Thursday, October 2, 2008
Peak Oil
I suggest in the Welcome below that Peak Rent is like Peak Oil. So what is Peak Oil, and how is it like Peak Rent? Wikipedia describes the idea this way.
In the 1950s, the geologist Marion King Hubbert observed that explorers for oil discovered new reserves in the continental United States less rapidly than Americans consumed existing reserves. He concluded that U.S. production would eventually peak and then decline.
Based on his theoretical modeling of oil discovery and production, Hubbert predicted a peak around 1965. Though he considered a peak in 1965 most likely, his prediction encompassed a range including 1970, so Hubbert's reputation was established when production in the continental U.S. peaked in that year.
Hubbert's theory of a peak in conventional oil production is not based simply upon a presumably finite supply of oil. The amount of oil under the ground is a factor, but so is the difficulty and the cost of discovering ever smaller oil fields as the larger, more easily discovered fields are exhausted.
Small fields, containing even more oil than we've consumed thus far, possibly remain in the continental U.S., but no one knows where they are. The likelihood of finding a small well on a particular square mile is remote, and the cost of searching this area for a well is considerable.
If the product of the likelihood of discovery and the cost of searching an area exceeds the expected return from small wells, oil from these wells, however vast its total supply, will not be produced. Seek and ye shall find ... but not at a profit.
Even now that oil production in the continental U.S is greatly reduced, discovery of a large, new conventional oil reserve is possible. At this point, the discovery would be a Black Swan (see below), but it's conceivable. You might discover this well in your back yard fortuitously tomorrow; however, what we know of the likelihood of discovering the well does not justify the cost of searching for it.
If you happened to discover this Black Swan on your land, the rent you might charge for use of the land would skyrocket; however, searching for this Swan now seems like dropping a quarter in a slot machine. You might win, but if you keep dropping quarters long enough, you'll be a net loser, because this outcome is built into the machine.
In this sense, Peak Oil is a special case of Peak Rent. An oil well is only one of the scarce resources we'd like to own to earn its rents. Earning this rent is difficult, because discovering its source is both unlikely and costly.
I also suggest in the Welcome that Peak Rent is even more inevitable than Peak Oil. Oil is a very valuable resource, but it is not the most valuable resource. Classical liberals from Mises to Simon tell us that human labor, including innovative, intellectual labor, is the most valuable resource. This assertion is not simple politics stroking the human ego. It is sound economic science.
A Black Swan contradicting Peak Oil seems unlikely, but it could be out there. The coming labor shortage is a matter of demographics. We can't go back in time and have more children.
A child could discover an oil substitute or some other innovative resource of unimaginable value, but even if this Black Swan exists, finding it and becoming entitled to its rents is increasingly unlikely, while rents paid by more common humanity decline, relative to demand for them, simply because common humanity declines relatively.
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2 comments:
How is Peak Oil impacted by incentives to find new sources?
The Chinese are willing to search under any stone. In much of central and south america, property rights do not extend to the subsurface, (these are retained by the gubment) so there is no incentive to look. The US, which is the model for Peak Oil, seems to be somewhere in the middle, but moving in the direction of more obstacles to production.
Incentives matter, but the proper incentives don't seem scarce in the U.S., ANWR and the Florida coast notwithstanding. I avoided the Global Peak Oil issue, because Peak Oil in the continental U.S. is reasonably well established and fits the Hubbert curve well. A global peak in conventional oil production presumably is near, but I only wanted to illustrate how the peak is about the cost of discovering reserves that are increasingly difficult to find, because they're small and spread out, not just about a limited supply.
In our search for rents, we're all like central planners trying to organize the many, varied resources in a large, modern economy. Central planners just don't know where to look for opportunities to improve productivity. We don't know where to look for productive rents, so we want to pay someone else to look, in or out of the central government, but they don't know where to look either.
Opportunities exist out there, but we can't effectively centralize a market for them, where everyone can just pick the high yielding investment they want, any more than we can expect central planners to line the opportunities up and execute them effectively.
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