Saturday, February 27, 2010

Could China's Voracious Demand for Natural Resources "Green" the World's Economy?

This piece about China's demand for natural resources got me thinking again about the broad topic of "limits to growth". As world population and per-capita incomes rise, and given our global desire to achieve the "American Dream", could we exhaust our finite stocks of non-renewable resources? In Collapse, Jared Diamond argues that there are many historical case studies that suggest that the answer is "yes".

In a 2007 Wall Street Journal Debate, I offered this "witty" reply.

"Matthew Kahn writes: Imagine a world where everyone in China and India achieves our living standards. In this world, with 7 billion people, if each drives a Hummer 10,000 miles per year, then the world would need 7 trillion gallons of gasoline to meet this aggregate demand. Now, that's an ecological footprint!

Now, the New York Times recently reported that the Sun will only shine for another 7.59 billion years. Even so, if the rest of the world achieves the "American Dream" and attempts to drive their Hummers until the sun finally flickers and dims, we are clearly going to need a lot of gas.

Still, it's important to note that expectations of such future scarcity create incentives to innovate. Implicit in the work of authors such as Jared Diamond is a type of mass-behavioral-economics myopia where he and a few other "wise men" are the only ones aware of the coming day of scarcity. I am more democratic and optimistic that, if there is a future arbitrage opportunity, a few ambitious young capitalists will seek out a profit and be ready with the next "Toyota Prius" to help mitigate future scarcity challenges."

Re-reading this quote, I'm now worried that this was my best writing and now its all downhill.

I was trying to emphasize a counter-intuitive point. Economists always question the "conventional wisdom" because this wisdom tends to downplay the power of incentives. Under "business as usual", of course it is the case that rising demand will exhaust a finite supply. But, the whole field of "rational expectations" in modern economics is based on the idea that self interested households and firms plan ahead and use all available current information to plan for future scenarios. The innovation sector is a crucial part of modern capitalism.

China and India's ongoing growth is a credible signal that resource demand will rise --- if this is predicted to lead to rising resources prices over time then this creates sharp innovation incentives to devise substitutes for the increasingly scarce natural resources. The net result of this innovation activity, caused by the need to find substitutes for increasingly scarce fossil fuels, will be a "green economy". Thus, we owe China. Its anticipated appetite for energy will green the world!

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