A brief analysis of externalities related to fast moving hydrocarbon economies.

1. One-sided economics
March 2018London Seminar

2. Bio - Olivier Coispeau
Biography
• Olivier Coispeau, CFA
• Founder of Maverlinn Strategic Finance
Page 2
• Strategy (Roland Berger) and Finance
(JP Morgan, Schroders, Clinvest)
• Innovative start-up incubation (Antfactory)
• Former economics professor at Paris-
Sorbonne university
• Education: Stanford University, Paris
Dauphine University and Sciences Po Paris

3. … to David Ricardo (1772-1823)From Adam Smith (1723-1790)
With Ricardo, the purpose of economics shifts, from the moral
framework to a quantitative focus on wealth and power
-« it is not the province of the
Political Economist to advise:-- he is
to tell you how to become rich, but
he is not to advise you to prefer
-« that to feel much for others and
little for ourselves, that to restrain
our selfishness, and indulge our
“the great objects of the political economy of every country, is to increase the
riches [ How to ? Ricardo ] and power of that country” [ Smith ]
he is not to advise you to prefer
riches to indolence, or indolence to
riches »
-« [ Economics ] is a strict science
like mathematics »
- Condemned Malthus for introducing
« moral effects » into technical issue
our selfishness, and indulge our
benevolent affections, constitutes
the perfection of human nature »
- « Every man, as long as he does
not violate the laws of justice is left
perfectly free to pursue his own
interest in his own way»
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4. The conservation of the common good and the satisfaction of
individual preferences do not necessarily align
Comments :
• Management economics does not
align easily with common good
• Since David Ricardo virtue has not
been seen as a relevant constituent of
Haze from forest fire in Indonesia
been seen as a relevant constituent of
economics
• The regulator is in charge of not only
defining the rule of the game but also of
enforcing them
• Most market players will always test the
limits of the game to reap greater
benefits for themselves
• The social conscience of market
players can never be taken for granted« The political economist [ … ] has to tell you how to become rich » David
Ricardo (1772-1823)
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5. The growth of the world population pushes for using in production
function the cost factors +/- cost of externalities
Source : J. Bradford DeLong, Estimating World GDP, One billion BC to present.
« The wealth of nations », Adam Smith, 1776
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6. Assessing the cost of externalities in a small population is easier
than quantifying all the costs related to large demographic issues
Externalities are positively correlated with demographic “mass” and
“velocity” : 7 Bn humans compared to ~ 0.5 Bn at the time of Adam Smith
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7. The correlation between demographics and global warming calls
for implementing quickly more responsible growth models
Comments :
• China is leading the pack in terms of
global emissions and the country is still
emerging
• Fast moving countries such as India or
Africa have not reached their full
economic potential yet
Source : EU Edgar Database
economic potential yet
• In terms of leading emission / capita,
carbohydrate rich countries are leading
the pack : Qatar (39.1), Kuwait (28.3),
UAE (21.3)
• Then Australia (17.3) and the USA
(16.5) are the largest contributor /
capita
• Together with education, the incentive
to pollute can be curbed through a
production model accounting for the
costs or benefits on the common good
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8. Plastic is an icon of the hydrocarbon economy, the downside is > 5
trillion decaying plastic particles poisoning the world oceans
Comments :
• Plastic, a champion of the hydrocarbon
economy, was invented in 1909
• Plastic trash is a direct by-product of
the hydrocarbon economy
• Plastic soup decay is a hazard for both
Plastic Demand in EU
2014
• Plastic soup decay is a hazard for both
human health and bio-diversity : 5
trillion decaying plastic particles 0.33-
1.00 mm poisoning the world oceans
• Plastic bags : avg use of 30mn, 20
years to decay, emission of pollutants
• Many of the plastic waste ends up in
the ocean : cigarette buds, food
wrappers, beverage bottles, bags, lids
• In only 100 years, plastic waste have
contaminated the full food chain (fish,
birds, marine mammals)
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Source: PlasticsEurope
46.3
MioT

9. Growth correlates with energy consumption: the world population
will more than double whilst energy consumption will triple
3.7 Bn pop
5.0 Bn toe
6.0 Bn pop
9.2 Bn toe
8.2 Bn pop
15.3 Bn toe
+11% +27%
1970
1.35 toe/pop
2000
1.5 toe/pop
2030
1.9 toe/pop
Source : AIE / BP Stat Review
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10. In 100 years, CO2 emissions have increased 2.8 times
1.33 CO2 MT/Capita
100 years
Source : Max Roser, Oxford University, World Data
0.47 CO2 MT/Capita
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11. The energy « transition » also generates much higher « cost »
than expected due to large scale accidental factors
Chernobyl - Ukraine (1986) Fukushima Daiichi - Japon (2011)
April 26, 1986 - Explosion of the Chernobyl (Ukraine)
nuclear reactor. Late night power-failure stress test in
which safety systems were deliberately turned off, a
combination of inherent reactor design flaws, together
with the reactor operators arranging the core in a
manner contrary to the checklist for the stress test,
eventually resulted in uncontrolled reaction
conditions that flashed water into steam generating a
destructive explosion and a subsequent open-
air graphite "fire".
Clean-up cost over USD 500 billion
March 11, 2011 - Initiated primarily by the tsunami
following the Tohoku earthquake on 11 March 2011.
Immediately after the earthquake, the active
reactors automatically shut down their sustained fission
reactions. However, the tsunami destroyed the
emergency generators cooling the reactors, causing
Reactor 4 to overheat and explode. The investigation
commission found that Tepco had failed to meet basic
safety requirements on site including risk assessment
and contingency plans.
Clean-up cost over USD 500 billion
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12. The post-industrial revolution produced negative externalities at a
level capable to undermine our capacity to sustain life
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13. Negative externalities and undesirable “by-products” of fast GDP
growth are too often neglected in general economic calculation
“Chinese growth is a wonderful“Chinese growth is a wonderful
human success story that
could kill us all”
Paul Krugman
Economy Nobel 2008
Sculpture : Isaac Cordal
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14. The GDP measure does not account for the preservation of life
sustaining factors (LSF) at a planetary level
Bio
Air H2O
O3
- Underlying LSF taken for granted
or underpriced (no replacement
cost).
- No consistent value or quality
index for global LSF.
LSF
A policy focus on GDP results in “one sided economics” since
GDP poorly reflects the value and dynamics of LSF
Bio
Div.
Soil
O3
Fert.
- No global accounting of LSF
stocks, some accounting of flows
- Some non economic calculation
attempt e.g. the « Doomsday
clock »
- Economic response on LSF is
blocked by sovereignty limitations
LSF
Life Supporting Factors on earth (LSF)
Note: Fert. stands for fertility
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15. Levi Strauss’ parabole of worms poisoning themselves in a bag of
flour, although too pessimistic, illustrates well one-sided economics
Comments :
• “Mankind is not completely different
from these flour worms growing inside
a flour bag, which start poisoning
themselves with their own toxins, much
before they lack food or physical space”
Flour worms poisoning themselves
before they lack food or physical space”
• Levi Strauss explains that there is a “ratio”
between humanity and the earth, that
humans are not “morally, psychologically
and physically” apt to manage [ for now ]
• In economic terms this means as the
world population increases, the total cost of
negative externalities even exceed the risk
of possible resources deprivation
Source : Claude Levi Strauss by himself, Arte France, a film
by Pierre-André Boutany and Anne Chevallay, 2008
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16. However, it will unlikely change until the « price to pay » at the
international level is politically unavoidable for leading countries
The marginal cost for the last person crossing a rotten bridge before it collapses is low
compared to its utility : one stops crossing it only if the risk is unbearable
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17. Over-simplified national accounting creates a « tunnel vision »
mostly exclusive of the value of the common good (« free factor »)
Oversimplified accounting
Assets Liabilities
Comments :
• Despite its complexity, the accounting
system does not capture the value of thesystem does not capture the value of the
common good in the production process,
and treats it as an exogenous factor
• Intangibles assets are already part of the
balance sheets, but there are no intangible
liabilities, only potential liabilities (usually
unconsolidated)
The common good should be considered a production factor mandatory
for the sustainability of the human economy
? ?
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18. The wealth of the nations should be considered an
intergenerational saving system for a better collective future
Comments :
• F is the expected production at
the (inter)national level
• min is, minimum of the sum
of individual expectations as
Labor CapitalProduction
Q = c. Lα . Kβ
Classic Cobb – Douglas production function
of individual expectations as
a floor (> 0)
• L stands for labor a proxy
for individual and collective
talents
• K stands for accessible
capital
• G represents the common
good
Labor CapitalFuture
Q (min is) = c. Lα . Kβ . Gγ
Q = c. L . K
UPF - Updated production function
~
Common Good
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19. A renewed set of economic indicators and tools must be used to
better assess how such future can be constructed
Comments :
• Economic instruments aim to bridge the gap
between private and social costs by internalizing
all external costs (both depletion and pollution
costs) to their sources: the producers and
consumers of the resource depleting and
polluting commodities.
Restoring Full Pricing
polluting commodities.
• Economic instruments for environmental
management include the removal of distortionary
subsidies, secure property rights, pollution taxes,
user charges, tradeable emission permits, and
refundable deposits.
• These instruments aim to correct pricing
failures, reinstate full-cost pricing, and bring
about a realignment of resource allocation with
society's objectives and interests—a necessary
condition for sustainable development.Full cost pricing is given by the formula: P = MPC + MUC + MEC
Where P = price MPC = marginal (or incremental) production cost MUC = marginal user (or
depletion) cost MEC = marginal environmental (or damage) cost.
P* = MSOC ≡ MPC + MUC + MEC where P* = optimal price, MSOC = marginal social
opportunity cost, MPC = marginal production cost; MUC = marginal user (or depletion) cost;
MEC = marginal environmental (damage) cost.
Source: UNEP
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20. Including systematically core common good factors in economic
calculation would help improve life supporting factors (LSF)
• The common good stretches in various circles from precise and quantifiable life
supporting factors (LSF) to universal qualitative assets (e.g. sunset beauty)
• The impact of human activities on life supporting circles including air, water, the
atmosphere, soil, biodiversity, fertility (inc. DNA quality) … should be used for
economic calculations, through remediation estimated cost - not a perfect
solution but still better than nothing.solution but still better than nothing.
• Traditionnal « wealth creation » calculation faces the risk to accelerate
planetary value destruction, if it excludes LSF externalities
• Dilemna: you don’t want to be the first one to stop crossing the rotten bridge
before it collapses since its utility is high. If there is competition you may stop
crossing it only if you know the risk is unbearable - but it may be too late
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21. Leading a world of change, together