unless it’s relationship to human welfare is always one-to-one. Although the two are highly correlated they are not the same. Even if we could resolve that problem it is not obvious how to make his scheme practical. Businesses keep monetary accounts and are used to making returns to the statistical authority on those.”
Of course, the monetary accounting is still necessary. The only thing which is no longer necessary is the basket of goods for the “measuring” of the inflation rate. My energy meter is – at first hand – only good for measuring the total size of the yearly sum of GDP. That is the only possible measument in the only possible stable real world dimension, that each economic system have.
For this dimension, one can easily compare the total amount of (relative) monetary units used to exchange all the produced goods, all delvered services.
For better understanding:
For that year, the energy number is equivalent to a given number of energy slaves. Billion of slaves. (each 126 kWh for one year working). The power of the average slave is not changing. Efficiency is only touching the number of pyramids You get out of the invested energy slaves …. THAT is the relative side of the real world.
Think of energy as of a number of slaves. If You have more, You can get more pyramids in egypt. Or any other product You like (or Your customers possibly like).
I know it is difficult to switch away from monetary accounting. But monetary accounting is and ever will be of relative units, unstable and undefined in real world.
Science does not deal in absolute truths or certainties but in finding the best explanations for observable phenomena. Adam Smith was writing before the invention of the internal combustion engine and before the plains of North America and Argentina had been put to settled agriculture. Human population had not begun its post-industrial expansion. The world seemed big enough to provide inexhaustible resources and human pollution was insignificant in the biosphere. It took 200 years for that to change importantly. It was therefore excusable for Smith to treat the economy as embedded in a system which influenced it through things like weather but which was not affected by it – no large-scale feedbacks from human activity. That position is no longer defensible but each age and science addresses the issues that are current.
It isn’t obvious that Cantillon addresses our current concerns any more than Smith. He emphasised our dependence on natural resources but he didn’t address the issue that nature does not provide an infinite sink for our mess. He did not have the concept of entropy that began to be developed only in the 1850s. Just because the classical economists had limited models appropriate to their time that does not explain contemporary economists ignoring critical elements of reality nor excuse them for doing so.
EAN says “My energy meter is – at first hand – only good for measuring the total size of the yearly sum of GDP. That is the only possible measument in the only possible stable real world dimension, that each economic system have.”
It is perfectly reasonable to measure each economy’s energy consumption. But what does it tell you? It tells you how much energy it has consumed. But we have other questions: what material standard of living has each economy achieved (that basket of goods and services)? If Belgium consumes x times the energy per head as Bulgaria but has 1.5x times the quantity of goods and services, as measured by prices they both accept, there is a monetary comparison telling you something energy statistics cannot. Efficiency in energy use is too variable for it to serve as a numeraire for general prosperity.
There is no physical measure, indeed no absolute measure of economic prosperity. You are chasing a mirage. Economists are often accused of ignoring entropy and physical science. Often, though not always guilty, M’lud. You are making the opposite mistake of thinking the objects of social science can always be reduced to physical units.
Steve Keen is one of my heroes with his book Debunking Economics. I am not happy to post this comment, but it seems to be the work someone has to do. It is also a pity that there left many “Error! Reference source not found” (more than a dozen) probably as a result of little editorial work. I may have mistaken what Keen really wanted to say by this editorial flaws.
Keen’s short paper shows the strength and weakness of Keen’s economics. The strength is apparent. He is alway clearcut in every statement. The weakness is the inability to distinguish small but important differences. In my opinion, Keen’s proposal of introducing energy as a new argument of production function was a failure. He is still trapped by neoclassical custom of thinking. I will explain why he is. This is an internal discussion among Post Keynesians (or post-Keynesians, PK hereafter) which is necessary in order to make PK economics that really surpasses mainstream economics.
I want to raise three points, from the very minor misunderstanding or carelessness to a bit important flaw which may have taken place because of one-sector models that underlie in most of PK models.
(A) Third factor of resourcesKeen teaches us an interesting episode. Cobb and Douglas in his seminal 1928 paper noted that “we should ultimately look forward toward the third factor of natural resources in our equations and of seeing to what degree this modifies our conclusions.” Keen added after this citation that “[t]hat was never done.” (p.65)
This is not exact, at least for neoclassical economists, and it is possible that they consider that Keen does not know the later development of the growth theory. This may disgrace Keen’s argument. New growth theory or endogenous growth theory that Paul Romer and Robert Lucas developed in 1980’s, is conceived as an alternative to old or classical growth theory of Solow and others, and as such a great step forward. Romer was given a Nobel Prize in economics sciences in 2018 (Lucas was given it much earlier in 1995 for his rational expectation theory). The basic tool of new growth theory is just the model that contains “human capital” as the third arguments of production functions (including Cobb-Douglas function as a special case). It is sure that Keen omitted this case, because human capital is not “natural resources.” But, if he exclude human capital with this reason, we should ask whether labor and capital are really natural resources. It was preferable that Keen mentions a word about this.
A supplementary note: Romer is well-known, in this Real-World Economics Review Blog, for his 2015 paper “Mathiness in the theory of Economic Growth”, but we should not forget that Romer and Lucas are guys in the same neoclassical theory of economic growth.
(B) Cobb-Douglas production functionKeen argues the fitness of Cobb-Douglas Production Function (CDPF). It seems that he is forgetting that, in case of CDPF, the too good fitness was problematic. Anwar Shaikh in his 1974 paper (cited in note 8 and the References) pointed that, the good fit is a kind of fake because any time series of variables of which the labor share stays near a fixed point satisfies the CDPF. Herbert A. Simon, at the time when he was given Nobel Prize in 1978, presented a paper in The Scandinavia Journal of Economics (1979) and pointed out that Cobb-Douglas function can be reflecting accounting identity. A good fit can be a sign of theoretical problems.
To obtain a good fitness, the regression equation must be put, not as (1) in the article, but in the form P(t) = e^(a t) L(t)^b C(t)^(1-b),as Solow did in fact in his paper (The apparent form is very different). This signifies that a constant technological progress is assumed. It is true that the CDPF and all neoclassical growth theory may not have proliferated as it did, if Solow did not give the interpretation that the residual expresses technical (or technological) change. This is the question of next point (C).
The problem of Keen’s arguments is that it gives an impression that production function has no problem if it fits well with the data (although, in note 8, Keen points by citing Shaikh and Felipe and McCombie that the CDPF “is simply a non-linear mapping from income identity that Wages plus Profits equals Income”.) As Felipe and McCombie (2014) emphasize, even the aggregate production function has a good fit, it cannot be supported because of its logical difficulties to interpret the relations as aggregated relations of individual productions. The true problem of aggregate production function lies not in the point that it does not fit well with the data (in reality it fits rather too well with the data), but in the conceptual difficulties as theoretical entity that contradicts economic reality about how productions are coordinated. This misunderstanding (it seems me so) must come from his usual theory formulation that treats only aggregate variables.
(C) Defense of Leontief production function?The part from Heading “The Power(lessness) of Energy?” (p.68) on is a critical examination of Backman et al. (2022). Against their treatment of energy as a factor of production, Keen seems to defend what he names Leontief Production Function (LPF), citing an aphorism of Keen et al. (2019). I am perplexed by the fact that he proposes a new formulation (LPF) but there is no excuse for adopting the new definition. The situation that Backman et al. (2022) consider is the case of a stop of energy import. Keen’s defense of his LPF is quite rude. He only shows Figure 7 with the title “Capital to Output Ratios are reasonably constant over time” which plots the data from 1951 to 2019. The plotted graphs moves between around 3 to 5 and Keen deems them a “constant” and claims that a Leontief Production FunctionY = K / νobtains or is justified.
It seems to me that confusion in the arguments of CDPF is repeated here. Keen does not distinguish two different mechanism: (1) input substitution and (2) technological change. Looking at Figure 7, one cannot see what is happening. But, if we see Figure 1 Energy vs GDP (p.69), it is clear that there was rather constant improvement in energy consumption. This is clearly a technological change. This fact may give us a big hint for consider climate change problems. What Backman et al. (2022) and Keen want to do is to use this data in order to know what will happen when import of Russian gas is stopped. This is the case of input substitution. Keen may criticize Backman and others with this (unintentional) conflation, but he does not. Instead, he oppose his LPF against Constant Elasticity Production Functions.
All the confusion comes from the conflating input substitution and technological change. A situation like an import energy stop is the good chance to reconsider the perversity of the concept of production function. All disarray comes from it but Keen likes to think with production functions.
See how a production function is written. It takes a form such as O = f(x, y, z).where O is the output and x, y, and z are inputs. This functional form implies that whatever the combination of x, y, and z, a certain amount of output is given. Please reflect calmly what this means. This is a world of stone age bricoleurs. They make anything from whatever they found around them. Modern factories are no such bricoleurs. At first, the output is determined. When you make a lathe for example, you must collect various parts and components together with tool machines. It is the specificity of the output that determines the set of inputs. Let a = (a_1, a_2, … , a_N) be a set of inputs that are necessary to make a unit of a lathe. A production of a lathe can be written by a schema a_0, a_1, a_2, … , a_N -> a lathewhere a_0 expresses the amount of work necessary to the production.
Production for an economy as a whole can be written by using vectors and matrices. I left the details for readers.
Important thing in any production is that it takes a certain span of time and output must be decided before input are collected and put into the production. Consequently, a production comprises a kind of contradiction in time. Time order of decisions and operations (such as input and output) are in the reverse order. I named it retrograding. This is the reason why coordination of productions becomes extremely complicated in comparison to prograding case like cost and price determination case (See §4.3 Shiozawa 2023).
Production function neglected this retrograding property of production and framed up a strange world of bricolage. For simple minded economists, production function type characterization of a production make many things simple. When the energy import was disrupted, you can simply reduce the arguments of the function. In reality, such a coordination does not proceed automatically. There must be many people who coordinate the allocation of the reduced energy supply. How can we imagine that there is one definite outcome that produces the output as a function of f. That all story is but an enormous misconception.
In a normal state, firms in a modern economy try to satisfy as far as possible the demand of the customers. It is also a complicated network but there is a convention that make possible to react to the slow change of the final demand (See Chapters 3 and 4 of Shiozawa, Morioka and Taniguchi 2019. This part is written by Morioka). In the peculiar case such as the interruption of energy import, there are no such conventions and the outcome is determined largely by a chance. When the import of some important item is stopped, it is natural to try to know the possible outcome but we should also know that the outcome is not definitely determined beforehand. A rough guess work may be possible but it is not really a scientific work.
Try to incorporate role of energy somewhere among production is laudable. By Keen’s brave attempt, we could have a chance to discuss these possibilities. It would be more important to know why Keen’s attempt failed. Probably the reason for this failure underlies in what he names Post Keynesian economics. In his conception, it is composed of various relations of aggregated variables. We should consider that there are traps in this way of thinking.
Hein (2017) rightly pointed out, following Lavoie, the production and growth must occupy the economic core of all heterodox economics. A similar opinion was expressed by James Galbraith (2023), on which I added a comment on my book review of Komlos (2023). Keynes talked about constructing a monetary theory of production, but he could only show a rough idea about monetary theory and failed to make a true monetary theory of production. This is a great lacuna in PK economics and this state still continues until today. Keen’s case unintentionally showed us that PK economics still have many parts that are simply a parable. In order to make it a true science, we should be more detached from intuitive arguments and try to investigate true mechanisms in deeper layers of our theory.
References:
Backman, R., Baqaee, D., Bayer, C., Kuhn, M., Löschel, A., Moll, B., Peichl, A., Pittel, K., and Schularick, M. (2022) What if? The macroeconomic and distributional effects for Germany of a stop of energy imports from Russia. Ifo Schneidelldienst 75.
Galbraith, J. (2023) An economic theory compatible with life processes and physical laws. Real-World Economics Review 106: 13-18.
Hein, E. (2017) Post-Keynesian macroeconomics since the mid 1990s: main developments. European Journal of Economics and Economic Policies: Intervention 14(2): 131–172.
Keen, S., Ayres, R.U., and Standish, R. (2019) A Note on the Role of Energy in Production. Ecological Economics 157: 40-46.
Shiozawa, Y. (2023) Some supplementary explanations on Microfoundations. Evolutionary and Institutional Economics Review 20(2): 329-365.
Shiozawa, Y., Morioka, M., and Taniguchi, K. (2019) Microfoundations of Evolutionary Economics. Springer Japan.
When Human Capital is included in the Production Function formula, it surely is no different than the Labor which normally is always necessarily there. Physical and mental labor both have the same use because as production became more specialized, the skills and good knowledge that were developed as improved techniques can be properly seen simply as the human capital being introduced in greater amounts. The fact that good knowledge can be withheld and patented for monopolistic application, applies only for a limited time before the patent expires, so its capital aspect is temporary, especially since entrepreneurs seek ways of legally avoiding the exact methods being withheld, whilst achieving similar results.
The inclusion of Human Capital as a kind of natural resource should not be taken because the return on natural resources, (particularly the land) gives rise to wages and not ground-rent! As suggested above this knowledge can be taken as capital for a limited period of time only. The 3 returns for the use of these Smithian factors, namely ground-rent, wages and interest, should still be derivable algebraically from use of the formula as previously done.
I cannot understand why the 3 Smithian factors cannot be fitted properly into this C-D production function. I believe that when this unfortunate approach was taken with the natural resource of Land being wrongly assumed to be a part of capital wealth, (after John Bates Clark modification which eliminated these resources as a true factor), that our confusion over how goods are produced began.
I have forgotten to put in the References the most important book for the argument (B).
Felipe, J., and J. S.L. McCombie (2013) The Aggregate Production Function and the Measurement of Technological Change / ‘Not Even Wrong’. Edward Elgar.
From the Abstract for an introductory paper 2014 in Review of Political Economy 26(1)
The foundations of the aggregate production function were long ago thrown into doubt by problems of aggregation and the Cambridge capital theory controversies. Yet the aggregate production function, whether in the familiar form of the Cobb-Douglas, the CES, or the translog, continues to be widely used in both theoretical and applied analysis. The reason for its continued use rests on the instrumental position that ‘it works’. The aggregate production function sometimes yields good statistical fits with plausible estimates of the coefficients. However, for some time, it has been realised that the existence of an underlying accounting identity can explain the regression results, even if the aggregate production function does not exist. This argument has been widely ignored. This paper, drawing on a rhetorical approach, assesses why this is the case. It shows that the few criticisms that have been made of the critique involve fundamental misunderstandings that represent a failure of the economic method.
I daresay Yoshi’s comment will frustrate energyasnumeraire because it discusses disputes among economists, which do not highlight the point he wants to make. Yoshi’s point that there is no theoretical or evidential basis for supposing economies have a stable aggregate “production function” is correct. In a disaggregated Leontief system all inputs are equally essential; you cannot substitute one for another except by altering the composition of output. But the physicists want to insist on a different point: that energy has a different status from other factors of production because energy is an input into all of them. Labour can provide work but needs to be fuelled by food. Machines are produced using various forms of energy so represent embodied energy. Fuel used in production is itself a source of energy. Howsoever conventional factors of production are shuffled, the system is using a certain amount of energy. There will be an energy balance for any process that turns inputs into outputs plus waste.
Economics has tended to ignore that fact because it is concerned with the production of market value the sum total of goods and services for which people are prepared to pay either individually or collectively. It had not focused on gross output. Economic identities posited a value balance (usually accounted in monetary terms) which was treated as independent of the energy balance or the law of conservation of matter. Raw materials are only worth what it costs to extract them and output is only worth what it fetches in the market or when bought by government. Waste products, heat, noise, pollution are ignored. They are only a cost if someone pays to clean them up! This makes conventional economic production theory peculiarly unsuited to examining issues of environmental sustainability.
That is true but we should not slip from there to thinking that if we only look at production as a physical process with an energy balance we can address other economic problems. The energy requirements of a given physical process are fixed but human needs or wants can be met by a variety of physical processes and therefore the energy content of a given level of welfare or GDP is not fixed. Moreover technical progress can economise on energy over time: a video meeting uses less joules than a lot of international flights to a physical meeting, for example, yet it was not possible just thirty years ago. A synthesis of different forms of analysis is required if we are to address all the important questions.
Well, ghh is right, but my frustration is well balanced … I see this since years.
A presentation of my theory: https://www.researchgate.net/publication/362155498_Exergy_is_the_Economy
Your explanation is very good:
“But the physicists want to insist on a different point: that energy has a different status from other factors of production because energy is an input into all of them.”
Energy – or more precise exergy – has not only a different status between all other production factors. It IS the real world characteristic of all (!) other production factors.
To prove me wrong with this, … give me one part of any economc gross demand product sub part … which has or contains NO determining input of exergy necessary to produce or to deliver.
Just one part.
The trick is: Thermodynamics guarantees that there is none.
Energy/Exergy has not only a different status. … It is, what any economic system constantly needs as the physical input to run the economic cylce.
Any discussion of the basics of economic theories, which is done/held in monetary units, is – in my opinion – worthless.
Money is a relative dimension without any real world dimension reference – for now.
The total exergy of any system is determining the size of exactly those systems.
Economic systems are as well only thermodynamic systems. Money is nice to make exchange processes inside of those systems easier … but to measure a system in real world dimensions, you need (!) a physical unit.
And the only possible is exergy … used to produce all kind of goods, capital goods, deliver any kind of service. Thermodynamics very clearly prove: No excuse, no escape of this rule. I really think: Physics overrules any economic relative theories and relative units.
We have taken the point that economic activity is entirely constrained by the second law of thermodynamics and do not wish to dispute the crucial role of energy in economic activity. We also acknowledge that determining the environmental sustainability of economic activity means measuring its physical footprint in physical units.
We are only resisting EAN’s reductionism that wants to dismiss relative value measures because they are not physical units and thinks everything to be said about an economy can be expressed in physical units. To see that is nonsense, take a trivial example. Two suits cut from the same cloth, the whole process using identical inputs of energy; one is designed by Yves St Laurent and cut expertly, the other is badly cut by a poor designer. The first sells for a multiple of the second. It makes a bigger contribution to GDP which is measuring the economic value generated. A Bordeaux premier cru wine sells for a multiple of plonk that might have identical energy content. Money will tell you the difference; an energy balance would not. Energy is all-important for some questions. Beside the point for others.
A very good example from ghh. “Two suits cut from the same cloth, the whole process using identical inputs of energy; one is designed by Yves St Laurent and cut expertly, the other is badly cut by a poor designer. The first sells for a multiple of the second. It makes a bigger contribution to GDP which is measuring the economic value generated.”
If the total exergy (human power and machinery power) is exactly the same (for making the fabric, etc) … of course, it feeeels completely wrong what I said.
The question remains: Is it really wrong? Even with the wine …
I really know that it is hard to change the point of view from “the sun is going around the earth” to the other perspective. For the Ptolemaios world model it took 1200 years to overcome it …
I did not state, that one part of the GDP is to be measured in exergy terms to see or to measure its money value. That is nonsense. Money is not a given characteristic of anything, so there can be no direct link to any value in the exchange of goods my humans inside of the GDP-set.
But: The value of ONE good must be above zero – and below 1. (or even to 1, if only one good is contained in the GDP). (if monetary value is zero, because it is not sold at all, it is worthless for GDP, it is a hobby or bad invested exergy. poor company.)
A fancy dress is – maybe – more attractive than a ugly one. But who cares? It is the competition between the two different dress makers, which deals it out. Maybe the ugly style wins, maybe the design style wins.
The competition between companies drives the total economy to its more efficient way of producing, what in that economy is of huge interest. May it be a pyramid or a black dress …
If You (and any other customer) like more the nice dress … well, I think, that is, what we will see worn by any customer.
The total GDP is – in a given year – to be measured twice:
First: Total exergy consumed to produce all GDP-goods, all capital goods, all services. Second: Total money spend/earned/exchanged …
If You compare both, You have the inflation rate basket of all part of that given GDP.
But very clearly: There is NO direct link of ONE part of the GDP to the monetary exchange value of that given one part. Only: Above zero, below 1. That is for sure.
I am not arguing for a labor theory of work … that was an childish nice idea.
I wonder if energyasnumeraire (EAN) had a systematic understanding how an economy is coordinated. It seems to me that he was thinking it to be a simple entity that he can understand by a simple new concept.
A modern economy is a complex system that nobody can see the whole picture. In the case of Japanese economy, there are more than hundred million people, millions of firms, and millions of goods and services. A product is made using hundreds to thousands of different inputs. The whole economy is a huge and dense network of these inputs-outputs relations.
Prices used in determining the exchange transactions between people and firms are determined in principle with the consent of two trading parties. You have no authority to dictate the prices, the quantities to be exchanged, the quantities to be produced and the quantities to be consumed.
Reading EAN’s comments remind me of those socialist planners who imagined that they can mange to run the economy by instructions of the central planning agency. It is almost certain that you will fail. But you should know it before you try, because it is a trial as disastrous as Soviet-type economy and the political system combined with it. Human being is still suffering from the legacy of old communist regime. Putin’s regime did not emerged by chance.
It is free that EAN imagines various things and extends his (or her) fantasy but I believe he should learn history before he pretends he has a good solution that solves everything.
Ok, I understand that my point is not easy to understand for economists, used to use the economic theories working tools as available of today.
I carefully read my comments, but I did not find a comment, where I state or indicate, that there is a new tool to steer or to run an economic system, an economy.
What I try to say is, that of the three functions of money in current economic theories, only one function could be granted as “100% right”, it is the function on money as the medium of exchange.
The function of money to store value is … incomplete. That is not the major important point from my side, but when I passed by the economic theories, I feel, that a second condition must be coming from external condition as well.
My definition for that money function would be: “money can be used as a storage of value – under the condition, and only for the time beeing that the surrounding characteristic of that economic system is STABLE.
Without that, money could lose its function as a storage of value, when something changes the economic system. (war, catastrophy, pandemics, whatever…)
My major and most important point of criticism of todays economic theories is the function of money as a meter.
My simple statement is, that it is a relative meter, without a defined given characteristic of the subject to be measured.
To measure economic systems with a new stable unit does not at all mean to steer any decision inside the given economy is to be replaced by something else (which I neither described nor stated).
To measure the economy with a stable physical unit will just give a measurement result. A stable one, in a physical dimension, stable over any time, available anywhere in our universe,
That is different to the current GDP, which is a summarized relative pile of given prices without any physical link to real world.
I think, in most of economic lessons at the beginning, there will come the comment, that any price could be exchanged with a given percentage of the GDP at the end of the year.
The GDP value at the end of the year is the sum of all these percentages, always piling up to 100% of that given year.
Or in other words:
If endless growth is not possible.
Why is there no economist arguing, where the border line of growth in GDP units is?
If we have a GDP of one billion today – where is the border? Where is the limit?
I very much think that no economist with todays economic toolboxes of whatever formula will give a clear answer.
And why not? Because nobody can give that answer, because … money is relative.
Money as a unit to measure something … is like a rubber band as a meter.
And I did not talk about a relative meter usage inside of an economic system. Inside of the given system, with a given stability of conditions, money can perfectly work as the medium of exchange, of comparing relative values, of store values somewhere … that is out of my scope.
The continuous consumption Exergy is the base of absolutely every production process, absolutely every delivery of any kind of service, absolutely every every every part of every economic system.
And “efficiency” … that is completely ignorable, it does not at all effect the dimension of the economy.
Any economy is a thermodynamic open system. Open thermodynamic system means, that a throughut of energy is necessary, otherwise the system stalls.
The amount of exergy consumed to produce whatever kind of product is the scaling, determining physical dimension of each of any thinkable economic system.
The amont of matter, that is “put through” that economic system, is an indication for the economic system sustainability.
The more matter is put through, the more waste it produces. The less matter is necessary to put into the economic system each year, the better it is in sustainable thinking.
The best (theoretical) economic system would be a huge starship, that only needs some energy to run the inside economic system, … and does not need any fresh new matter, and does not throw away any old used matter (waste).
We all know, that endless growth is impossible.
Dear Yoshinori, to prove me wrong:
What is the real world limit of our economic system in our world in Euro? In Dollar? In Yen?
Where are we today? Are we close to the border by 10%? Or by 99%?
Regarding the energy needed for production, we know that not every kind of product requires the use of the same quantity of energy per unit (money) value of its output. So this energy measure is not a suitable means for evaluating and comparing when the rest of the macroeconomy is based on money evaluations. It would seem that energy considerations are not useful for this purpose. Are we to suppose that the employment of human physical labour is to be taken as an energy-using kind of machine, for which calorific food is a necessary input? Does the relatively high production of heat and combustion needed for making steel or for cement (as examples), become more significant than that needed for the farming of cereals? Do the solar contributions (summer temperatures and stronger light) need to be included to this account too?
With regard to yoshi’s recommendation of the Aggregate Production-Function Measurement book, in the “read sample”, only dual production factors are taken, whereas the Adam Smithian approach to production includes the land (and other natural resources) as a third factor. Surely this should also be taken into account, to modify the Cobb-Douglas formula. This is because over the time period being considered the dynamics of change of land values are not necessarily the same as how durable capital goods behave in their changing values. In that book, the sole place where the capital is split into two parts, has the same index applied to both, which means that were one kind of capital being taken as being the land values, it would not have an different independent effect on the production process.
It does not surprise me that the book deals with what it calls the “capital problem” which is not properly resolved, but which should be related to how all natural resources participate differently to how durable capital (man-made) goods do.
David writes: “Regarding the energy needed for production, we know that not every kind of product requires the use of the same quantity of energy per unit (money) value of its output. So this energy measure is not a suitable means for evaluating and comparing when the rest of the macroeconomy is based on money evaluations. It would seem that energy considerations are not useful for this purpose.”
Well, I did not state that there is a given link of the exergy necessary to produce one of all parts of an economic systems yearly total basket (GDP) to its monetary value – except the fact, that it must be above zero (otherwise it’s not part of GDP and some kind of misinvestment or hobby in its production phase) and lower or equal 1. (equal one if total GDP is only one product alone).
The rest is open to the market, all relative prices moves up and down, by decisions done by the total mass of sellers and buyers in each single exchange process.
This is valid outside of any scope of what kind of products is produced in a given economy.
As a bit strange example:
If we travel one day to MARS – and we find a (for now) hidden sort of humanlike subjects, ALIENS … doing some kind of production of something. (please feel free to think of a product of whatever kind of shape) … and they use shiny silver buttons of mars dust as a medium of exchange …
And then YOU start to believe that there could be a market for (whatever kind of product from mars) on earth …
How would YOU start to calculate the exchange rate of one Dollar to one shiny silver button of mars dust?
I would start to measure the total exergy consumption of that economic system … divided through the number of inhabitants … do the same with one dollar … and then compare the total outcome of the mars economic system with the earth economic system by the exergy invested per person in two different economic systems.
It is absolutely of no interest, what kind of product there is produced on mars – if that product shall be exchange with earth …
… or maybe You start searching for a Big Mac Shop … to feed the Big Mac Index?
What is that? A Big Mac is a physical comparison reference for the relative, weak, physically unbound and undefined monetary unit.
That is a small hint, bound to a lappy toast with some beef …
What I say is much broader. There is a given true real world characteristic in EVERY part of every economy.
My intention is just to embed any existing economic theory into the physical reality. I name it PEECO, physical embedded economics.
It is frustrating not to reach agreement here because there is very little real dispute. There ia a confusion of terms, however. GDP in money terms divided by GDP in energy units deployed does not measure inflation. In a modern locomotive I can travel at 120 miles an hour for the same or less energy use than a steam engine would have used to convey me at 60 miles an hour. That is not inflation. That’s progress. More “output” and convenience for the same energy. Inflation is when your numeraire gets you less of the basket of goods. If we adopt energy as a numeraire we will observe more goods for a given energy input, not less. That’s deflation of the numeraire!
We agree that determining sustainability requires measuring economic activity in physical units. No need to keep beating that drum. The point is accepted. It is for the physicists to say what level of energy consumption and carbon emission is compatible with sustainability. That’s climate science, not economics. Why can’t we tell you what the equivalent number is for GDP? Because the solution is not unique. There will be many different patterns of economic activity and many possible GDPs compatible with the physical constraint. Economics has to worry about which is the best one and how to get there. We don’t dispute there is a carbon budget – and one for other pollutants too. Determining the best way to use it depends on what people want. The analysis requires value measures. Yes, they are relative – so is time according to Einstein. Both are real, all the same.
I don’t think there is any real disagreement here. There is a big problem of co-ordination and it will be hard to iterate to a solution. Physical scientists have to specify physical limits and then we have to see what that entails for different patterns of economic activity and devise policies to get to the one that gives the best material living standards that is compatible with the physical limits. The main problem is not physical or even economic; it is political. Governments can’t easily get political support for radical changes, especially if they upset powerful people. No-one has to persuade most economists. They may have to persuade Donald Trump.
As I have written in my post in “Book review – Real-world economics for whom and for what?” thread
https://rwer.wordpress.com/2023/12/14/book-review-real-world-economics-for-whom-and-for-what/#comment-201265
I am now too busy to reply to your challenge “to prove me wrong.” However, please read
Prologue: ‘Not even wrong’
in the book
https://www.amazon.com/Aggregate-Production-Function-Measurement-Technical/dp/1840642556/ref=sr_1_1?dib=eyJ2IjoiMSJ9.QLzbhKLdhKTxdu0kwx9kw6pUO0QdV-_c6kA7qI83rAc.K8aF-yMNiOpM6qAYbBFhzElG7nP5kvZxxyH2zVwuEgs&dib_tag=se&keywords=The+Aggregate+Production+Function%3A+%E2%80%98Not+Even+Wrong%E2%80%99&qid=1705449322&sr=8-1
Even if you do not buy the book, you can read it when you crick the “Read Sample” button.
Well, I just state, that there is a physical dimension of any given economic system, which is a real world characteristic and is as well the determining dimension of the real world size of any economic system.
The exergy consumption of “making” any the parts of the GDP is the hard fact side of the two possible general accounting possibilities:
The normal, monetary (relative) unit one, and …
the physical, exergy (absolute stable) unit one.
To measure the real world dimension is not the tool to steer that economy. That is a different (second level) question.
But if there would be a big bracket around any economic theory … any of those theories is not embedded into real world dimensions. Even the labor theory of value was not free from that. And it is not surprising, because thermodynamik laws were formulated much later than the labor theory of value.
It is the very deep imprinted belief of most economists, that an idea of a physical measuring of economic systems is … I would summarize … “worthless, of no sense, not to say, a prove of no or low knowledge of economics.”
My arguments: Nothing of any economic system GDP content production or delivery of service is not 100% determined by the laws of thermodynamics.
And if you have a given physical characteristic, stable and measurable – it can be used to measure that given system.
(For what reason and for what kind of new understanding is a second level question to be answered elsewhere or later).
That fact is a simple physical reality truth.
The sum of exergy necessary to build the content of the monetary measured GDP has a real world measurable size as well – and, in contrast to the monetary units – it is a well defined physical characteristic.
My list of names of economists ignoring physical facts is longer that the list of the opposit list.
The quickest man fully understanding this theory and its importance is Steve Wozniak. He was answering my e-mail over night, totally entusiastic on this idea. But of course, he is not an economist. That was his advantage to understand – his mind was not filled with monetary based relative unit economic theories. He is able to get a broader picture of a higher abstractation level of something like an economic system.
As I said, it took 1200 years to overcome the ptolemy geocentric model. Maybe economists need that time as well.
energyasnu may even be right about it taking another 1,200 years to get our understanding of macroeconomics in order! Since there appears to be so much reluctance for introducing significant changes in how many experts are thinking about our social system. Indeed many of them don’t even regard it as being a system–but merely as a lot of disconnected situations and relationships that are not properly connected with each individually plowed furrow or seam.
But when one seeks to better understand how our social system really works, it must be quite clear some improved logical and scientific styles of though are needed. So little of this appears to be shown in our discussions here, that I find it embarrassing to have to remind us of this basic need! How are we expected to make significant progress in our knowledge of what makes society tick, if it is not by sensible use of accurate definitions of the terms involved and the logical applications needed to represent them by seamlessly modelling them, for finding out how they are related to each other?
For this reason, I determined to try to convert what was always and previously seen as pseudo-science into a true one. I believe that my book “Consequent Macroeconomics”, which is a start to this change, does show how this conversion can be done and that then we will be able to develop some better knowledge about how our business society as a whole, really does operate.
My post above https://rwer.wordpress.com/2024/01/09/with-one-word-economics-lurched-into-fantasy/#comment-201235 on January 13, 2024 at 3:40 am is not a comment on the series of debates between ghholtham and energyasnumeraire. I am following the debates and I support almost all arguments by ghholtham. I do not know if energyasnumeraire is a physicist by background. I have an impression that natural scientists are trained to consider more concrete phenomena or mechanisms than he does.
I admit that human economy is imbedded inside of the Earth as a dissipative structure. See for example my old comment Economy as a Dissipative Structure in 1996. All human activities including industrial and life activities must be constrained within the limit that does not disturb too much the existing dissipative structure. However, there is still ample gap between actual level of human economic activities and the limit that the Earth as dissipative structure imposes.
I have a bit different opinion with many of contributors to Real-World Economics Review #106. Few contributors talk about technological change. If we succeed in orienting technological change in such a way that entropy flow is limited within a certain range, it is also possible to improve our life level (in less developed countries in particular). Adopting energy consumption (or throughput) may serve as an indicator, but it could not and should not be a precise mean of control.
Dear David, I understand, that something which does not at all fit into the normal day discussion and problems, which is looking like a well rotten old idea, over and over recooked, roasted and smells like a rotten fish. (I mean my idea of a physical measurement of econoimc systems … ).I am not thinking that picture is true, but sometimes it seems to be the case …
It seems to be normal for economists, to try to use something like my theory to make a reality prove by trying to answer a known question with some parts of this, well, physical embedded theory.
My impression is (and that is my impression since 2012 roughly) that average economists just thinking they understood the idea – which is not complete.
And in another opposite, for example, a physicists would fall in love with someone telling him, that there seems to be a new tool to measure something, in a different way and with a more stable unit. There would be absolutely no question at all, what for this new unit, the new meter could be used for … just alone the fact that a new measuring procedure could exist, is by itself great for physicists.
With economists, it is completely the other way round. Since ten years now I found very very little open thinking economists who just say: “wonderful nice ldea, cool”. I found three time a professor willing to be my dissertation superviser for this thesis. But three times the process at the three universities behind them refused to accept this as a dissertation.
What I am saying is, that any economic theory for now, based on monetary units to calculate whatever kind of feature, property, characterisic or nature of something inside of something part of GDP … could be embedded into real physical world.
For physicists – and for a very rare handful of economists – and for Steve Wozniak (woz) – this is a huge and great idea, theory. I heard more than few times, that I should travel to Stockholm for this.
And I am not saying that I have the answer for any problem. Maybe I was not perfect in doing so, but I really tried my words to fokus on only exactly what I can say, no double meaning behind.
That is all.