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Net energy, bank reserve ratio, and jobs

As we have reached the one-year anniversary of Lehman Brothers bank collapsing, many are still wondering what happened to the US and world financial system. Many in the government are calling for better regulation of the financial and banking industry, but perhaps there is one regulation that towers above all others: banking reserve ratio.

The reserve ratio, or reserve requirement, identifies the amount of customer bank deposits that must be held within the bank. The bank is allowed to lend out the rest of the money. Currently the US reserve requirement is 10%. Thus, for every 100 dollars deposited, 90 dollars can be lent to borrowers.

The reason that the reserve ratio is important, is that it parallels conceptually to another ratio of concern in the area of energy: energy return on energy invested (EROI). To some, the question remains whether or not this parallel is also a correlation caused by the physics and thermodynamics describing energy, rather than “laws” of economics and financial practice. But to me, there is no debate. To think that we can have an industrialized society without much excess energy, or high EROI, is not feasible. Also, because net energy and economic growth are so highly coupled, there likely cannot be a continuing industrialized society without a relatively low banking reserve ratio.

Economists model the macroeconomic output (GDP) as a function of three basic factors (that are not necessarily independent): labor, energy (energy services), and capital. Research since the 1970s by a group of dedicated ecological economists has unequivocally shown that the modern US economy grows significantly with more energy (energy services) and capital. Over the last 100 years in the US the labor factor has become insignificant. That is to say, and increase in the labor force will cause practically no economic growth (see Robert Ayres (2008) Ecological Economics). The reason is that in the US, labor has been almost 100% replaced by primary energy sources including fossil fuels, nuclear energy, and renewables. Consider that economic capital includes the intellectual capital and education of the workforce, and we see that physical human labor is valued quite poorly.

Before you say this doesn’t make any sense, then keep in mind that people expect a “jobless recovery” yet again after we apparently had such an economic recovery (in the US) after the dot-com bust. I say apparently because it is probable that the US fiscal policies fighting off recession during the early 2000s just kicked the can down the road until the current economic recession.

While there are no systematic analyses of how EROI should relate to banking reserve ratio, I think this is a fruitful area for study. Lending money and expecting a return on investment is analogous and reliant on lending energy to invest for future energy return. It is likely that the inverse of the reserve ratio (that is amount of money lent out to that held in deposit in the bank) cannot be larger than EROI. As the EROI of fossil fuels to energy services seems to be only slightly above 10 (where the inverse of US reserve ratio is 9), or in the 10–20 range at the “mine mouth”, and even less for finished products such as gasoline and electricity, we might very well already be operating society on an energy services EROI <10. Can our society operate as it exists if we lend more money than we our lending ourselves energy? I hope we can learn the answer to this soon.

Posted by Carey King on September 21, 2009 8:00 AM | Permalink