Oil and Economics:
a dialogue between Mr. Q and Mr. A, with an occasional comment by Polly, a parrot

I

Q: What is the most important thing to know about oil and economics?
A: Marginal cost, the cost of the next barrel of oil.

Q: Why?
A: It is the benefit received by producing the next barrel.

Q: Produce?
A: Yes, get out of the ground, transport, transform, make into something that somebody finds useful.

Q: In what units are marginal costs measured?
A: They can’t be measured.

Q: You did say marginal COST, didn’t you?
A: I did.

Q: If you bear a cost, you have to be impinged upon, that is to say, DINGED in some way or other, or it wouldn’t be a cost.
A: Right.

Q: So where is the cost occurring?
A: You can think about cost in terms of money or energy.

Q: Why both?
A: Depends on what you are talking about.

Q: Are they the same?
A: No, but they are close and in any case both are always present.

Q: If you suffer a cost, how do you know what it is if you cannot measure it?
A: Your enterprise ends up making or losing money.

Q: Why can’t you just add up the money you have spent on your operation, and use that information to calculate marginal costs?
A: It’s an infinite regress.

Q: What do you mean?
A: How do you account for the money spent on wood used to make the pencil that your insurance agent used to note the information that he needed in order to issue you a policy...... and so forth and so on. You get the picture.

Q: An infinite regress?
A: Yes. Plus, as if that’s not enough, there is another problem: in order to know the cost of your operation now, you have to know a future cost.

Q: What are you talking about?
A: The replacement cost of your capital.

Q: Why do I need to know that?
A: You have to know it in order to know the net benefit to you of your next barrel of oil, that is, you have to know how much you have to retain of your current revenue stream in order to pay for replacement of capital. Simple, right.

Q: Yeah, real simple. So simple I forgot what we were talking about.
A: The marginal cost of oil.

Q: Oh, yeah, right.
A: I’m saying that you can’t measure it.

Q: And I am asking you why.
A: And I am saying that, among other things, to calculate your marginal cost NOW involves a future number.

Q: What about marginal costs as measured in terms of energy?
A: Same problem, another infinite regress – only even more hopeless.

Q: How so?
A: All you can do is add up BTUs.

Q: What do you mean?
A: All you can do is make an estimate of the flows of energy going into your oil operation.

Q: So, what’s the problem? Make a list of BTU inputs and start adding. I mean, you have heard of computers, haven’t you?
A: Yes, I have. But you still have to make arbitrary decisions about cut off points, or do you think you can measure the energy used to cook the food of your oil worker when he was six years old?

Q: I expect that would be hard to do.
A: No, not hard, impossible. Plus you have the same problem with future inputs of energy.

Q: In what way?
A: How much energy are you going to need in the future to replace present inventories of productive capital?

Q: There are people who are out there trying to measure the net energy of various sources of energy.
A: They are wasting their time.

Q: That’s a fairly arrogant thing to say.
A: Yes, but accurate. To make an estimate requires building a model.

Q: Model?
A: A simplified version of reality -- which in their case involves so many arbitrary decisions about what to measure, and about what value to assign to what they have decided to measure, that it ends up being a waste of time.

Q: Why?
A: Whatever they come up with in the way of conclusions – reached as a result of building and then cranking their model -- will be accepted only by people who ALREADY believe in the validity of their model.

Q: A waste of time?
A: That might be a bit strong. Models of that sort have value as ..... marketing .... or .... or ....... as propaganda.


Q: So what the hell use is the idea of marginal cost? You know you are getting dinged, i.e. hit with a cost, but you cannot measure it in any way except as a guess and an approximation.
A: As a conceptual tool, the idea of marginal cost is essential. It allows you to understand what is going on

Q: Conceptual tool???
A: The logic of marginal cost is hard to get around.

Q: Meaning?
A: You have to spend resources, money, and energy to get oil.

Q: You’ve already said that.
A: Yes. But think about it a bit more. The money you spend digging holes in the ground to get oil gives no particular pleasure. You only dig a hole in the ground so you can get what is at the bottom of the hole.

Q: Duh.
A: The first barrel of oil out of the ground costs thousands or possibly millions, or maybe even billions of dollars, not to mention vast amounts of energy. There is no net energy or net money in the first barrel.

Q: Of course not.
A: But the second barrel is different. It costs less. You don’t have to rebuild your infrastructure to get a second barrel of oil. SOME money has to be spent, to be sure, but not as much, which means that the marginal cost of the second barrel is less than the first.

Q: And that’s where money is made?
A: Yes. You have to make enough money on later barrels to pay the cost of setting up the operation.

Q: Are there patterns associated with marginal costs?
A: There have to be. The logic is cold.

Q: Logic?
A: Yes. The cost of the first barrel of oil is or can be astronomical. People have to be hired, rights of access have to be secured, rigs have to be built and put in place, pipe laid, holes dug, money borrowed, contracts signed ... all before you pull one barrel of oil out of the ground.

Q: What you are saying is that marginal costs have to fall far enough, over enough barrels to cover overhead.
A: Yes.

Q: So what happens next?
A: At some point marginal costs stop falling.

Q: Why?
A: For economic reasons, and thermodynamic ones, too. Sooner or later high grades of oil, nearby deposits of oil, and huge reservoirs of oil give way to lower grades, more distant deposits, smaller reservoirs, exhausted reserves.....

Q: Then costs go up?
A: Yes. They have to.

Q: If you were to make a graph of marginal cost, what would it look like?
A: It would look like the cross section of a valley. Start high, fall to a low point, rise again. That’s the pattern.

Q: You say that this pattern is an assumption?
A: I didn’t say that it was, but, yes, you are right, it is. That’s why I use the word “conceptual.” I can’t prove to you that there is a pattern associated with the marginal cost of oil production, but the logic of it is hard to get around.

Q: How so?
A: If marginal costs were not to fall, it would be uneconomic to drill wells and extract oil from the crust of the earth. On the other hand, if marginal costs were to fall forever, the cost of the next barrel of oil would converge on zero, and we would have free energy. Between marginal costs having to go down, otherwise no oil industry, and marginal costs having to go up, otherwise free energy, there has to be a bottom.

Q: Okay, here is my next question: you say that you have this idea that is essential to understanding what is going on when it comes to extracting oil out of the crust of the earth....
A: Yes, marginal cost ....

Q: ... you say that it is an essential concept, a cost, a way in which you are dinged, but which turns out to be hard to measure.....
A: Right.

Q: Given this lack of clarity: why does it matter that we bother with the idea at all, a cost that we cannot know except to an approximation? We could just as well say that unicorns are an essential aspect of oil production.
A: Start with the big picture. In the crust of the earth there is something that is useful.

Q: Oil.
A: Exactly, which, however, to get, we have to give up something else that we like or find useful, such as for example: the hours of our lives, or money that could be spent on something else, or gasoline that we could use to go motoring up and down the road.

Q: Yeah, yeah, right; obviously.
A: Well, yes, it is obvious, but there is an aspect to the problem that is not obvious.

Q: Which is?
A: How is everything coordinated?

Q: Why is coordination a problem?
A: You have millions of people dealing with oil directly and at one step removed, and you have billions of people dealing with oil indirectly -- at more steps removed and as consumers. How is all of this activity coordinated?

Q: Is it a problem?
A: How could it not be? You need three grades of gasoline at every filling station on just about every blasted street corner in the country, and you need gaskets of every sort for compressors on platforms scattered across hundreds of sites in the Gulf of Mexico ....and on and on and on.....

Q: How is the coordination problem overcome?
Q: There is a better way to phrase the question.

Q: There is?
A: You would agree that we have achieved a fairly high level of coordination when it comes to the business of oil. I mean, most of the time, when you pull into an Exxon station along I-95, there is gas available.

Q: Yeah, yeah, stop beating a dead horse. I agree. I agree. There is a lot of coordination going on, even if there is also the odd shoot-out in Nigeria.
A: The question to ask, then, is not HOW this high level of coordination takes place but WHERE.

Q: Why is where more important than how?
A: You cannot understand the how until you understand the where.

Q: Okay, where is the “where?”
A: In the head, that is to say, in our individual reactions to this complex world.

Q: What do you mean?
A: I mean something so absurdly simple that we tend not to notice it.

Q: Huh?
A: How much do you want your next gallon of gasoline? How much do you want it in relation to how much do you have at hand to pay for it, in relation to how much does the guy who is selling it to you think that you want it, in relation to how much he thinks that I want it, in relation to how much he wants to hold it himself because he thinks that it is going to be more valuable tomorrow compared to today .....and so on and so forth basically ad infinitum

Q: Hmm??
A: Yes, “hmm.” The same story applies to everything else in this picture, e.g., gaskets, rental rates of VLCCs, steel for underwater pipe in Brazil, the price of crude at the refinery door, distribution of fuel up and down I-95...

Q: If I understand what you are saying, the problem is this: to get oil out of the ground and make it useful requires lots of coordination. At the same time, a crucial number is lacking, the net usefulness of the next barrel.
A: Correct.

Q: So what happens?
A: There is a fusion of objective and subjective.

Q: “Fusion of subjective and objective.” What does that get you?
A: A price.

Q: A price?
A: Yes, a number that jumps all over the place, and is fleeting -- or is not fleeting -- but in any case a number linked to a defined unit of oil. This makes coordination possible.

Q: How so?
A: If something objective changes (a hurricane swings into the Gulf of Mexico), or if something subjective changes (people convince themselves that oil is more valuable than they thought), the price changes. Price is sensitive, and causes reactions in the right direction.

Q: “In the right direction?”
A: If there is less oil around, the price goes up, inducing you to use less of it. If more oil is found, the price goes down, inducing you to use more of it. If you and enough other people THINK oil is more valuable, the price goes up.
Polly: Squawk.....supply and demand.....supply and demand.

Q: It is all automatic.
A: Yes....with qualifications.

Q: How nice. This means that we don’t have to do anything but sit back, let nature take her course, and trust the invisible hand.
A: True, but understand, you might not like the direction that the invisible hand takes, or what the invisible hand dishes out.

Q: What do you mean?
A: Nature can’t be suppressed, and market relations always emerge in any human situation, but, that said, you have to understand that any particular arrangement of nature, or any particular market outcome, is fragile, therefore vulnerable, therefore unstable.

Q: Vulnerable to what?
A: Previous distribution of assets, power relations, luck, personality, accidents of man or God.

Q: So, where are you going with this discussion?
A: To a conclusion.

Q: Which is?
A: Coordination cannot happen without fusion of the objective and the subjective out of which comes a price. The coordination thereby made possible is essential but by no means stable.

Q: Not stable. Is that why some people talk about “creative destruction?”
A: In part I suppose you could say that it is, but proceed with care when using the term.

Q: Why?
A: If you look at people who talk about “creative destruction,” you will discover that almost all of them work for the state as teachers or professors, or for non-profit think-tank type operations.

Q: You’re kidding.
A: No, I’m not. A curious blindness of these types of people is to think that the instability of “creative destruction” can be confined to what they are pleased to call the “economy,” which by a curious coincidence they are (at least at that moment in their lives in an astonishing number of cases) somewhat insulated from in its direct, market-driven form.

Q: You think the idea of creative destruction is phony.
A: No, not at all. The idea is accurate and useful, provided you understand that destruction is not always creative nor always confined to markets. Sometimes the destructive part of “creative destruction” extends to politics (i.e. power relations among groups) and to nature herself.

Q: Which means?
A: Those who talk about “creative destruction” tend toward being naive.

Q: Why?
A: They think that a vast, turbulent process – such as burning twelve million tons of oil every single day -- can occur without political consequences, or without poking a sharp stick into the delicate eye of nature.

II

Q: You said earlier that it is absolutely written in the laws of the universe that at some point the marginal cost of oil stops going down and starts going up. My question is this: what happens when it does?
A: To answer does not require rocket science. The cost of the next barrel of oil – measured in terms of energy or in terms of money -- is going to rise until the cost of the next barrel equals the benefit received from the next barrel.

Q: Then what, game over?
A: No, game change.

Q: “Change.” That seems like a weak answer to me. If the energy cost of securing oil comes to equal the energy benefit obtained from burning oil, then oil’s usefulness as a source of energy comes to an end.
A: You don’t give the human race enough credit for being diabolical.

Q: How so?
A: Even if energy cost of oil comes to equal its energy benefit, oil may still be used as a source of energy, at least for a while.

Q: Is it possible?
A: Yes, if those who are concentrated and powerful find ways to shift the cost of collecting oil (used BY THEM) to those who are dispersed and weak.
Q: Okay, I’ll concede the point, as long as you retain the qualifying phrase: “at least for a while.”
A: Done. We’re agreed.


III

Q: Some economists have said that the only relevant fact about oil is the price of oil.
A: Surely you have not understood them correctly.

Q: How so?
A: The statement, as stands, is redundant. It is like saying that the only relevant fact about the price of oil is the price of oil.

Q: Okay, let me be more precise: what they are saying is that there is no problem with the supply of oil, because as the price of oil goes up, more oil will be found.
A: Ah, yes. That’s better. I think you are right. Some economists have said something like that.

Q: Is it true.
A: No.

Q: Why?
A: We have already answered the question. Price is a fusion of subjective and objective.

Q: What are you getting at?
A: If the price of oil rises because of an increase in the desire for oil, the rising price might very well induce higher levels of oil production.
Polly: Squawk....squawk ....supply and demand.
A: Yes, right, Polly, but be sure to think it through.

Q: What do you mean? Where was Polly’s mistake?
A: Under rather normal conditions, the price of oil can rise, and there can be associated with this rise in price a reduction in supply.

Q: How so?
A: If the reason that the price is rising is because there is less oil, then the price rises even though there is less of it.

Q: It can’t be that simple?
A: Of course it can.

Q: But there is this guy, an economist no less, named Morris Adelman, who says things like:
“The price of oil is a study in monopoly, nothing more...”. He also says: “the worldwide stability of the development cost of new oil since 1955 shows that oil is no more scarce today than it was then.....” He also says: “in the endless tug of war between diminishing returns and increasing knowledge ... technology wins out.” What this guy seems to be saying is that higher prices for oil always bring on more of it.
A: How does he know that higher prices bring on more oil?

Q: Because of technology.
A: How does he know that technology always brings on more oil?

Q: I don’t know. You’re the economist.
A: What he said isn’t economics.

Q: What is it?
A: Religion.

Q: You are saying that he is wrong?
A: No. I am saying that I don’t know if he is wrong or not. But I do know this: he does not know what is going to happen tomorrow or the day after tomorrow. His statement that technology always brings on more oil is not a statement of fact. At best it is a statement of history, but really it is a statement of hope. He has managed to confuse wishing with thinking.

Q: He also says that oil is no more scarce today than in 1955. Is he right?
A: To answer takes a little sorting out.

Q: What do you mean?
A: Prof. Adelman fails to take into account the geology of oil.

Q: The geology of oil? What do you mean by that?
A: How oil is distributed in the crust of the earth.

Q: Which is how?
A: There is a pattern.

Q: A pattern? Not another pattern?
A: Yes, rather a simple one. There are a small number of immense deposits of oil, a medium number of medium deposits, a large number of small deposits, and a vast number of tiny deposits?

Q: When you say deposits, you mean oil pooled down there like an underground lake.
A: No, I mean oil in rock loose enough to contain molecules of oil, and also loose enough to permit these molecules to respond to pressure and get pushed toward the surface until blocked by rock too dense to permit further movement upward.

Q: Whew. Okay. What is the relevance of this pattern?
A: Two things, at least. At the beginning of the Age of Oil......

Q: Wait a minute, what do you mean when you say “the Age of Oil?”
A: I mean from the moment of the first well in Titusville, Pennsylvania in 1859, until whenever oil fades away and becomes once again an insignificant part of the human scene.

Q: So what were you saying?
A: At the beginning of the Age of Oil people discovered nearby, high-grade oil. The accessibility of this oil had consequences.

Q: Consequences?
A: Yes. The price of oil on the market fell, and then it fell some more.

Q: It did? Why?
A: Big, new oil provinces presented a problem.

Q: Caused by what?
A: The invisible hand.

Q: Huh?
A: If you discover a big new oil province, and if you and others can get to it, and gather oil from it, and sell the oil that you have gathered, a bad thing happens.

Q: What?
A: You have to get the oil out of your hole in the ground before the guy next to you gets oil out of his hole in the ground. The oil that you fail to extract goes to him, the next guy over.

Q: You end up in a race to be the first to draw the oil.
A: Yes, because the oil you don’t sell, he does.

Q: You are saying that the result is that too much oil comes on the market, and the price drops?
Polly: ....squawk....supply and demand....
A: Right, Polly, the invisible hand leads to a visible bust in the price of oil.

Q: I forgot why this is relevant?
A: We’re talking about a guy named Morris Adelman, remember.

Q: Oh yes, right, the guy who says that there is plenty of oil, and that the reason it doesn’t cost a lot less per barrel is because of monopolies or cartels.
A: Right, that guy.

Q: You are saying that he is mistaken?
A: Yes.

Q: In what way?
A: Those who find and extract oil from a new oil province face the prospect of going bust, even though they sell something that people are willing to pay for, that is vastly useful, and that is cheap to produce especially at first....

Q: How come there has emerged a more or less stable oil industry?
A: Ah, yes, how come?

Q: You’re the man with the answers.
A: People have found ways to restrict the flow of oil to market.

Q: What?
A: A new oil province is, in effect, a common good, and can easily be exploited in ways ruinous to everybody.

Q: You mean that it is a “prisoner’s dilemma” or “tragedy of the commons” type situation?
A: Good answer, question man.

Q: So how do people deal with these situations?
A: In the case of new oil fields, they restrict the flow of oil to market.

Q: I’m still not following you. What’s your point?
A: Because of the geology of oil, when people stumble upon a big new oil province, they face what is in effect a common good problem. If they solve their problem, which they do by restricting the flow of oil to market, they make money hand over fist, while other people get access to a useful product in a way that is stable and predictable.

Q: So?
A: So, because of the geology of oil, you can predict that when a big, new oil province opens up, there are going to be restrictive arrangements.

Q: Is this prediction confirmed by experience?
A: Ever hear of John D. Rockefeller, Mr. Five Percent (Calouste Gulbenkian and his curious idea about virgins), the Texas Railroad Commission, or OPEC? Each of these individuals -- or institutions -- or governmental structures –emerged in relation to new oil provinces, and led to restrictions upon the flow of oil to market.

Q: Virgins?
Polly: Squawk .... Eeeettthaa .... Waark
A: Sorry, Polly won’t let me go there.

Q: Where will she let you go?
A: To the geology of oil, which turns out to matter. Morris Adelman did not bother to think much about it.

Q: What didn’t he do?
A: He didn’t expand his thinking enough to consider that maybe restrictive arrangements, which are ALWAYS associated with new oil provinces, might be there for some reason besides pure human greed -- not to take anything away from pure human greed, you understand.

Q: Okay, but what about his point about development costs of oil being stable over the long term?
A: Prof. Adelman is an ingenious fellow, and he found a way to make the same mistake two times in a row.

Q: Two times in a row – what are you talking about?
A: He misunderstood the economic implications of the geology of oil in two different ways.

Q: How so?
A: “The geology of oil” means in practice that there are a small number of huge oil fields and provinces out there, e.g. Ghawar, Cantarell, Burgan, Shabah, Samotlor, the North Sea, and a few more. When were these huge fields and oil provinces discovered?

Q: You tell me. You are the guy with all the answers.
A: Most in the 1940s and 1950s, a few in the 1960s, which is to say, most of them were discovered 50 or more years ago, and even now, after all these decades, these big fields provide a surprisingly high percentage of crude pulled from the crust of the earth.

Q: So you are saying that Adelman was making a universal law out of a unique event?
A: That is exactly what I am saying. When he was writing in the 1980s and 1990s, the situation he described of “stable development costs” was indeed the case. However, the reason that it was the case was because humanity was, during those decades, tapping into and drawing crude oil from a small number of immense deposits.

Q: In other words...
A: In other words, Prof. Adelman was confusing a temporary state of the world with a permanent state of the world. The mistake he made two times in a row was not to understand a matter that you would think that an oil economist might actually have spent some time thinking about, the geology of oil.



IV

Q: Okay, what is the next thing you are going to say about oil and economics?
A: What else but marginal costs. I am going to say that there is a pattern associated with them, which is pretty simple over the long haul, even though impossible to measure with any degree of precision.

Q: Which is?
A: They fall and then they rise.

Q: You have already said this about ten times.
A: There are implications...

Q: Is one of these implications this thing that we hear a lot about these days, Hubbert’s peak or so called peak oil?
A: Related but not exactly.

Q: Related, in what way?
A: The idea behind peak oil is that there is a limit to the rate at which oil can be drawn out of the ground. The idea is useful even though ad hoc.

Q: Add what?
A: Peak oil people talk a lot about arbitrary things, like half-way points.

Q: Half-way points?
A: When a field is half depleted, they say, it is not possible to increase the rate at which you draw oil from that particular field.

Q: Why?
A: They don’t give clear reasons, and tend to engage in a lot of hand-waving....

Q: Hand waving?
A: Making assertions about the way things are without a clear model of why things are the way they say they are.

Q: Does this mean that they are wrong?
A: Not necessarily.

Q: Why?
A: They are weak on theory but strong on empirics.

Q: You mean “data.”
A: Yes.

Q: What are the Peak Oil people saying about the current situation?
A: They say that we are close to the half-way point when it comes to oil in the crust of the earth.

Q: Are they right?
A: I don’t know and nobody else does either.

Q: What do you mean “nobody knows?” Somebody does.
A: No. Nobody does. The world of oil is too big.

Q: Too big?
A: Far too big. Go back to what I said earlier. There are millions of people in the oil biz. There are many millions more involved at one step removed, and of course, there are billions of people who use oil. There are thousands of organizations involved in the extraction and distribution of oil, and there are an endless number of particular considerations, personalities and situations, e.g.: Arab sheiks .... the Strait of Hormuz....Nigerian tribesmen in the delta with AKs....people inventing new ways for seismic guys to look at squiggles on a computer screen.... traffic jams in LA....... Hugo Chavez.... Khordarkosky languishing in jail..... Rex Tillerson, and so on and on and on ....

Q: Meaning?
A: The complexity of the oil market is far beyond the range that one mind can encompass.

Q: So....what do we know that is reliable?
A: We’ve already discussed that question.

Q: We have?
A: Yes. The most reliable data in all of this is a price.

Q: Prices can be manipulated.
A: Sure they can be – and ARE all the time -- but with oil use reaching 85 or so million barrels a day, it is hard to manipulate the price for long.

Q: Why?
A: If you manipulate the price too high, you produce too much oil, and fill up your storage capacity. If you manipulate the price too low, you quickly exhaust your storage capacity. The size of the flow keeps the price more or less honest.

Q: You are saying that the best information that we have about the big picture of oil is the price of oil?
A: Yes, and lots of other prices linked to the price of oil, such as the rental cost of rigs, or the cost of hiring oil workers. Also, a few things are too big to hide ---- rigs, for example, which can be counted from outer space, or VLCCs plowing through the Strait of Hormuz, visible from a good vantage point on land.

Q: This is the kind of data that peak oil people look at?
A: Yes.

Q: And they have lots of it?
A: Indeed. The problem is that it is hard to know what their data mean without a good model, which they lack. All you can do is draw conclusions that are vague and tentative.

Q: What do you conclude?
A: If you look at data, look at prices, count rigs, estimate production, look at history, tabulate discovery trends, make your best guess about how much oil has been pulled out of the ground per unit of time, you have to say that based on the data at hand, there is no evidence to suggest that the assessment of the peak oil people is wrong, at least as of now.

Q: In other words, it is not possible to negate what amounts to their hypothesis --- i.e., that the rate at which oil can be pulled out of the crust of the earth is going to peak, or already has done so?
A: Yes, but as I say the conclusion is broad. Their weak model in relation to trends that are evident in their data lead to an un-nuanced conclusion: so far they are not wrong.

Q: Hmmm. That’s interesting. How much oil do they say is left?
A: Well, very roughly speaking, a trillion barrels. That is, they think that we are about half way through an original endowment of two trillion.

Q: This means that the price of oil is going to go up?
A: That is what the peak oil people say.

Q: Are they right?
A: Maybe, maybe not.

Q: What do you mean “maybe, maybe not.”
A: I mean just what I said: maybe, maybe not.

Q: What about supply and demand. How can the price of oil not go up if they are even half right? Polly, where are you when I need you? Get into this discussion and tell us about supply and demand.
A: The peak oil people have a grasp on a little bit of truth, but not on all of it.

Q: How so?
A: They understand that energy is primary.

Q: What does that mean?
A: It means that you can’t do a thing out there in what we are pleased to call “the economy” without using energy.

Q: So....?
A: So, if the cost of energy goes up, the economy is affected. A rise in the cost of energy causes a slow down in the economy.

Q: Just for the record, what do you mean when you use the word “economy?”
A: Just for the record, for now, in this context, I mean “transactions,” i.e., an exchange of something for something else.

Q: Why is energy so special to an economy?
A: Energy is a universal input, a part of every transaction. You have to use energy to make transactions--- AND, crucially, two points about energy and economy have to be kept in mind.

Q: Two? Well, let’s have ‘em.
A: A rise in the price of one major energy input --- e.g., oil --- leads to a “substitution effect.” As the price of oil goes up, you want to use less oil, and you start looking for substitutes for oil, such as coal or natural gas. This causes demand for these substitutes also to go up as well.

Q: And the other point?
A: There don’t appear to be any substitutes out there that are so abundant or so available, or that are so well suited to our current array of tools, devices and infrastructure, that as the price of oil goes up, substitutes can be found in sufficient quantity to prevent a rise in the price of energy in general.

Q: This could change.
A: Of course it could, and it will. But as of now, there are not ready substitutes at hand, so a rise in the price of oil means a rise in the price of energy in general, which means a rise in the cost of transactions, which in turn means a reduction in the number of transaction.

Polly: Squawk.....supply and demand.....supply and demand.
A: Right, Polly. Supply and demand, big time.

Q: Let me go back to an earlier statement of yours. It seems to me that you are saying something stupid.
A: How so?

Q: You are saying that if the peak oil people are right, and we face a world where there is going to be a limit on how fast we can pull oil out of the ground, we are not necessarily going to face a rise in the price of oil.
A: Right. That’s what I’m saying.

Q: You’ve lost it, man.
A: How so?

Q: If oil becomes scarce, how does it not become more costly?
A: Because of the primacy of energy.

Q: That’s the second time you have made that freaking cryptic answer. What do you mean?
A: I mean something that the peak oil people have been saying for years: you can’t have transactions (i.e., an economy) without energy.

Q: Duh.
A: You weren’t saying “duh” a minute ago.

Q: I am now. Obviously, you have to have energy to do things.
A: Yes. So trace through the chain of causation. As the price of oil goes up, the price of energy in general goes up.....

Q: Wait a cotton-picking minute. I thought you said that one consequence of peak oil would be a price of oil that is too low.
A: I did and I still do. But hear me out. Let me finish my explanation before you jump all over me.

Q: Okay, but understand, celerity is a virtue.
A: I am saying this: if the peak oil people are right, and oil extraction starts falling per unit of time, there is going to be a spike in the price of oil. But the matter does not stop there.....

Q: ....because of the primacy of energy.
A: Right. Exactly. High oil prices torpedo the economy, causing the number of transactions to fall. As transactions fall, the demand for oil falls, hence its price, as Polly will tell you.

Q: Okay .... so far so good.....
A: Now, think about the price of oil not as a single number but as part of a series called “the oil price cycle.”

Q: What do you mean by that?
A: The price of oil, like the price of everything else, rises and falls. What I am saying is that if you look at the price of oil from one peak in its price to the next peak in its price, it is going to be TOO LOW if the peak oil people are right.

Q: How the hell can that be?
A: For the reasons that I have just been trying to explain to you. Spikes in the price of oil reduce transactions – i.e. economic activity -- to such an extent that the price of oil will fall. This has consequences.

Q: On what, man ....
A: ... on lots of things, but especially on the level of investment needed to get oil out of the crust of the earth.

Q: You mean wells, rigs, pipe, jack-ups rigs, deep water platforms, and all that sort of thing.
A: Yes. All that sort of thing.

Q: You are saying that there is going to be under-investment...
A: Indeed precisely, that is what I am saying. There is going to be under-investment in energy infrastructure.

Q: Why?
A: How many times do I have to say it? BECAUSE, measured from peak to peak, or trough to trough, the price of oil is going to be too low to induce the level of investment needed to stop spikes from occurring and then re-occurring.

Q: You don’t know that. You’re just guessing.
A: Of course I am. My GUESS is that investment will lag, and that the oil biz will be marked by price spikes then crashes. In fact, I will go so far to say that one argument in favor of the accuracy of the idea of peak oil is precisely that a pattern will emerge of spikes in the price of oil followed by crashes in the price of oil, at least for a while.


V

Q: Hmm, clearly, a problem, but still, you said that there were, or there seems to be, or at least some people think that there is at least a trillion barrels of oil still available.
A: Yes, always assuming that the peak oil people are right, which we don’t know to be the case. We only know that so far they are not wrong.

Q: Okay, here is my next question: if the supply chain of oil breaks down because of oil’s unique characteristics in relation to the economy, why don’t we set the government to work on the problem, by which I mean, get government to make the level of investment needed to extract oil still in the ground at a rate fast enough to help us.
A: Won’t work.

Q: What do you mean that it won’t work? Just freaking do it.
A: Won’t work.

Q: This is going to sound heretical to those of you who bow before the graven image of Adam Smith, but my response is: people need oil. By your own admission the incentive structure of oil extraction is screwed up. Let the government do whatever it takes to get access to the considerable amount of oil that yet remains, so that we can buy ourselves a little time to make a transition to something else.
A: Won’t work.

Q: Is that all you can say? We need another damn parrot.
Polly: SQUAWK...... SQUAWK.
A: That was a very uncouth remark; you offended Polly.

Q: Sorry, Polly, but your friend was being repetitious to the point of tedium.
A: If I understand what you are saying, you want to socialize the oil industry.

Q: Yes.
A: I see that it is going to be necessary to rip away the veil of money and get at what is really going on.

Q: What the heck are you talking about now?
A: You haven’t really understood the discussion so far.

Q: I haven’t?
A: To get a barrel of oil out of the ground takes a certain amount of effort and stuff, as for example: steel, computer power, machines, tools, and above all people and the knowledge that people have accumulated over more than a century and a half.

Q: Yeah, yeah, obviously.....
A: Which means: to get crude oil out of the ground and change it into a form that is useful takes labor and capital that could be used somewhere else.

Q: Obviously.
A: Which means that somebody has to make decisions about what goes where i.e., how much steel is to go to rigs in the Gulf of Mexico, versus how much steel is to go to Donald Trump for his next high-rise condo, versus how much steel is to go to rebuild that collapsed bridge in Minneapolis...

Q: Yeah, yeah...duh....so what?
A: Your proposal amounts to this: you want politicians to decide where steel is to go?

Q: Yes. When you get right down to it, the answer is yes. We need oil. Let’s get it, and socialize the costs.
A: You want steel NOT to go to the person who wants it the most, say, Donald Trump, but instead, you want it to go where a politician says that it should go.

Q: You cannot possibly be serious. You cannot possibly want Donald Trump, that paragon of bad taste, to have anything, especially steel for one more of his hideous erections?
Polly: .............
A: Calm down, Polly. No, I don’t want Donald Trump to have even five feet of re-bar, but you can’t deny it to him without creating bigger problems somewhere else.

Q: What are you saying?
A: I want you to think about something for a minute: what type of man is a politician?

Q: Why the hell does it matter what type of man a politician is?
A: You want to socialize oil production. This means that you want politicians to make decisions about where steel is to go.

Q: Rather than markets, you mean?
A: Yes. Hence my question: what kind of man is a politician?

Q: You tell me, answer man.
A: A politician is a man who is good at getting what he wants from other human beings.

Q: I suppose you could say he is.
A: ... which is why he IS a politician.

Q: What are you driving at?
A: A man who is good at politics is one type of man. A man who is good at drilling holes in the ground --- when “ground” is an elusive concept 5000 feet below the surface of the water out in the Gulf of Mexico --- is another type of man.

Q: I still don’t get what you are driving at?
A: You think a guy who is good at drilling holes in 5000 feet of water is also going to be good at smoozing, at slapping people on the back, at ass-kissing, at intimidation -- at both ass-kissing and intimidation with the same person at the same time -- at deal making, at pulling off quid pro quos, at log rolling, at compromising here in order to get something there, at getting other human beings to think that he really, really, REALLY cares about their problems when he doesn’t give a damn about their stupid problems....

Q: I don’t quite see the relevance of this outburst of rhetorical excess...
A: Not see the relevance! If you let politicians make decisions, the guy who is good at finding oil will not get the job of looking for it.

Q: Why?
A: Politicians make decisions BASED ON SUBJECTIVE EVALUATIONS.

Q: Which means?
A: Politician will make decisions based on what they feel, just like all the rest of us do.

Q: So....what does a politician feel?
A: Ah, finally a good question. He feels the drive of ambition. He feels pain -- or the possibility of pain -- from other politicos back in the Senate or from people in a crucial coalition back in his home state. He feels pressure from government bureaucrats. He feels the pleasure -- or the possibility of pleasure -- from goodies that come in lots of shapes, including of the female variety, offered to him by lobbyists, who swarm like flies.

Polly: Aaaarkkkk.
A: Polly, what is your problem? I’m not being risqué, I’m being realistic.

Q: Yeah, he probably is, Polly, at least from what I’ve seen.
A: On the other hand, the guy who is good at finding oil under 5000 feet of water is probably not suave. He is, in fact, just the type to tell a politician to go stick it where the sun don’t shine, or something diplomatic like that.

Q: So....
A: So, when a political decision is made in these matters, the man who is good at drilling holes five thousand feet below the surface of the water is unlikely to get the job.

Q: If I understand you correctly, you are saying that the political allocation of resources leads to a personnel problem.
A: Well, yes, right, if by a personnel problem you mean an absolute, flat-out, vitamin-enriched, 100 percent guaranteed screw up --- yes, a personnel problem.

Q: You must believe that free markets will solve your problem as if by an invisible hand – or should I more accurately say, “as if by magic?”
A: No, I do not believe that the invisible hand will solve my problems. I believe in human stupidity, which however, even so, sometimes, under the right conditions, can be pushed back a few centimeters, thereby increasing by a small amount the odds that the right person will be in the right place at the right time ... of course, at the cost of causing other problems in other places.

Q: What is your bottom line conclusion?
A: We operate under a lot of constraints, one of which is that if we let politicians allocate resources, then the people who are good at politics NOW, who are dominating the political system NOW, who are running the political show NOW, are going to be the ones who make decisions about what is to go where, and who is going to benefit.

Q: You think so?
A: No, I don’t think so. I know so. Now let me ask you question for a change.

Q: Ask away.
A: Do you like what the current crop of politicians has been doing for you over the last few years?

Q: Well....um ....eh....er.....
A: I didn’t think so.


VI



Q: You said that there is a pattern linked to marginal costs.
A: I did. They start high, they fall, and they rise back up again.

Q: My question is this: where are we now? Is the marginal cost of oil production falling or rising?
A: Depends.

Q: I mean, looking at the big picture, at the oil extraction process as a whole, not at one particular field or even one particular region or province?
A: Good question. The correct answer is that absolutely nobody knows. However, being economists, we are not going to let such a trivial detail stop us, are we, Polly.......
Polly: squawk...squawk....arrrwk

Q: You’re not?
A: No, of course not. My guess is that we have just recently tipped over, that is, when it comes to oil extraction at the macro level, we have gone from falling to rising marginal cost.

Q: Why do you think that we have left the era of falling marginal costs of oil?
A: I haven’t noticed that the cost of the next barrel of oil is converging on zero.

Q: Is transition to a world of rising marginal cost important?
A: It is of major importance, maybe the most important change of the last two centuries.

Q: With respect to what?
A: The economy.

Q: You mean transactions?
A: Right.

Q: ....because every single one of them needs an input of energy?
A: Right, which means: the more transactions the more demand for energy.

Q: That’s your model?
A: Yes.

Q: Your simplified picture of reality.
A: Yes.

Q: And your model says what?
A: It says that as the cost of energy goes up, the cost of transactions goes up, and as the cost of transactions goes up, the number of transactions goes down.
Polly: ....supply and demand.....supply and demand.

Q: You think transactions are crucial?
A: They add up to this thing that we label with a name: “economy.”

Q: Haven’t transactions been going through the roof lately?
A: Yes.

Q: So your model is bunk.
A: Why do you say that?

Q: If we have gone over to a regime of rising marginal costs, then the cost of transactions should be going up, and therefore the number of them should be going down.
A: Keep in mind that the switch to a regime of rising marginal cost has been happening (IF it has been happening) in the last few years, so we have just come through a period of time when the marginal cost of oil reached its lowest point.

Q: You think so.
A: I do.

Q: Based on what?
A: Our old friend, the geology of oil. From the 1940s until the end of the 20th century, oil extraction was stable, making it possible for us to happily burn our way through a trillion barrels of the stuff, lots of which came from giant oil fields and provinces which, although small in number were large in output.

Q: What is your point?
A: During the second half of the 20th century we hit the bottom of the marginal cost curve.

Q: And you say that this is related to those big oil provinces?
A: Yes.

Q: In what way?
A: Our long experience with the big oil provinces allowed us -- for decades -- to keep the marginal cost of a barrel of oil heading down, mainly by extracting, transporting and refining oil in ever larger quantities, and yes, also (tip of the hat to Prof. Adelman) by developing better technology.

Q: But you say that this is coming to an end?
A: It is coming to an end, or very likely, has already come to an end, the consequence of which is that for the first time ever we face a different problem.

Q: Which is....?
Q: A steady, long term rising marginal cost of oil, which then gets reflected by direct effect, and by substitution effect, into a rising cost of energy.

Q: Why is rising marginal cost a problem?
A: If the marginal cost of energy starts rising, then we face all sorts of consequences for which we are unprepared.

Q: Why?
A: We have been living for two and a half centuries in a regime in which the marginal cost of energy has been trending down.

Q: Two and a half centuries? I thought the age of oil started in 1859? That isn’t two and a half centuries ago.
A: I’m throwing in the age of coal, which likely started in the 1740s.

Q: You are saying that since the middle of the 18th Century, we have been .... er .....what??.
A: We have been gathering experience about and learning how to take advantage of energy locked in fossil fuels, the marginal cost of which has been on a down slope the entire time.

Q: What did it lead to?
A: Circumspire.
Q: Huh?
A: That’s Latin for “look around.”

A: Laa-dee-da. Arn’t we erudite. Look around at what?
Q: At everything, but in particular at the abundance of techniques invented in the last few centuries to take advantage of energy embedded in fossil fuels.

Q: I repeat myself yet again: what’s your point?
A: My point is that A VERY LONG TERM fall in the marginal cost of energy facilitated huge accumulations of physical and human capital.

Q: You cannot in any way prove this assertion.
A: No, of course not, but I can think about it, and worry about what happens now as we face regime change – i.e. transition from falling to rising marginal cost energy.

Q: What is the nature of your concern?
A: Suppose you have a machine that does something useful. Suppose, also, that in order to run your machine you use five barrels of oil per week.

Q: Okay, I am now in the act of supposing this very thing ....
A: What does it imply?

Q: What does what imply?
A: What does it mean to say that it takes five barrels of oil to run your machine?

Q: (Polly, how can you stand hanging out with this guy?) Let me see ... hmm ... a truly profound question. Can I get my mind around it. Let’s see ..... it means that I don’t use four barrels of oil, and it means that I don’t use six barrels. No, eureka, it means that I use FIVE barrels of oil.
A: The question is serious.

Q: In what possible way?
A: When you use five barrels of oil, you are using up something that comes out of the earth.

Q: The complexity of this discussion overwhelms me.
A: In addition to oil, you use something else as well?

Q: Besides my time, what could that be?
A: .... all the resources that it took to get five barrels of oil out of the ground and into your hands in a form that is useful.

Q: You mean like human effort, steel, education of your workforce, food for workers, energy all around.....?
A: Right.

Q: Where are you going with this?
A: Falling marginal cost means WHAT in relation to the effort that it takes to get five barrels of oil to you?

Q: I guess it means that it takes a little bit less in the way of steel and food and labor and all of those other things you mentioned.
A: Yes, on the whole, most of the time, roughly speaking, in a regime of falling marginal cost, the five barrels that you will use next week are going to require LESS in the way of inputs compared to the five barrels that you used last week.

Q: I suppose so.
A: A fall of inputs (per unit of output, you understand) is what drives the decline in the marginal cost of oil.

Q: I guess this is almost obvious, once you think about what it means to have falling marginal cost.
A: In my profession the obvious is hard to see.

Q: You think?
A: Yes. The blatant is harder to see, and hardest of all to see is the painfully obvious, or at least, the obvious that is painful.

Q: Hard, harder, hardest? Is this a lesson in English grammar or something?
A: No.

Q: So what are you getting at?
A: ... in a regime of falling marginal costs you use less in the way of resources next week -- compared to last week -- to get the five barrels of oil that you need, which means, to do your job, THE SAME JOB THAT YOU DID LAST WEEK, you use less in the way of resources.

Q: Hmmm......
A: Which means (in a regime of falling marginal costs of energy) resources are constantly being freed up.

Q: Freed up?
A: Made available to be used by somebody who until that moment did not have access to them because you did.

Q: Let me think about that. A fall in the marginal cost of energy means resource become available......
A: Yes. Yes. Think of resources as part of a resource stream that has been established and is up and running. You dip into it – indirectly – each week when you buy five barrels of oil. If the marginal cost of oil is falling, then with each passing week you dip into the resource stream a bit less compared to the week before.

Q: I see, and because you dip a bit less, a bit more is available to be used by somebody else.
A: Exactly.

Q: So, what happens?
A: New people dip into the stream, and start making transactions --- that is to say, they start making new, more or bigger transactions. This leads to an increase in the demand for oil.

Q: Yes?
A: Yes indeed, and guess what: this additional oil (in a regime of falling marginal cost oil) is lower marginal cost oil, which means, although more oil is being used, EVERYBODY who has until then been using oil to get a job done takes less out of the resource stream to get that same job done.

Q: I think I’m beginning to grasp what you are getting at. Falling marginal cost oil sets up a feed-back loop that facilitates transactions. More transactions bring on more demand for more oil, which (in a regime of falling marginal cost oil) frees up resources yet again, and leads to yet more transactions.....
A: Yes, right, exactly, you got it. Let the process run for a few centuries, and when you look around, you will see in every direction the work of man.
Polly: Squawk.....wwwaaaaamt
A: Polly, you are so P.C. Everywhere you look you sure as heck will also see the work of woman.

Q: I still don’t know where are you going with this?
A: There is a catch.

Q: A catch?
A: There is fine print in the contract that nobody has been paying attention to.

Q: I weary of repeating myself, but what are you talking about now?
A: At some point the process has to turn around and start running in the other direction?

Q: What the heck is he talking about, Polly?
Polly: squawk...squawk.... supply and demand....
A: No, Polly, for once you are wrong. I am not talking about supply and demand. I am talking about the marginal cost of oil.

Q: What are you saying about it?
A: Just what we have been saying all along. We have likely passed into an era when it is rising.

Q: Which means?
A: How many times, oh Lord, do I have to repeat myself? It means that now -- compared to last week -- it takes MORE labor to get your job done, MORE gasoline, MORE steel, MORE food, MORE dipping into the resource stream.

Q: Hence, I suppose you are saying, LESS in the way of freed up resources available for somebody else.
A: Exactly. Instead of being in a world of constant, long term, freeing up of resources, we are in a world where, with each passing day, it takes more resources for everybody – EVERYBODY, you understand -- to do tomorrow what they did yesterday.

Q: Hmmm .... resources less available because more needed to get the next barrel of oil.......
A: Yes. But...

Q: But what?
A: Make sure in your thinking that you work your way far enough down the road to reach a crucial conclusion, then THINK about it.

Q: Well, tell me in words, answer man.
A: The same job tomorrow, compared to yesterday (in a regime of rising marginal cost oil), is going to take more resources to do.

Q: Yes, that is rather immense, isn’t it, assuming that you have thought this through correctly. What do you think is going to happen?
A: Lots of things, but of one stands out. Those on the inside, but located at the edge of the inside, are going to find themselves under pressure.

Q: To do what....
A: To get what they have to get in order to stay on the inside.....

Q: What is going to happen?
A: I don’t know, but I assume trouble.

Q: Of what sort?
A: Social, by which I mean: people getting along with people.

Q: Why?
A: The difficulties of coming in the door are likely to be small compared to the difficulties that arise when people find themselves being pushed out the door.

Q: Does a solution exist?
A: I don’t know. Maybe an increase in productivity...

Q: What is productivity?
A: Output per unit of input. But, unfortunately, a rising marginal cost of oil (hence of energy) means an increase in the amount of output per unit of input is going to be hard to achieve, because each additional unit of input itself is going to require a little more in the way of inputs.

Q: Won’t we invent our way out of the problem?
A: Are you converting to the Morris Adelman religion of technology?

Q: We have a good track record when it comes to tech.
A: Yes, in a regime of falling marginal costs of energy, we do.

Q: Are you saying that we will NOT invent our way out of our problems?
A: I lack the gift of prophecy, so I do not know. But I have an observation to make. If we invent our way out of the problem, the invention is going to have to be related to energy. Specifically, it is going to have to allow us to resume the pattern of a long-term falling marginal cost of energy.

Q: Why?
A: Otherwise, nothing changes. If the marginal cost of energy is rising, we are going to have to throw ever more resources into the production of energy, and this is going to affect the entire system.


VII

Q: As I think about your analysis I have a problem.
A: You do.

Q: Yes I do, and the reason I do is because I have something else -- call it “memory.” I actually remember what you said earlier.
A: I stand by what I said.

Q: You are going to have to stand by a contradiction.
A: What do you mean?

Q: Earlier you said that one consequence of peak oil is a low price of oil. Now you are saying that we face a rising marginal cost of oil. Surely, one consequence of a rising marginal cost of oil is an ever higher price of oil.
A: Good question.

Q: Damn right it is – so good that it leaves your argument in danger of being nothing more than a grease slick on the surface of the water.
A: Maybe, maybe not. Let’s sort things out a bit.

Q: Sort away, dude.
A: I don’t know if I am right, but I do know with absolute certainty that the cost of energy does appear NOT to be converging on zero....

Q: Yeah, yeah, you have made that point already.
A: This means that we likely are (or soon will be) living through a vast, tectonic shift.

Q: From a regime of falling to one of rising marginal cost oil.
A: Exactly.

Q: This will put upward pressure on the price of oil.
A: Right.

Q: But you said a while back that the price of oil is going to be too low.
A: Yes, too low price from cycle peak to cycle peak, which is one of the most convincing bits of evidence that I can point to suggesting that the peak oil thesis has validity.

Q: It sounds to me as if you are confused.
A: No, the situation is confused. We have two major tendencies in place --- but working at cross purposes.

Q: What do you mean?
A: One tendency keeps the price of oil too low peak to peak; the other tendency pushes up the price of oil.

Q: How are the two going to be reconciled?
A: I don’t know, except it seems to me that we can with some confidence predict that oil prices are going to be volatile, itself a tendency that discourages oil exploration and production.

Q: Why?
A: The price of oil might be high now, but who knows what it will be four or five years from now when your billion dollar deepwater complex comes on line?
Q: During some periods of time the price of oil is going to be low.
A: Yes.

Q: Won’t somebody be able to benefit?
A: Yes, they will.

Q: Who?
A: I have thoughts about this matter, but they are speculative.

Q: .... as if what you have been saying all along isn’t.....
A: We have to notice some non-oil things -- rather, that is, let me say, we have to notice some non-oil things that in my opinion are linked to oil in one way or another.

Q: What are you talking about?
A: The level of debt in most “advanced” countries. It is high.

Q: Level of debt?
A: Yes. My guess is that this high level is related to oil.

Q: How so?
A: Because of the marginal cost of oil.

Q: I am not following you, which is not surprising since you are not being clear.
A: A regime of falling marginal cost of energy lasted for centuries, and was especially pronounced during the post war decades, as we drew down the big oil fields and provinces.

Q: What came out of it?
A: Stability. Not in an absolute sense, for sure, but for a turbulent and restless creature like ourselves, relative stability.

Q: You think so?
A: I do. This stability in turn had consequences. It allowed people to adopt a particular strategy. They borrowed money to set up productive enterprises. These enterprises then began pouring a stream of income into a situation we have already talked about, one of declining marginal cost of energy.

Q: What came out of it?
A: People were able to use the income stream of their productive enterprises to amortize the loans they took out to set up the enterprise. But matters did not stop there. They also took out loans for a vast array of other things, beginning with necessities and ending with absurdities.

Q: What do you mean?
A: First, they borrowed to build factories and railroads; then they borrowed to build schools and libraries; then they borrowed to build entire neighborhoods, and then after a while they began borrowing to buy motor boats only one person could ride in .......

Q: Then came “regime change?”
A: So it did, from falling to rising marginal cost oil.

Q: Causing what to happen?
A: We expect to be richer than the previous generation, but it isn't going to happen in the new regime. Our response seems to be NOT graceful acceptance of the reality of our new situation. Rather, we dig in our heels and refuse to cede ground. We cling to the strategy of borrowing money, only now, we borrow it to maintain ourselves in the manner to which we thought that we had the right to become accustomed?

Q: How can we borrow so much?
A: We have a lot of collateral.

Q: ....built up over the centuries of falling marginal cost energy.
A: Yes.

Q: In the strategy working?
A: ... the strategy of borrowing to maintain what we are pleased to call our “lifestyle?”

Q: Yes, that strategy.
A: No. It can't work.

Q: Why?
A: Strip away the veil of money and look at what is happening.

Q: Yeah?
A: We are running down, and not replacing, our capital, especially now our social capital.

Q: But even so, according to your story, there are going to be periods of time when the price of oil is low.
A: Yes.

Q: Somebody is going to be able to take advantage of periods of low prices?
A: Yes, people with healthy balance sheets, most likely in places like
like China, Brazil, India, Turkey, even Russia to some extent.

Q: If I understand what you are saying, your idea is that reconciliation of the two tendencies at work on the price of oil is going to result in a shift of oil usage from us to people in foreign countries.
A: Right, at least in the short term.

Q: This is reconciliation but is it a solution?
A: No.

Q: What do you think is going to happen in a little bit more than the short run?
A: I keep telling you: I lack the gift of prophecy.

Q: Still, it’s useful to think about things.
A: Well, you always have to go back to the idea of marginal cost and what it is doing, or soon will be doing when it comes to oil.

Q: Rising.
A: Yes, right, rising, which we haven't begun to have thought enough about.

Q: Why do you say that?
A: We are casual about maintaining our inventory of capital probably because we underestimate the cost of building new capital and of maintaining old capital.

Q: Why the underestimation?
A: A falling marginal cost of energy gave us a subsidy that we fail to appreciate and account for. Now, however, with regime change, our measures are obsolete.

Q: I thought we couldn’t measure the marginal cost of oil, anyway?
A: We can’t, so we have depended on experience, on historical data, and on rules of thumb, that is to say, we have depended on the art, the wisdom and the experience of engineers and entrepreneurs.

Q: Hasn’t this always been the case?
A: Yes, but we are at a turning point.

Q: Oh, I see what you are saying. Our data are based on a situation now no longer existent, or in any case is changing.
A: Right.

Q: Won’t good information emerge, be accepted and then acted upon?
A: The process takes time and pain.

Q: Why?
A: We are going to resist drawing conclusions.

Q: Why?
A: .... the conclusions to be drawn are not going to be ones that we like.

Q: You don’t think we can anticipate problems, and make adjustments.
A: The problem runs deep.

Q: How so?
A: Obsolete assumptions about oil and energy are built into political settlements ... are frozen into institutional structures ....are rooted in expectations .... are woven into compromises between contending groups. To bring assumptions up to date will have consequences.

Q: Such as?
A: A vast number of human arrangements -- glued together over the centuries by hard work, luck, and genius, and in some cases at the cost of no small amount of blood -- will have to be re-worked.

Q: If your argument is correct, these human arrangements are going to become unglued anyway, so we should start dealing with the problem now.
A: We should but probably we won’t.

Q: Why?
A: The transition to the new regime of rising marginal costs is going to be hard.

Q: Why?
A: There is no way to make the transition without most of us becoming worse off, while some of us, a few of us, remain the same or maybe even become better off.

Q: I ask yet again, why do you say that, answer man?
A: Small, powerful, concentrated, well-organized coalitions are able to defend themselves better than large, diffuse ones.

Q: Can’t we all decide together to make the transition in some way that is fair, and that we all can agree to?
A: We can but to do so we need a story.

Q: A story? What?
A: ....a good narrative to tell to ourselves ....

Q: You mean about why sacrifices are necessary, about why some of us are going to end up having to bear more in the way of burdens than others at least for a while, about why good decisions made now are going to bear NO fruit until maybe even several generations from now.
A: Yes, exactly, when all is said and done, we have to have a story that gives us an agreed upon sense that justice is being done.

Q: What’s the problem? Let’s get busy and think up a story.
A: Ah, but you see, you don’t get something for nothing. Stories have dangers.

Q: In what way?
A: In telling stories, the constraints are loose.

Q: What do you mean?
A: Suppose in your story you assume that 2+2=5.

Q: Huh? You’re crazy.
A: No, not at all. Stories are stories. You have latitude when you tell them. “In my factory” -- you say -– “you produce one hundred units per hour, and at the end of an eight day you will have 1000 units.”

Q: Dude, that’s incoherent. You really have lost it this time.
A: If you want realism, you don’t need a story. All you have to do is look around. Everyday life is realism. We have plenty of that. It is not what we want.

Q: What do we want?
A: Possibility. Everybody is entranced by a story of possibility. It makes us feel hopeful and engaged.

Q: Why?
A: All of us sense that more of the good life is possible than we now know.

Q: You think so?
A: Yes, I do. One of our better traits as a creature is the way that a good story creates in us a sense of hope, and hope creates a willingness to sacrifice. We are energized by a good story. When we hear one we set about trying to find ways to translate it into practice.

Q: Then trouble starts.
A: Ah, yes, indeed, then trouble starts big time. 2+2 keeps adding up to 4, no matter how committed we are, no matter now many sacrifices we make, no matter how many laws we pass, no matter how many re-education courses we impose, no matter how many hidebound, addition-addled reactionaries we send to the Gulag.

Q: Is it going to get sorted out?
A: In one way or another, yes.

Q: Will there be power and violence?
A: .....when have there not been....

Q: This is discouraging. I guess at the very least we are going to have to learn to walk more, and certainly not expect to fly all over the place....
Polly: .....squawk.....aaakkk,....Paaaa fffffeaallllllessb bbbbb HAAARH ffffffllllllliiiiiiiihhhhharrrrr!!

Q: What got into Polly?
A: She hasn’t forgotten that remark of yours about “needing another parrot.”

Q: What did she say?
A: It wasn't a compliment.

Q: Well, go ahead and tell me.
A: She called you a monochromatic, over-sized spider monkey.

Q: Gee, thanks, Polly.
Polly: Aaarkk Yeeeeaaat vishhtt ennnn whilseeeete llllliiiisssee.

Q: And now, she is saying what?
A: ...that if you want to plod across the surface of earth, putting one big, fat foot in front of the other, be her guest -- but she is going to fly as much as she darn well pleases.

Q: I guess she’s going to take advantage of her advantages.
A: You better believe. She’s that type of gal.