Mr. Soddy’s Ecological Economy

Mr. Soddy’s Ecological Economy
by Eric Zencey

INNOVATIVE and opaque instruments of debt; greedy bankers; lenders’ eagerness to take on risky loans; a lack of regulation; a shortage of bank liquidity: all have been nominated as the underlying cause of the largest economic downturn since the Great Depression. But a more perceptive, and more troubling, diagnosis is suggested by the work of a little-regarded British chemist-turned-economist who wrote before and during the Great Depression.

Frederick Soddy, born in 1877, was an individualist who bowed to few conventions, and who is described by one biographer as a difficult, obstinate man. A 1921 Nobel laureate in chemistry for his work on radioactive decay, he foresaw the energy potential of atomic fission as early as 1909. But his disquiet about that power’s potential wartime use, combined with his revulsion at his discipline’s complicity in the mass deaths of World War I, led him to set aside chemistry for the study of political economy — the world into which scientific progress introduces its gifts. In four books written from 1921 to 1934, Soddy carried on a quixotic campaign for a radical restructuring of global monetary relationships. He was roundly dismissed as a crank.

He offered a perspective on economics rooted in physics — the laws of thermodynamics, in particular. An economy is often likened to a machine, though few economists follow the parallel to its logical conclusion: like any machine the economy must draw energy from outside itself. The first and second laws of thermodynamics forbid perpetual motion, schemes in which machines create energy out of nothing or recycle it forever. Soddy criticized the prevailing belief of the economy as a perpetual motion machine, capable of generating infinite wealth — a criticism echoed by his intellectual heirs in the now emergent field of ecological economics.

A more apt analogy, said Nicholas Georgescu-Roegen (a Romanian-born economist whose work in the 1970s began to define this new approach), is to model the economy as a living system. Like all life, it draws from its environment valuable (or “low entropy”) matter and energy — for animate life, food; for an economy, energy, ores, the raw materials provided by plants and animals. And like all life, an economy emits a high-entropy wake — it spews degraded matter and energy: waste heat, waste gases, toxic byproducts, apple cores, the molecules of iron lost to rust and abrasion. Low entropy emissions include trash and pollution in all their forms, including yesterday’s newspaper, last year’s sneakers, last decade’s rusted automobile.

Matter taken up into the economy can be recycled, using energy; but energy, used once, is forever unavailable to us at that level again. The law of entropy commands a one-way flow downward from more to less useful forms. An animal can’t live perpetually on its own excreta. Neither can you fill the tank of your car by pushing it backwards. Thus, Georgescu-Roegen, paraphrasing the economist Alfred Marshall, said: “Biology, not mechanics, is our Mecca.”

Following Soddy, Georgescu-Roegen and other ecological economists argue that wealth is real and physical. It’s the stock of cars and computers and clothing, of furniture and French fries, that we buy with our dollars. The dollars aren’t real wealth, but only symbols that represent the bearer’s claim on an economy’s ability to generate wealth. Debt, for its part, is a claim on the economy’s ability to generate wealth in the future. “The ruling passion of the age,” Soddy said, “is to convert wealth into debt” — to exchange a thing with present-day real value (a thing that could be stolen, or broken, or rust or rot before you can manage to use it) for something immutable and unchanging, a claim on wealth that has yet to be made. Money facilitates the exchange; it is, he said, “the nothing you get for something before you can get anything.”

Problems arise when wealth and debt are not kept in proper relation. The amount of wealth that an economy can create is limited by the amount of low-entropy energy that it can sustainably suck from its environment — and by the amount of high-entropy effluent from an economy that the environment can sustainably absorb. Debt, being imaginary, has no such natural limit. It can grow infinitely, compounding at any rate we decide.

Whenever an economy allows debt to grow faster than wealth can be created, that economy has a need for debt repudiation. Inflation can do the job, decreasing debt gradually by eroding the purchasing power, the claim on future wealth, that each of your saved dollars represents. But when there is no inflation, an economy with overgrown claims on future wealth will experience regular crises of debt repudiation — stock market crashes, bankruptcies and foreclosures, defaults on bonds or loans or pension promises, the disappearance of paper assets.

It’s like musical chairs — in the wake of some shock (say, the run-up of the price of gas to $4 a gallon), holders of abstract debt suddenly want to hold money or real wealth instead. But not all of them can. One person’s loss causes another’s, and the whole system cascades into crisis. Each and every one of the crises that has beset the American economy in recent years has been, at heart, a crisis of debt repudiation. And we are unlikely to avoid more of them until we stop allowing claims on income to grow faster than income.

Soddy would not have been surprised at our current state of affairs. The problem isn’t simply greed, isn’t simply ignorance, isn’t a failure of regulatory diligence, but a systemic flaw in how our economy finances itself. As long as growth in claims on wealth outstrips the economy’s capacity to increase its wealth, market capitalism creates a niche for entrepreneurs who are all too willing to invent instruments of debt that will someday be repudiated. There will always be a Bernard Madoff or a subprime mortgage repackager willing to set us up for catastrophe. To stop them, we must balance claims on future wealth with the economy’s power to produce that wealth. How can that be done?

Soddy distilled his eccentric vision into five policy prescriptions, each of which was taken at the time as evidence that his theories were unworkable: The first four were to abandon the gold standard, let international exchange rates float, use federal surpluses and deficits as macroeconomic policy tools that could counter cyclical trends, and establish bureaus of economic statistics (including a consumer price index) in order to facilitate this effort. All of these are now conventional practice.

Soddy’s fifth proposal, the only one that remains outside the bounds of conventional wisdom, was to stop banks from creating money (and debt) out of nothing. Banks do this by lending out most of their depositors’ money at interest — making loans that the borrower soon puts in a demand deposit (checking) account, where it will soon be lent out again to create more debt and demand deposits, and so on, almost ad infinitum.

One way to stop this cycle, suggests Herman Daly, an ecological economist, would be to gradually institute a 100-percent reserve requirement on demand deposits. This would begin to shrink what Professor Daly calls “the enormous pyramid of debt that is precariously balanced atop the real economy, threatening to crash.”

Banks would support themselves by charging fees for safekeeping, check clearing and all the other legitimate financial services they provide. They would still make loans and still be able to lend at interest “the real money of real depositors,” in Professor Daly’s phrase, people who forgo consumption today by taking money out of their checking accounts and putting it in time deposits — CDs, passbook savings, 401(k)’s. In return, these savers receive a slightly larger claim on the real wealth of the community in the future.

In such a system, every increase in spending by borrowers would have to be matched by an act of saving or abstinence on the part of a depositor. This would re-establish a one-to-one correspondence between the real wealth of the community and the claims on that real wealth. (Of course, it would not solve the problem completely, not unless financial institutions were also forbidden to create subprime mortgage derivatives and other instruments of leveraged debt.)

If such a major structural renovation of our economy sounds hopelessly unrealistic, consider that so too did the abolition of the gold standard and the introduction of floating exchange rates back in the 1920s. If the laws of thermodynamics are sturdy, and if Soddy’s analysis of their relevance to economic life is correct, we’d better expand the realm of what we think is realistic.


Eric Zencey, a professor of historical and political studies at Empire State College, is the author of “Virgin Forest: Meditations on History, Ecology and Culture” and a novel, “Panama.”

Cheap gas producer

monorator slip ring/ water channel

in place and sealed

shell in position

air inlet and stub for downtube

slip fit into airbox - plate on blower end

12v vapour lock wired to startup fan

part 1 is here

"If something cannot go on forever, it will stop."

Australian gas producers - Road Chief

Producer gas and the Australian motorist

An excerpt from Producer Gas and the Australian Motorist by Don Bartlett


..."It is easy for the present generation of drivers, attuned to modern vehicles where electronic gadgets abound, to be ignorant of the simple facts about pre-war - and even many post-war vehicles.

Automatic transmissions were rare. Synchro-mesh gearboxes were not common either. When slowing down for an intersection or when stopping, it was usually necessary to manually adjust "the spark".
You were required by law to extend your right arm out the window and wave it up and down like a wounded albatross to warn other motorists of your intention to reduce speed.

Stop lights at the rear were optional but in effect, you were still required to signal your intention to stop, by holding your arm out the window with your elbow bent upwards to 90 degrees and the palm of your hand opened forward with the fingers, all of the fingers, pointing up.

A right-turn indication was also mandatory and was made with the unbent arm extended straight out of the window. The stop or turn signal had to be given continuously for at least 100 feet before the stop or turn.

I mention all of this, not in an attempt to be humorous but because many drivers on the road today would not have experienced that type of motoring. It needs to be understood in order to comprehend the conditions in which the gas producer system operated.

As the vehicle slowed down for the intersection, in addition to spark adjustments and hand signals, the driver had to use the left hand to make the gear shift – invariably, the gear lever was mounted on the floor.

With one hand out the window and the other on the gear shift, there was not much left to steer the vehicle – although the law said that you must have effective control of the vehicle at all times!
Meantime, your feet were moving rhythmically on the clutch and accelerator as gear changes required the now forgotten art of "double de-clutching".

Then there is the added complication of the producer gas controls. In Tibby's words, "you just played with all of the controls (choke, throttle, butterflies etc) at your disposal until you got things going OK". One contemporary report suggested that "bare feet, prehensile toes and experience at the Wurlitzer organ could be a distinct advantage".

Before entering the intersection, you had to ensure that the gas flow was adequate and, if on water injection, that the setting was appropriate for the load on the engine. Then of course, there were the other motorists going through the same ritual and approaching the same intersection.

If it was night-time and near the coast in 1942, there was the added hassle of the blackout. There were no street lights and your headlights (poor enough anyway by modern standards) had to be masked to allow only a narrow slit of light to the front.

Australian gas producers - Jackson

Notes on the housing market

Rent versus buy (click chart to embiggen)

A quick edit to add here - the above chart shows the price of rent V repayments in a range of 4 to 7%, the last time I "owned" a house the interest rate shot up to 18% - Consider yourself warned.
------------------------------------------------------

Some interesting thoughts from Dan Denning at The Daily Reckoning

..."Now, about the property market. There is a new claim that rising unemployment is a big threat not just to home owners, but also renters. "If unemployment rises to nine per cent next year, as many economists predict, the number of tenants facing eviction rises to 216,000 nationally," reports the Sunday Telegraph, citing a report by Fujitsu Consulting.

We have no idea who these guys at Fujitsu are. But they are definitely flying their housing crash/rental crisis flag on a regular basis. In this case, the logic of the argument seems sound. Rental vacancies are low. Landlords have to pay mortgages on properties and know there are plenty of other tenants around. The squeeze begins.

Over the weekend, the Federal government stepped in to try and relieve the squeeze, but only for mortgage owners. It amounts to the construction of a mortgage prison for the unemployed, if you ask us. And it's not exactly new. The Prime Minister has taken credit for a move announced by Commonwealth Bank chief Ralph Norris three weeks earlier. That move allows mortgage holders who've lost their job to defer payments on the mortgage for up to twelve months.

So what's the story? Well, the short story is that his move keeps Australian house prices high and more Australians in mortgage debt for longer.

Don't get us wrong. What the bank and its customers choose to agree to is between them. That's the spirit of capitalism! Voluntary exchange, enforceable contract, no compulsion or coercion. You signs your mortgage and you pays your money. But have you ever known a bank to do something out of the kindness of its heart?

Banks don't want to foreclose on a homeowner. It's expensive. And the bank doesn't want to own the home outright anyway. That's complicated. It has to then carry it on the balance sheet and value it while it tries to resell it.

The bank would rather keep you in the home, where you think you own it. And most importantly it wants to keep you paying on the mortgage. The longer you're in debt, slaving away at the mortgage, the more regular bank earnings will be (which isn't so bad if you're a shareholder collecting dividends.)

In its current form, the various banks' plans allow mortgage owners to either capitalise interest or choose an interest-only option. Capitalising the interest means the value of the monthly interest payment is added to the principal. The loan grows larger over time. This threatens to put the mortgage owner in negative equity.

The interest only option is more likely. Hmm. Interest-only mortgages. Sound familiar? The mortgage owner doesn't pay down the principal at all for up to twelve months. Blah blah blah. We could go on with the details. But you see the basic problem.

This is a move designed to keep people in their homes because it "feels" bad when people lose their homes. We're certainly not making light of it. It does feel bad. And once you get beyond how you feel about it, it IS bad. But policy made to make people feel better doesn't do anyone a real financial favour.

The problem is that there are already too many people in Australia who shouldn't, financially speaking, have mortgages at all. They have not prepared for rising interest rates or the possibility of a job loss, both of which can throw the worst-laid housing plans into complete disarray. Rates may be cut tomorrow by the RBA. But joblessness is definitely on the rise.

This is also the banks trying to prop up property prices to support their own loan books. By keeping marginal buyers in their homes during a recession, it prevents a flood of new inventory which might depress prices (especially since demand for housing finance should be expected to fall in a recession, although we'll know more about this later in the week when the numbers from the ABS come out).

The bottom line is that any effort by the bank or the government to keep the marginal buyer in a house he can't afford just keeps housing more expensive for everyone else. Property prices are already too high. Keeping people in homes with huge mortgages just keeps them in debt for longer.

What Australia needs is a good property price correction to correct the inflationary excess of the credit boom that pumped up prices so much in the first place. The two-decade credit boom and investment in residential property hasn't made the country wealthier if it's put hundreds of thousands of people into debt they can't repay. It's made the country poorer.

And don't forget the unintended consequences. So far, the mortgage moratorium applies only to the Big Four and their customers. Smaller banks, building societies, and credit unions aren't part of the plan yet. Will this cause an exodus of borrowers from these smaller firms? Will they refinance with the Big Four in order to have access to the leniency terms?

Who knows? But it certainly can't hurt business for the Big Four. They manage to grow their loan book at the expense of smaller non-traditional firms. This might not work out exactly the way they plan, though.

Many of these smaller firms are the ones extending credit to marginal first home buyers. So perhaps the banks will end up bringing on to their balance sheet the single riskiest mortgage assets in the Aussie market. Keep the subprime plague at bay from the front door, and open up the back door for a house warming party. Good plan!"

Dan Denning
for The Daily Reckoning Australia
-------------------------------------------

Steve Keen has a whole lot more to say on this in Lies, Damn lies and Housing Statistics