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Oil Demand Destruction & Brittle Systems
Posted by jeffvail on August 20, 2008 - 10:08am
Topic: Economics/Finance
Tags: brittle systems, demand destruction, efficiency, elasticity, inelasticity, original, resilience [list all tags]
I've seen a number of comments, both at TheOilDrum and elsewhere, suggesting that the US is now less susceptible to supply disruptions because we have reduced our demand for oil by several hundred thousand barrels per day over the past year. In general, I get the sense that people think we can insulate ourselves from supply disruptions, from our dependence on potentially unreliable foreign sources of oil, by improving our efficiency and eliminating "unnecessary" oil consumption. In my opinion, this is backward. In this post, I will argue that, because the demand that is destroyed first in a free market is the demand that is easiest to eliminate, the resulting consumptive system is more inelastic, more brittle, and more susceptible to systemic shock from supply disruption. I will approach this argument by outlining what makes a system either resilient or brittle and why market-driven demand destruction creates a more brittle system. I will conclude with a few thoughts on how we can increase the resiliency of our energy-driven economy in a future environment of declining energy supplies.
Figure 1: A hypothetical model of market-driven demand destruction illustrates the theory that the highest elasticity demand is destroyed first. This results in the remaining demand being, in aggregate, more inelastic. "E" figures are meant only as relative measures of demand elasticity and are not meant as actual values for price elasticity of demand.
What Makes Systems Resilient or Brittle?
A system is brittle if it is unable to effectively absorb shock. Consider a plate glass window in comparison to a trampoline net. The plate glass window can take a significant shock without budging, but at some point it can no longer absorb an impact and fractures. It is brittle. The trampoline net, on the other hand, will be moved by even a minor impact, but because of its ability to deform and stretch, it will not fracture (or tear) until far greater stress is applied then is needed to break the glass window. The trampoline is resilient. These same qualities of "brittle" and "resilient" apply to economies and financial markets.
The Problem with Brittle Systems
When an economic or financial system is brittle, it is less able to absorb the impact of a shock or ongoing stress--say, a geopolitical disruption to oil supplies, or the ongoing, grinding problem of geological peak oil. When a system is resilient it tends to be able to absorb such impacts, giving the underlying system time to reorganize to eliminate or mitigate the stress event. When a system is brittle, however, it is more likely to shatter, after which point it can no longer bounce back to its original shape. When an economic system shatters, we call it "collapse"--the system enters a downward spiral into depression and dissolution. This is one of the "worst case scenarios" for the impact of peak oil--that it will overstress a brittle global economic system and act as the catalyst for economic, even societal collapse.
For this reason, it is important to understand what makes our economic system brittle or resilient, and how our personal economic choices and political/policy choices can influence the character of the system. In this post, I will look specifically at the how crude oil demand destruction changes the systemic elasticity of demand for oil, and how this makes our economic system more brittle.
Why Demand Destruction Makes a System More Brittle
The basic mechanism underlying this theory is that, when forced to eliminate consumption of oil, individuals, and the market in aggregate, will eliminate the most discretionary consumption first. As a result, the remaining consumption will be more valuable to the individual, firm, or economy in terms of GDP or quality of life produced per barrel of oil consumed. This remaining demand is more inelastic. When the oil demand--whether it is for a family, industry, or nation--becomes more inelastic there is greater exposure to supply disruptions.
For example, the US economy that consumed roughly 20 million barrels of oil per day in 2007 was less vulnerable to a theoretical geopolitical disruption removing 5 million barrels of oil per day from the world market (say, war with Iran) than a future US economy that only consumes 10 million barrels per day due to market-driven demand destruction. The reason is that, presumably, that future US economy cut the least valuable, most discretionary 10 million barrels per day of consumption, and the remaining 10 million barrels per day of demand is far more inelastic.
Is Market-Driven Demand Destruction an Example of a Market Failure?
The tendency of a free market to cut the most elastic demand first seems to be an example of market failure--that is, where the market action produces a long-term result that runs counter to the goals of the market mechanism. One of the classic causes of market failure is where the market acts to optimize short-term benefit, but in the process creates significant long-term problems that aren't adequately accounted for due to inability to incorporate these long term costs in the analysis of present decisions.
We saw exactly this in the rush to extend credit to increasingly low income home buyers resulting in today's "credit crunch," and I predict that we are currently seeing a similar market failure in the market's destruction of the most elastic demand first. The result will be an increasing vulnerability to future supply disruptions--unfortunately, this will come exactly as the likelihood of more severe supply disruptions increases, as I discussed in my recent article on Geopolitical Feedback Loops.
Measuring Inelasticity: Is it Purely a Price Issue?
The standard measure of demand elasticity is as a function of price. Unfortunately, this is not necessarily a good measure of the impact on systemic resiliency. Even if prices are going down, demand inelasticity can be increasing if the cause for the price drop is that high prices have caused an economic downturn that is eliminating the most elastic oil demand. There are indications that this is exactly what is happening at present--high prices are creating demand destruction, at least in the US, but the demand that is being eliminated appears to be the most elastic consumption. A better measure of the impact of demand inelasticity on systemic resiliency may be price as a percentage of median disposable income.
Comparing the Credit Default Swap system to Demand Destruction
It is useful to compare the process of increasing inelasticity of demand due to market-driven demand destruction with the systemic brittleness created by the mushrooming market for credit default swaps. I've written a brief explanation of this shadowy corner of the financial world in Financial Wizardry & Collapse. In brief, by spreading the risk of default on corporate bonds very thinly and widely, the global financial system becomes superficially more resilient as it is better able to absorb a handful of major failures. However, because the system is so interconnected, at some tipping point of numerous defaults, the entire system would crash at once. The result is a system that is actually far more brittle.
The credit default swap (CDS) system is in some ways useful in understanding how to reduce the brittleness caused by market-driven oil demand destruction. In the CDS system, individual corporations or issuers essentially bet on the viability of corporate bonds--they have the power to choose their level of exposure. Of course, in seeking to maximize profits, there is a trend to maximizing revenues by maximizing exposure to systemic default. Participants can, however, participate in the system while maintaining a safe, low level of overall exposure--a level where they could absorb the impact of simultaneous default of every position they hold. The lesson, roughly applied to energy demand inelasticity, seems to be to minimize the exposure to supply disruptions of the most inelastic sources of consumption.
For example, if winter heating by heating oil is a very "important" (and thereby inelastic), source of consumption, it would make sense to move that use to a more reliable source of energy (say, passive solar design and added insulation) before converting gas-powered commuter cars to plug-in electric. This also applies to electricity and natural gas use--for example, the electricity used to pump water out of aquifers for a farmhouse is likely a very inelastic source of demand; replacing this source of energy consumption with rainwater harvesting would improve the aggregate elasticity of demand.
This seems to run counter to what the market and non-market incentives (subsidies & R&D funding) are pushing for--one reason why I think this process demonstrates a market failure--and may be a good candidate for a centrally-planned policy push. This is just one example of how the US could actually increase systemic resiliency by substituting renewable, domestic, alternative energy sources and conservation measures for the most inelastic sources of oil demand (the red section of the Figure 1, above), while retaining the more elastic and discretionary sources of oil consumption to buffer supply shocks.
What About Efficiency?
Do improvements in efficiency have the same effect as involuntary, market-driven demand destruction? Maybe. If the pace of efficiency measures decreases the scarcity of oil, then the result will be a less brittle system. However, this tends to act as a negative feedback loop, as the exact stimulus that drives investment in efficiency (high prices & scarcity) will also be eliminated by efficiency gains rapid enough to decrease the overall scarcity of oil.
Conclusion
As a result of recent demand destruction, the US economy is becoming increasingly susceptible to shocks caused by supply disruptions. The global economy appears to be following suit to some degree, though the process of demand destruction in the growing economies of China, India, Russia, and elsewhere in the developing world is currently less clear than the picture in the US. It appears that the process of demand destruction in the US is a classic example of market failure--not that it is a failure to reduce apparently "unnecessary" or frivolous consumption, but rather that by relying on market signals alone we are increasing the inelasticity of remaining demand and setting ourselves up for catastrophic system failure. While anathema to the orthodoxy (though certainly not orthopraxy) of American capitalism, it is time to consider how we must use non-market mechanisms to plan for increasing our systemic resiliency.
While this may be unlikely to happen at a national level, the need to increase resiliency is scale-free: individuals, communities, bioregions, and nations can all benefit by the increase of resiliency at any level. I have previously addressed one way to increase resiliency--by addressing the Problem of Growth that tends to "eat up" systemic resiliency. In this post I also recommended policy programs that would first transition our most inelastic demand to reliable, domestic, and renewable sources of energy.
If there is a "so what?" point to this post, that is it: rather than work to create viable, stable, renewable substitutes to the more elastic components of oil demand, we would be better served by focusing subsidies and research grants on replacing our most inelastic demand first. Implement policy and subsidy as necessary to replace or eliminate the most inelastic sources of demand first--the exact opposite of what the market would do, but the best way to increase systemic resiliency.
Nice work Jeff. The irony of the Washington Consensus trajectory of removing import substitution policies around the world is that US is as or more vulnerable than many countries. We certainly grow alot of food, make good steel, and other high necessity items, but are the required inputs to these themselves mostly imported? At what price of oil are the benefits of comparative advantage completely offset? $200? $300? I wrote here about oil, trade and basic necessity hierarchies.
Recommend evaluating global demand elasticity as a sum of first, second, and third world contributions. These have orders of magnitude different incomes and consequently very different demand elasticities. e.g., nominal incomes of $30,000, $3,000 and $300/year. Oil's 1500% price increase from 1998 to 2008 has the greatest impact on the poorest in the developing world. Use of first world SUV's drop very little compared to fuel use among the 3rd world poor.
Great post Jeff!
I personally think that gasoline demand can be dropped more than heavy fuel oil demand. Simply because diesel and heavy fuel oils are more "necessary". In other words, most of us could walk to the grocery store, but the grocery store needs deliveries from thousands of miles away.
I personally think gasoline will be much more elastic than the other fuels. This is why I believe heavy fuel oils will stay more expensive than gasoline.
Most options on the market (hybrids or soon electric and plug in hybrids) for being green reduce gasoline demand, not heavy fuel oil demand.
Proof of this is the narrowing of the price gap between gasoline and diesel in Europe. Diesel has "always" been substantially cheaper; this summer we have achieved parity, at a time when cars are consuming something like 5% to 10% less fuel than the same month last year. Personal transport is becoming prohibitively expensive; goods transport is still very cheap.
Freight by truck in Europe still seems to be growing apace; ever-greater economic integration and rationalisation, the delocalising of manufacturing to central and eastern Europe...
Growth in freight by truck in Europe might at least partly come from a relocation of manufacturing from Asia to central and eastern Europe. I've read some numbers on that, but can't recall where. It must have been written in German anyway.
Them big rigs are a rolling
diesel fuel is what they need
If you want to keep them rolling
and groceries on the shelves
best you think about tomorrow
and just slow that Hummer down
From "The end of oil is coming, won't you slow that hummer down"
I see it the other way around. The heavy fuel oil demand is more concentrated on industrial uses. Many of the uses have the potential for fuel switching, or for significant fuel savings, by the substitution of human labor. Take the example of your long distance trucking. At highway speeds roughly 65% of drag is allegedly due to aerodynamic drag. This means the fuel demand, per freight mile is a rapidly increasing function of speed. So the trucker can slow down, substituting his time behind the wheel for lower fuel costs. The automobile driver can do likewise, but his fuel cost savings, measured by his expenditure of time is much lower. Exactly the same thing applies to shipping by water, lower speeds mean higher labor costs, but greatly decreased fuel costs. And this is before technological tweaks. In the case of interstate trucking, trucks could be made more aerodynamic, and a switch from single trailers to double trailers would significantly reduce fuel usage per ton mile. I would think that much of the lowest hanging fruit is in the heavy fuel sector, not the gasoline sector. How many hybrid cars would it take to save as much oil, as a single hybrid garbage truck?
EOS,
A bit of supporting data for your post.
One of my best friends operates a long haul trucking company. He told me about 6 weeks ago that at 65 average mph his trucks were burning about $12,000 of diesel per month. He decided to limit some to 55 mph and they were burning $10,000 of diesel per month over the same routes. Time to delivery, and other costs, were obviously impacted, but you can see the effect that could be achieved in terms of fuel savings should it be required.
Wyo
I thought a lot about reducing truck energy usage. The basic problem is for any real reduction (greater than 10%) of trucking fuel demand, it would take a long time to happen.
The problem is they have already tried a lot of energy reduction. When a 300 gallon tank costs $1200, they think of what they can to reduce that price. Speaking with truck drivers, they don't have options when it comes to reducing fuel use. The best one is driving slower, which will move some of them from 6.5 mpg to 7 mpg. However, it would reduce the amount of freight a trucker could deliver and thus the profit. It is not a very good option for them. Even if it did happen, it would only drop highway truck consumption by ~5% (going from 75 to 55) and less freight would be delivered.
When it comes to replacing trucks with hybrid versions, there are a few problems. Hybrid trucks are really expensive ( 100k or more than a same model diesel ), don't save much fuel (0% highway, 10-20% city) so they are not cost effective. Also, there really aren't many on the market. Full battery electrics are not feasible with todays technology, not an option.
On the flip side, nearly 50% more of us could take a bus/subway or ride a bike to work 3 out of 5 days a week. 10% more of us could telecommute 3 out of 5 days a week. 75% of the SUV's and trucks on the road could be replaced by economy cars (yes I know, this would take a long time, and is unlikely). We could be moved to the 4 day work week. On top of that, there are many (15+ models from major manufactures) PHEV and EV's coming onto the market within the next 5 years (and yes I drove one, they are good commuters).
Bottom line, within 5 Years, I believe that gasoline demand could drop by 25%, easily. However, diesel demand would be struggling to drop by 10%. There are just way more alternative to gasoline than there are to diesel.
Five percent seems way too low for the speed change. Got any actual data?
This article says going from 65 to 75mpg raised fuel consumption
by 27%!
http://www.greencarcongress.com/2008/05/us-trucking-ind.html
That's probably true in general. Air resistance increases roughly as the square of speed, and so is 33% higher at 75mph than 65mph.
Wyoming, above, suggested a 20% reduction in consumption from the 30% lower wind resistance at 55mph vs. 65mph, which also seems reasonable, as one would expect non-wind factors to be larger at lower speeds.
Either way, though, there are quite substantial fuel savings to be had from reducing speed a modest amount.
Market-driven efficiency can be either more or less brittle than existing systems.
For example:
1) Riding a bicycle or insulating a house makes an individual more resilient in the face of energy price increases or shortages.
2) But turning the thermostat down to 40 F in a poorly insulated house is less resilient because any energy supply interruption will result in pipes freezing and other systemic damage.
Not sure how one could determine what percentage of adaptation is increasing or decreasing resiliency.
Been thinking along those same lines - what adds to resilience and what subtracts from it?
Hi redcoltken
IMO the biggest contributor that adds to it is complexity. Our 'global' civilization is hideously complex and vulnerable to disruption, either of oil supplies or the grid. I've just read Alex Scarrows book 'Last Light' which, although a fictional novel, does bring home just how many days we would be from anarchy if the power went down. Even individual self-sufficiency would be no good if the hungry mob turned up at your allotment. Scary!
tw
I'd add one other point Jeff, on the matter of brittle vs resilient and in particular the difference between 'break' and 'shatter'. How a system breaks is critical to how it can recover and its level of resilience.
Now the electricity system can break quite spectacularly - cascade failures, etc. However its a break rather than a true shatter because bringing it back up again is a well practiced operation that can be achieved relatively quickly, with local resets etc. We can be up and running again fully within a week or two.
However something like the gas supply is a different matter. If gas stops then pilot lights go out, etc. and you can't just restart the system since its a recipe for gas explosions. As Euan has pointed out previously, restarting the gas system from a break is something people don't really know how to do. When it goes its not coming back in the same form, ever. That cascades to those dependent on it, fast and hard.
That's a system that's shattered.
In practice if a failure as cascading effects that feedback to prevent restart and feed forward to have other bigger impacts, its a shatter event and its orders of magnitude more critical than a simple break.
Most civil contingency work doesn't recognise the difference.
I was thinking of "break" and "shatter" on a civilizational level, but I think you raise an important point that applies across scale--the ability to reconstitute (break) vs. irreparability (shatter). Ultimately, it may be an accumulation (or coincidence) of multiple systems shattering that leads to civilizational failure in the energy arena.
While, generally, the electric grid may be easier to restart than the gas grid (and other examples), there are important exceptions to this as well. Hydropower, especially in some regions, represent a critical "black start" capability because they require no (or very little) electricity supplied to them in order to start generating. This is not the case with most other generation options to one degree or another, nuclear being the worst after a prolonged shutdown. Under certain types of grid failure, black start capability is a real problem...
Thanks.
The concept comes out of thoughts on terrorism and black swans, but it applies to the systems of a post peak world - which is something I've been considering.
Of course we could suffer through the slow collapse of those systems we've built up in the peak peak world. However the reality is the transition into the world we here tend to expect is likely to happen through one or more of these shatter events. Sudden catastrophic failure, rather than slow decline - on a civilisation level.
Oil, I feel, is not likely to be at the centre. Rather something that oil maintains that shatters is likely to be highlighted as the cause. Probably electrical power in some form - so much of what we call civilisation has that at its heart.
Any thoughts on what systems can shatter would be welcomed.
Yes, interesting stuff. What about road/rail/air traffic signaling? Could the mass failure of this be catastrophic to our just-in-time delivery systems, or would it be manageable?
I think the theft of electrical cable for sale as scrap seems like one of the scariest tendencies. This is happening increasingly now.
Another worrying thing is that I've heard reports of people following oil/diesel delivery trucks in order to identify where there are storage tanks that are worth stealing from, and are inadequetly protected. Many of the targets are small farms, who then often then need to pay for the clearup costs (where oil has leaked), as well as the repairs to the tanks, and the oil itself.
I'm only familiar with the UK environment by the way.
Garyp:
You said:
Unless you can provide a citation from a utility to support this assertion I would disagree.
Gas equipment with standing pilots is increasingly rare, most now uses electronic ignition. In those with pilots there is a safety on the gas valve of the equipment, If the pilot goes out it cools, and when that happens the gas is shut off, to relight you need to hold a button in by hand to allow gas to flow while relighting the pilot until the safety rewarms, this is a DIY job for most people.
The gas on our street was shut off last year due to a house fire down the block a ways, the Gas Co. just put a flier in our mailbox explaining how to relight, and to call them if we needed help with that.
There might be very old, or broken, equipment still in service with no working safety on the gas valve, in such cases it would take a very long time, probably forever in most houses given that you are likely to get more than 1 air exchange per hour just from drafts even if the windows are closed, for the tiny amount of gas from a pilot to build up to explosive levels (5% of the air volume is the minimum)
Might a house or 2 explode? Highly unlikely, but possible, but this is not a "system that's shattered".
There is an article by Euan on the UK gas supply under TOD:Europe that mentions this issue. Its not just the pilot light issue (of which my mother has one) that contribute to the collapse of the system.
One street is one thing. An entire country is another. If you just reconnect the gas and somewhere blows up, who do you think will be liable? Whatever most may have, it's what some might have that drives the problem.
As for it not being an issue, we regularly have 'gas explosions' most winters as some malfunctioning item causes just this effect and a couple of houses end up a smoking ruin (so much for air exchanges). That's with the status quo.
And if the gas is off for a few days during the winter, as it would be given the various issues, it IS a shatter event, since the feed forward effects are so severe (bring out your dead).
Garyp:
You are moving the goalposts.
Your assertion was, as I read it, that if the gas network goes down it will stay down because we don't know how to restart it, if that is your contention please provide evidence, or clarify what you meant to say.
Yes, malfunctions of equipment, and stupid contractors or owners, sometimes cause explosions (at the rate of 1 in many millions) but this was / is, I would suggest not caused by a systemic supply network failure but by individual equipment failure or human error, and is a "given" regardless of a network failure, its also I think you will find not due to pilot light issues in the vast majority of cases but from things that cause much larger rates of leakage...
Who would be liable? well, who would be liable if the Gas Company failed to restore service to customers who had contracted with them to provide it and preventable property damage or death were to result? Liability exposure cuts both ways. My expectation would be that in such an emergency gov't would backstop the risk. (I'm not American, those folks might be in a bigger difficulty in such a situation I don't know...)
Could a long winter outage cause great losses? Yes, but would that mean that the gas distribution network had been "shattered"? No, the survivors could restart the network, the network being down for some time would not, in and of itself destroy the network (again, if you can point to evidence to the contrary please do so, it's your burden of proof as the one advancing the proposition yes?).
Nice essay Jeff!
One thing your brittle/elastic analogy is missing, it seems to me, is time. As you consider price shocks, each shock (economic stressor) is a discrete event, essentially with time=0. The system must either react elastically, inelastically or with some combination of both; that makes this thought exercise a comparison of the difference between brittle and elastic behavior.
If you insert time into the equation, we get a third type of response: ductile/plastic. Window glass can undergo deformation similar to a trampoline (as long as the force operating on the window glass is modest, steady and of a very long duration), but there is no significant elasticity, because the window will remain deformed once the stress is removed. Perhaps we should attempt to model the ongoing plastic deformation of the economy?
And perhaps I am taking your analogy too far, hence deforming it!
Yes, I like the plastic deformation analogy.
For example, what we see as elasticity in gasoline demand (reduction of relatively discretionary travel etc) might, in theory, rebound like a trampoline (if prices dropped or incomes improved), but it is in fact reshaping the economy and society : giving people strong incentives to move closer to their place of work, to transport hubs, etc, and in a thousand other ways.
Various countries subsidise fossil fuel prices, and are incurring unsustainable costs in doing so. This is (take your pick) foolish, because the market would allocate resources more efficiently, or wise, because it cushions the economic and social systems from the impact that could break them.
I don't think you're deforming it, just adding in realistic complexity that also makes it less clear--funny how the real world works like that! Especially when we start modeling civilization-level resiliency, the system quickly gets so complex that there is little meaningful that we can say about it...
While I agree that as crude oil price increases, and thus product prices increase as well, that the economy becomes more and more strapped, I disagree with your conclusion. However, I disagree with your theory that demand become more inelastic with higher and higher crude oil/product prices.
As gasoline/diesel prices has risen, the use of gasoline has been very inelastic. This is because people can conveniently drive their car to work and offset the higher gasoline prices by spending less in areas which are more discretionary (i.e., change vacation plans, go to movies or go out to eat less often). However, as gasoline prices increase further, they don't have as many opportunities to save as easily to offset the higher fuel costs (for example, they don't want to loose their house), so they have to begin to save by directly lowering their fuel cost bill. They can do this by going to a 4-day work week, commuting by mass transit instead of my car, carpooling... This would result in a more elastic response to fuel price increases than their initial response.
The elasticity of demand data supports my case. Back in the early 80's when fuel costs comprised a larger portion of people's budgets and we then experienced the fuel price shocks, the price elasticity of demand was on the order of 0.2 (many studies supported this). However, more recently (the year 2000 I believe), the price elasticity of demand was estimated to be 0.07. Since the early 80s, fuel costs have comprised a lower and lower portion of their household budgets. As the crude oil price increases, though (above the $150/bbl range), I would expect to see the elasticity of demand increase and demand destruction accelerate, not diminish.
Retsel
The existing elasticity (as demonstrated by your data) is irrelevant--what matters is how demand destruction changes that elasticity. My basic argument holds here--market driven demand destruction destroys the most elastic demand first (as demand is not uniformly elastic). The resulting demand is, by definition, less elastic in aggregate.
Imagine if you have a $1 bill, a $5 bill, a $10 bill, and a $20 bill in your wallet. The average bill value is $9. If you tell your kid they can have any one bill out of the wallet, they'll most likely choose the $20. Now the average value is only 5.33. Demand elasticity works the same way. When faced with high prices, we're more likely to cut Summer road trips than ambulance miles, and the resulting demand is more inelastic.
I agree with your conclusion, that demand destruction makes the system more brittle. However, I don't think the government can respond appropriately. Given time, the market will adapt and become more elastic. Walmart has no interest in having their warehouse-on-wheels vulnerable.
On thing I wanted to point out is I've kept a budget for years, and my gasoline consumption has rarely been more than 1% of my net salary. Gasoline would have to go up pretty significantly before I felt any pinch.
You must either have a much higher income than average, or drive much less than average, or you stopped that calculation back when gasoline was around $1/gallon. For the average American, it's now something like this: 14000 miles at 20 mpg = 700 gallons, at $4/gal that's $2800 - more than 5% of a typical salary.
But "your mileage may vary". E.g., for me it's more like 200 gallons (fewer miles, more economical car). On the other hand, I need to keep a house warm through the Vermont winter...
I agree vtpeaknik,
And a rise in the price of crude oil ripples through the price structure of the entire economy, not just gasoline prices or fuel oil. :(
Given time, the market will adapt and become more elastic.
You are assigning to "the market" a quality that it definitely does not have : intelligence and foresight.
As long as the worst has not happened, "the market" does not know how to price it, and will take no adaptive measures.
But individual actors can. You are right that "Walmart has no interest in having their warehouse-on-wheels vulnerable" : it is precisely such major actors who can take adaptive action. They might evaluate a risk of a catastrophic failure of their business model at some future unknown date, and insure against it by moving to a lower-energy logistical model. But this would be more costly, therefore they will only do it if they are confident in their evaluation of risk.
They could, for example, build warehouses at rail freight locations and re-tool their truck fleet to deliver from these. This would not, in fact, increase elasticity (that would require that they maintain two alternative freight distribution methods, which they wouldn't do) but it would lower diesel demand.
However, Walmart, and other entities of their order of magnitude, are the exception : they carry as much weight as most state governments, and are capable of foresight and wisdom, if they want. The rest of businesses, and the mass of individuals, can't and won't plan for disaster.
Bottom line, Fred : the market will evolve under gradual pressure, but will absolutely not plan for catastrophic failure (and I suspect that the insurance sector is as decadent as the banking sector has proved to be! i.e. incapable of assuming its basic function of risk analysis and hedging).
Ergo, government action (regulation and taxation) is all you've got.
If we get to the point where we are debating whether or not to drive ambulances, then elasticity won't matter, as the world economy will be kaput. We have a long, long way to go in terms of demand destruction before we get to that point.
If the U.S. reduced our oil demand to be the same as Europe's, our gasoline demand would be half that of today's, and yet Europe is fine at its level of fuel use. We have a lot, a very lot, of elasticity to go before we get to that brittle point. In the extreme case, the country will go into a recession or a depression, and the elasticity numbers will be huge (the fuel demand is not so inelastic when we have a recession, as the portion of people out of work don't use much fuel).
I agree that times are different compared to the 1980s. One very important difference between how people will react to higher oil prices today versus 28 years ago is that peak oil is better understood. Many people understand now that they cannot simply go out and replace their SUV with a newer SUV with slightly better fuel economy (a V6 instead of a V8), because oil prices are likely to continue to increase. They, instead, will go out and purchase a compact or a hybrid.
In our case, my wife and I replaced our thirty eight year old 60% efficient natural gas furnace with a 400% efficient ground-sourced heat pump, at the tune of $23,000. If we thought that natural gas prices were only going to increse to $8/mmbtu, we would have put in a 90% natural gas furnace. The payout is poor at $6 or even $8/mmbtu, but at $20/mmbtu we will look like geniuses!
Retsel
But there is no constituency in the US for such action. The market is defined by existing corporate interests which see no need to "make space" for a competitor. This structural inertia is a significant aspect of the problem.
garyp brings up another important point and that is the degree of coupling between elements of the system. If there is a tight couple then a failure at point A will cause subsequent failure at point B and this will cascade through the system resulting in catastrophic failure.
Most engineered systems (my experience is with offshore drilling units - the Military and NASA employ similar methodology) will be designed to "fail safe." This ensures that any single critical component failure cannot propagate through the system. Or the system will have built in redundancies (think RAID or multiple power plants on fixed wing) or will be designed to avoid a tight couple between components (lots of small independent economic units rather than a single integrated global economy with a high degree of interdependency). And if all else fails there will be some form of lifeboat capacity. Hard to supply that for 9 billion souls.
Exactly because there is no constituency in the US for such action is why I think this is a classic market failure. I'm generally hesitant to advocate centrally-planned solutions. I guess I appease my concern for central planning in general by suggesting that we resort to "scale-free central planning." What I mean by that is that it isn't only the Federal government that should look to substitute the most inelastic demand first--individuals, communities, and businesses should do the same, and will likely have more success doing so.
I think your comment on systems engineered to be fail-safe is important. As you point out, the systems most likely to be engineered to a relatively fail-safe standard are those in the military, NASA, high-consequence engineering projects (e.g. dams), etc. Especially where we see our infrastructure privatized, but also where it is the product of constrained government spending (e.g. outside DoD), the result is far from fail-safe as corporations and government agencies are forced to show short-term improvements in services delivered and profits gained. This leads to cutting corners on long-term fail safety measures, etc...
I think you are highlighting the difference between Keynesian and Friedman style capitalism/governing systems. Both believe in free markets and price signals but are polar opposite about how best to use those signals.
Keynes approach forgoes driving for optimum efficiency of the system in the present to maintain a structural integrity (efficiency) of the system itself. Friedman and "pure Capitalists" are all about maximizing efficiency now without regard for future conditions.
As you and others have posted the most efficient (from simplicity and cost) systems will by definition have no redundancy built in. Great if your only worried about profit or an I-pod, not so good if you are at 30,000 feet in a plane or totally reliant on one energy source for your survival. There is more than one kind of efficiency depending on your frame of reference.
Hi Jeff,
I appreciate your choice of topics.
I'm wondering how you see what we might call the "military function" and/or sector. I have the impression (and stopped trying to find links for lack of time - you probably know much more than I on this topic) - the "military-industrial-(insert additional)-complex" is one driven by a kind of corporate interest in looking for new "needs" for new "products" (this would constitute the classic "arms race" argument in brief) - as opposed to functions.
I mean, if this were not the case, we'd have a lot more effort (and energy and money) devoted to things like "Peace brigades international", human rights accompaniment, humans rights orgs, "mediators without borders" and so forth.
Under the guise (or rationale) of a military function being one that fits into the category of "inelastic demand", we actually end up with what actually appears to be the opposite of demand-dri