My opinion is the strong tie between money and energy is with the velocity of money. As the velocity increases the GDP/BTU increases and thus the economy gets wealthier with less energy. And obvious way to pull this off is via serial bubble blowing but a number of other reasons for real velocity increases are possible.

Thus as the velocity slows GDP/BTU increases even as both GDP and BTU's decrease
since its the ratio that matters. Thus further economic growth or simply treading water requires a increase in BTU's or energy usage to bootstrap another economic bubble. Basically as the velocity falls it simply takes more energy to earn a buck.

This is the nasty problem with deflation and declining energy. Energy prices themselves can fall as long as GDP contracts faster than BTU production. We had a particularly fast crash if you will second half of 2008 that certainly helped in temporarily ensuring that BTU supply exceeded BTU demand.

However once the velocity of money approaches 1 i.e no new real cash is being created the hard money economy is basically at its bottom from then on it takes a serious and widespread recession to actually slow cash transactions needed for daily living.

I posted about this recently based on a graph from Denniger about the velocity of money going to 1.

http://www.theoildrum.com/node/4916#comment-453980

And Denningers link from the original post.

http://market-ticker.denninger.net/archives/703-Uh-Oh.....-Monetary-Flat...

If you think about it M1 makes a lot of sense as the tie between oil and the economy since energy is paid for either with cash or very short term loans which effectively show in the cash supply side. I.e letters of credit.

Now with the velocity factor at one for M1 it becomes effectively impossible for further economic declines to really influence energy usage. This is not to say that we won't see further changes in M2 and M3 but they will have less and less and effect on the velocity of money and thus the GDP/BTU ratio.

From here you get this graph.

http://www.wtrg.com/prices.htm

You can see that as the velocity of money fell oil consumption increased.
Eventually of course the price started increasing because of peak oil but for a long time falling velocity was hidden by increasing GDP via increasing oil consumption.

So the tango between the economy and oil has been going on ever since the US peaked. We have used long term debt to create a decades long housing boom that hid the underlying problem that the slowing velocity of money was being subsidized by increasing energy usage with suburban sprawl as the engine of growth.

As M1 slowed real wealth was replaced with ever growing debt in the form of the M2 and M3 money supply.

Well the party is over. We can't increase oil usage without increasing prices.
We can't increase the velocity without a real transfer of wealth back to the middle class and poor. Note this entire time wealth has become ever more concentrated again papered over by increased energy usage.

Several nice graphs and good papers here.

http://www.faculty.fairfield.edu/faculty/hodgson/Courses/so11/stratifica...

So what might happen going forward ?

Well increasing oil usage is probably not possible without causing another price spike.
From the peak oil/ELM type models we stand a very high probability that OPEC may succeed in restricting oil supply to cause supply to be constrained.

Peak oil itself esp when coupled with the price collapse and financial crisis pretty much assures that future production will decline.

So a reasonable guess is that we will see the velocity of money remain flat and also for oil supplies to fall. At some point this will result in a return to high prices when is unknown it could literally be any day to a few years the timing of the return is difficult to predict but the probability of a return to increasing prices has existed for several months as the oil futures market has stayed in persistent contango. But when is not a big issue outside it seems reasonable that a few years at most is very probable even with the exact timing very fuzzy.

To me at least it looks like the US is in a checkmate situation it cannot escape from. Just to keep from further economic collapse seems to require and extensive transfusion of wealth from the top to the bottom classes the chances of this happening or zero.

If oil prices increase from here on out then the only outcome seems to be real demand destruction or basically more and more people are going to become permanently poorer. Further impoverishment from financial problems alone don't seem that likely since the velocity of money is at a standstill thus the economy has baselined if you will. To go gown further requires a real Depression i.e falling M1. Given we have a fiat currency this outcome can readily be stopped via outright printing.

Now this does not mean people won't keep losing high paying jobs and defaulting on debt it does mean that barring a real M1 style deflation like 1929 we should see most people continue daily life albeit with cheaper housing and cars and loss of longer term debt access and probably revolving credit.

I actually don't see any intrinsic reason the "real" economy cannot simply sit here moribund as housing prices fall and car sales tank. As far as I can tell through 2009 we will simply see housing prices fall and cars sales remain anemic and the workforce shift to lower and lower paying jobs and people get laid off and take any employment offered at lower wages. Unemployment will slowly rise. Real energy usage should go flat to slowly declining.

Maybe flatlined is a more apt description then baselined :)

The point is it seems to me that the next leg down will pretty much have to come from rising energy and commodities prices.

My best guess is that frantic attempts to reinflate that result in ensuring flattened demand remains possible aka no real shrinkage in M1 and probably even
some growth with velocity remaining 1 coupled with increased OPEC cuts should get us back on the increasing energy price bandwagon.

To a large extent at least for the short term I'm asserting that changes in M2 and M3 are now largly decoupled simply since longer term debt is rapidly shrinking via either falling housing prices or consumer default.

Technically they might grow but they are simply staving off more defaults.
Eventually of course if I'm right then rising energy prices relentlessly collapsing the real economy will force real defaults regardless of what the government does i.e the debt bubble they have moved on the government balance sheet will cause it to effectively default. In the interim 2008 is worse then 2007 2009 will be worse then 2008. 2009 looks like its shaping up to almost be 2008 in reverse with oil prices probably rising relentlessly through the year.

Regardless of exactly what happens it really looks like the game of increasing oil usage to offset falling velocity is dead so from now on out its a new game and not the one we played from the 1980's till now.

It is difficult to see how this can be dramatically, especially with the current lack of capital for investment.

And the generation of that capital - whether money or resources - itself depends on energy.

cfm - loving it when a plan comes together - in Gray, ME

How many wedges would it take to hit 7% decrease in demand per year?

35 MPG average for the new-model fleet:  maybe 2.2%/year.

Increase to 20% ride-sharing over 10 years:  2%/year.

Organizing and trip-optimizing shopping and other errands:  ??

Building or repurposing stores/offices in residential areas, and vice versa:  ??

Even at a mere 10 million vehicles/year, the USA replaces about 5% of its fleet every year.  If a substantial fraction of the replacements were electric, they'd account for a pretty good wedge themselves.  We can certainly get electricity:  coal and natural gas in the next few year, nuclear for the next 50 while wind and solar are built out, then wind and solar until the sun's brightening makes life impossible on Earth.  That's well beyond my personal horizon.

Gail, T-S.

Thanks, I think :-). I was hoping for a late Christmas prezzie. Seriously though, I appreciate the confirmation.

The worrying thing is that all three factors trend to become asymptotic about the X axis (time) and converge on much different scenario than we have today.

Comparing needed economic growth to what we are likely to generate with available oil and gas, it seems like we are facing a continuing problem.

Even on it's own, that seems like an optimistic statement. When I consider all the other issues, a "continuing problem", looks more like a brick wall.

To be forewarned is to be forearmed I guess.