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Economic Trends, Resource Scarcity, and Policymaking RUSSELL G. THOMPSON CBA Industry Studies, University of Houston, Houston,TX77004
Modern man is becoming more and more aware that he is only one part of a very complex system. Energy problems are simultaneously environmental and economic problems. Issues cannot be compartmentalized. Nor are issues clearly good or bad for the nation. In solving complex national problems, policymakers must be aware of tradeoffs and costs of alternate actions. How these tradeoffs and actions are structured depends on the quality and breadth of knowledge of our nation's policymakers and their constituents. Many worthwhile national goals are desired by Americans. Among these goals are reasonable energy independence, a clean environment, and low cost-of-living. How these goals are attained will affect the future of the United States as a leader of the free world. If, for example, the goal of reasonable energy independence is attained at the cost of a polluted environment or skyrocketing prices, then the attainment of that goal carries a price tag that the American consumer will not pay. Similarly, if the goal of a clean environmemt is sought by regimenting society with unnecessary costs, then the means of attaining that goal will be discarded. Solutions to America's interrelated problems of scarce energy, clean environment, and price i n f l a t i o n require a comprehensive analysis of the economic consequences of policy alternatives before policy is changed. Major policy changes, in the face of r e source scarcities, are greatly modifying the structure of the economy. Structural changes are resulting in totally new economic trends in supplies, demands, and prices. For that reason, h i s t o r i c a l data are not sufficient to forecast future trends in a period of great policy change. As r e a l ized by President Carter in the National Energy Plan (1), The future a v a i l a b i l i t y of energy has significant economic implications that are not captured by current projections of the GNP or other economic indicators.
0-8412-0511-6/79/47-109-117$05.00/0 © 1979 American Chemical Society
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C l e a r l y , econometric models must be redeveloped to show how p o l i c y changes will transform the economic s t r u c t u r e of the economy and how t h i s s t r u c t u r a l transformation will r e s u l t in new trends. The data base f o r these new econometric models must i n c l u d e not only management's h i s t o r i c a l responses to past p o l i c i e s and economic c o n d i t i o n s , but management's a n t i c i p a t e d responses to f u t u r e p o l i c i e s and economic c o n d i t i o n s . F u l f i l l i n g these needs will r e q u i r e a comprehensive mathem a t i c a l modeling c a p a b i l i t y f o r both i n d u s t r y and the economy. At a minimum, the modeling c a p a b i l i t y must encompass i n d u s t r y models to r e f l e c t the nation's heavy i n d u s t r y at the core of the f o s s i l energy and m a t e r i a l s s e c t o r ( e l e c t r i c power, petroleum r e f i n i n g , b a s i c chemicals). This i n d u s t r y core generates the nat i o n ' s e l e c t r i c i t y , r e f i n e s the nation's petroleum products, and transforms the nation's chemicals i n t o useable endproducts. New trends in production c o s t s , resource use, and environmental q u a l i t y will g e n e r a l l y be i n f l u e n c e d s i g n i f i c a n t l y by what happens in t h i s heavy i n d u s t r i a l core. Modeling Developments and
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The foundation f o r e v a l u a t i n g how changes in p o l i c y will r e s u l t in new economic trends has been l a i d by i n d u s t r y modeling work at the U n i v e r s i t y of Houston (2-7). This i n d u s t r y modeling c a p a b i l i t y permits d i r e c t energy, environmental, c a p i t a l , and s e l e c t e d tax c o n s t r a i n t s to be imposed in a mathematical model of the i n t e r r e l a t e d petroleum r e f i n i n g , e l e c t r i c power, and b a s i c chemical i n d u s t r i e s of the economy. The i n t e g r a t e d model of these three i n d u s t r i e s is i n t e r f a c e d with supply f u n c t i o n s f o r raw f o s s i l energies and demand f u n c t i o n s f o r manufactured energy endproducts. T h i s i n t e r f a c e of supply, demand, and i n d u s t r y models gives the e q u i l i b r i u m p r i c e / q u a n t i t y t r a d e o f f s of d i f f e r e n t energy p r i c e s , environmental c o n d i t i o n s , and c a p i t a l a v a i l a b i l i t i e s . New input-output t a b l e s f o r the nation's economy are formed from the e q u i l i b r i u m r e s u l t s ; see (6,7). B r i e f D e s c r i p t i o n of Models. The i n d u s t r y modeling capab i l i t y i n c l u d e s d e t a i l e d process economic models f o r the ten 4d i g i t Standard I n d u s t r i a l C l a s s i f i c a t i o n i n d u s t r i e s shown in F i g ure 1. These process models are designed to evaluate the important s u b s t i t u t i o n p o s s i b i l i t i e s among the fundamental systems of production, process energy use, water use and waste water t r e a t ment, air emission c o n t r o l , and s o l i d waste and b r i n e management in the ten i n d u s t r i e s ; see Figure 2. The ten i n d u s t r y models, which are i d e n t i f i e d in Figure 1, are combined i n t o an i n t e g r a t e d i n d u s t r y process model of the e l e c t r i c power, petroleum r e f i n i n g , and b a s i c chemicals i n d u s t r i e s of the n a t i o n to account f o r interdependencies among these i n d u s t r i e s . The i n t e g r a t e d i n d u s t r y model r e f i n e s the nation's raw crude o i l i n t o r e f i n e d petroleum f u e l s and r e f i n e r y byproducts; the i n t e g r a t e d i n d u s t r y model proc-
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esses the nation's petroleum r e f i n e r y byproducts and n a t u r a l gas feedstocks i n t o b a s i c petrochemicals f o r use as inputs in the p l a s t i c s , p o l y e s t e r s , rubber, and f e r t i l i z e r s i n d u s t r i e s ; and the i n t e g r a t e d i n d u s t r y model generates the nation's e l e c t r i c i t y f o r use in the r e s i d e n t i a l / c o m m e r c i a l , i n d u s t r i a l , and t r a n s p o r t a t i o n s e c t o r s of the economy. A d d i t i o n a l l y , complementary components of t h i s i n t e g r a t e d model prepare the nation's c o a l and n a t u r a l gas f o r heating and c o o l i n g uses in the economy. The i n t e g r a t e d i n d u s t r y model evaluates the economic c o s t , resource use, and t e c h n i c a l c o n f i g u r a t i o n e f f e c t s of p o s s i b l e p o l i c y d e c i s i o n s l i m i t i n g or not l i m i t i n g (1) the discharge of any major water or air p o l l u t a n t , and (2) the a v a i l a b i l i t y of any scarce resource input (energy, water, raw m a t e r i a l s , and c a p i t a l ) . This b a s i s may be used to evaluate the economic, resource, and t e c h n i c a l e f f e c t s of (a) increased or decreased requirements f o r any of the endproducts in the model and (b) higher or lower p r i c e s ( i n c l u d i n g taxes) f o r resource inputs and product outputs. Simultaneously, the i n t e g r a t e d i n d u s t r y model determines the economic a l l y e f f i c i e n t a l l o c a t i o n and v a l u a t i o n of the resource inputs used to produce the endproduct requirements of the ten i n d u s t r i e s modeled. T h i s economic a l l o c a t i o n both minimizes the economic costs of producing the d e s i r e d endproducts and maximizes the economic value of the l i m i t e d resources used by the i n d u s t r i e s modeled. For each p o l i c y s p e c i f i c a t i o n , the technology matrix of the i n t e g r a t e d i n d u s t r y model is transformed from the productive s t r u c t u r e e x i s t i n g before the p o l i c y change to the productive s t r u c t u r e e x i s t i n g a f t e r the p o l i c y change. T h i s s t r u c t u r a l transformation is the master key to i d e n t i f y i n g the economic demands and s u p p l i e s of the i n d u s t r i e s modeled. I d e n t i f i c a t i o n is necessary to soundly estimate: (1) the economic demands f o r crude o i l , n a t u r a l gas, c o a l , water, and c a p i t a l ; (2) the economic costs of p o l l u t i o n c o n t r o l f o r major water and air p o l l u t a n t s ; and (3) the economic s u p p l i e s of the endproducts in the model. The i n t e g r a t e d i n d u s t r y model i n c l u d e s d e t a i l e d c a p i t a l c o n s i d e r a t i o n s f o r e x i s t i n g p l a n t s , m o d i f i c a t i o n s to e x i s t i n g p l a n t s , and new grass-roots p l a n t s in the e l e c t r i c power, petroleum r e f i n i n g , and organic chemical i n d u s t r i e s . A l s o , the i n t e g r a t e d i n d u s t r y model includes d e t a i l e d r e g i o n a l f u e l u s e / e l e c t r i c i t y generation c o n s i d e r a t i o n s f o r the nation's e l e c t r i c utilities. A l s o , extensions are underway to i n c l u d e a d d i t i o n a l i n d u s t r i e s , namely i r o n and s t e e l , pulp and paper, aluminum, cement, and food and f i b e r processing. In a d d i t i o n , extensions are planned: (a) to model advanced c o a l , n u c l e a r , and s o l a r t e c h n o l o g i e s ; and (b) to evaluate s u b s t i t u t i o n s between as w e l l as w i t h i n d i f f e r e n t time periods. The i n t e g r a t e d i n d u s t r y model has been i n t e r f a c e d with economic supply f u n c t i o n s f o r crude o i l , n a t u r a l gas, and c o a l (low, medium, and h i g h - s u l f u r ) and with economic demand f u n c t i o n s f o r important energy products ( g a s o l i n e , f u e l o i l s , e l e c t r i c i t y ,
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n a t u r a l gas, coal) to give an e q u i l i b r i u m model f o r the f o s s i l energy s e c t o r of the U. S. economy. This e q u i l i b r i u m model f o r the f r e e market case is an a p p l i c a t i o n of the Walras/Cassel theory of competitive e q u i l i b r i u m to the f o s s i l energy s e c t o r . I t e r a t i v e s o l u t i o n s to t h i s model are computed u n t i l the d e f i n i t i o n of a competitive e q u i l i b r i u m is f u l f i l l e d ; the L e o n t i e f balance equat i o n w i t h the t r a n s a c t i o n s t a b l e f o r the f o s s i l energy microcosm is derived from t h i s e q u i l i b r i u m s o l u t i o n . With m o d i f i c a t i o n s in the economic s t r u c t u r e of the process models to r e f l e c t d e v i a t i o n s from a f r e e market s i t u a t i o n , i t e r a t i v e s o l u t i o n s are computed to f i n d a s o l u t i o n as c l o s e to the competitive e q u i l i b r i u m s o l u t i o n f o r the r e v i s e d model as the policy-imposed c o n s t r a i n t s will a l low. The " e q u i l i b r i u m s o l u t i o n s " f o r the r e v i s e d model are a l s o used to form t r a n s a c t i o n s t a b l e s f o r the f o s s i l energy microcosm. See Dorfman et a l . (8) and I n t r i l l i g a t o r (9) f o r t h e o r e t i c a l developments. S i g n i f i c a n t Uses o f Models. Several s i g n i f i c a n t uses of t h i s economic modeling c a p a b i l i t y have been made to date. Two of these uses will be b r i e f l y described here to i n d i c a t e the substantiveness of the i m p l i c a t i o n s . A s i g n i f i c a n t i m p l i c a t i o n of current environmental p o l i c y is captured by one set of economic i n d i c a t o r s ; and a s i g n i f i c a n t i m p l i c a t i o n of recent energy p r o posals is captured by another set of economic i n d i c a t o r s . Environmental P o l i c y A n a l y s i s . In 1975, the Environmental P r o t e c t i o n Agency was estimating the costs of implementing u n i form e f f l u e n t standards by measuring the costs f o r each i n d u s t r y independently and summing the independent estimates. T h i s procedure was of concern to l e a d i n g t e c h n i c i a n s in the O f f i c e of Management and Budget because the cumulative demand, supply, and p r i c e e f f e c t s were ignored. The f o l l o w i n g argument i l l u s t r a t e s the p o i n t . Uniform technology standards f o r p o l l u t i o n c o n t r o l will simultaneously expand the demands f o r all resources needed to implement the u n i form technology standards. (Suppose f o r i l l u s t r a t i v e purposes that all of these resource demands are completely i n s e n s i t i v e to price.) I n c r e a s i n g l y c o s t l y resources will be r e q u i r e d to f u l f i l l the expanded demands. Incentives to b r i n g f o r t h the a d d i t i o n a l s u p p l i e s will r e s u l t in higher market p r i c e s f o r all the resources used; see Figure 3. EPA was capturing the increased costs of the a d d i t i o n a l resource use at constant resource p r i c e s (Area q ABq^); however, EPA was f a i l i n g to capture the increased costs of all the resources used because of the higher market p r i c e s required to b r i n g f o r t h the a d d i t i o n a l s u p p l i e s (Area p p^ CB). Two d i f f e r e n t modeling cases were constructed f o r 1985 to measure the s i g n i f i c a n c e of EPA s underestimate. In the one case, the endproduct uses and resource p r i c e s were s p e c i f i e d as p a r a meters (engineering cost a n a l y s i s ) ; and in the other case, the endproduct uses and resource p r i c e s were determined as s o l u t i o n s Q
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to economic v a r i a b l e s (economic p r i c i n g a n a l y s i s ) . Significant i m p l i c a t i o n s were captured by the modeling e v a l u a t i o n s . Cost increases of the uniform technology standards were three to f i v e f o l d g r e a t e r in the economic p r i c i n g a n a l y s i s than in the e n g i neering cost a n a l y s i s . Increasing supply c o s t s of scarce r e sources, according to the model, will i n f l a t e s i g n i f i c a n t l y the costs of a c h i e v i n g a c l e a n environment; see Chapter 12 of Thompson et a l . (5). Energy P o l i c y A n a l y s i s . In 1977, P r e s i d e n t Carter proposed a N a t i o n a l Energy Plan (NEP) to the Congress f o r the nation's f u t u r e energy p o l i c y . This p l a n represented a s i g n i f i c a n t dep a r t u r e from current p o l i c y at that time; a l s o , it stood in sharp contrast to the m a r k e t - p r i c i n g recommendations of the Texas Energy Advisory C o u n c i l . The Advisory C o u n c i l contracted f o r an e v a l u a t i o n of the most s a l i e n t p r i c i n g , t a x i n g , and environmental recommendations in the P r e s i d e n t ' s P l a n . S i m i l a r e q u i l i b r i u m e v a l u a t i o n s were made of the Advisory Council's recommendations and a Business-As-Usual p o l i c y . A l l e v a l u a t i o n s were made f o r 1985. Results of the NEP modeling a n a l y s i s showed that market p r i c e s and w i n d f a l l p r o f i t s taxes would accomplish the P r e s i d e n t ' s 1985 energy demand r e d u c t i o n goal (energy growth o f l e s s than 2% per year) and would come c l o s e r to a t t a i n i n g the P r e s i d e n t ' s 1985 increased c o a l production g o a l (400 m i l l i o n tons per year) than the program he proposed. However, f u l l i m p o s i t i o n of the P r e s i dent's proposed g a s o l i n e e x c i s e tax would be necessary in any program to f u l f i l l the 1985 g a s o l i n e consumption g o a l (10% r e d u c t i o n from 1977 l e v e l ) and the 1985 o i l import g o a l (6 m i l l i o n b a r r e l s per day). Use of the e q u i l i b r i u m r e s u l t s to develop new t r a n s a c t i o n s t a b l e s f o r an energy/materiaIs microcosm of the economy showed a s e r i o u s economic shortcoming of both p o l i c y a l t e r n a t i v e s . As modeled, the P r e s i d e n t ' s p o l i c y and the Advisory Council's p o l i c y would i n c r e a s e , r a t h e r than decrease, the d i r e c t plus i n d i r e c t input requirements of the three b a s i c conversion i n d u s t r i e s (petroleum r e f i n i n g , e l e c t r i c power, b a s i c chemicals) from petroleum mining sources. A l s o , both p o l i c y recommendations would decrease, r a t h e r than i n c r e a s e , the d i r e c t plus i n d i r e c t input requirements of these three i n d u s t r i e s from the c o a l mining s e c t o r . This economic i m p l i c a t i o n s , which e v i d e n t l y was not captured by s t a t e - o f t h e - a r t econometric models, means that n e i t h e r p o l i c y recommendat i o n is s u f f i c i e n t to t r a n s i t i o n the economy from petroleum to a l t e r n a t e energy resources; see Thompson (7). Important Messages The important messages to be gained from these two modeling e v a l u a t i o n s are: (1) s i g n i f i c a n t economic i m p l i c a t i o n s of supp l y s c a r c i t i e s may be captured by models designed to evaluate the
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s t r u c t u r a l consequences of major changes in energy and e n v i r o n mental p o l i c i e s ; and (2) the cumulative hidden economic c o s t s of environmental and energy p o l i c y inadequacies seem to be at the roots of the n a t i o n ' s s t a g f l a t i o n i n t e r l o c k of low r e a l economic growth, continued high unemployment, r a p i d l y i n f l a t i n g p r i c e s , small c a p i t a l investments, unfavorable trade balances, and dep r e c i a t i o n of the d o l l a r . Serious c o n s i d e r a t i o n needs to be d i r e c t e d to r e v i s i n g the n a t i o n ' s s t r a t e g y f o r a t t a i n i n g a c l e a n environment. Uniform technology standards f o r p o l l u t i o n c o n t r o l impose u n n e c e s s a r i l y great economic s t r e s s throughout the economy because of i n e f f i c i e n t resource use i m p l i c a t i o n s . Much more e f f i c i e n c y in r e source use and much l e s s i n f l a t i o n of market p r i c e s would r e s u l t from a balanced combination of economic instruments and technology c o n t r o l s . Such a balanced combination could be designed to accomplish the economic e f f i c i e n c y c o n s i d e r a t i o n s o f importance to economists as w e l l as the p h y s i c a l i n t e r a c t i o n c o n s i d e r a t i o n s of importance to engineers. Both c o n s i d e r a t i o n s are c r i t i c a l to a c h i e v i n g p u b l i c a l l y acceptable t r a d e o f f s f o r a d e s i r e d balance among economic growth, c l e a n environment, and energy independence goals. I f the g o a l of the United States energy p o l i c y is to t r a n s i t i o n the energy base of the n a t i o n from petroleum to a l t e r n a t e energy sources, then s e r i o u s c o n s i d e r a t i o n needs to be d i r e c t e d to extending the forthcoming energy l e g i s l a t i o n to i n c l u d e an econ o m i c a l l y e f f i c i e n t , yet environmentally acceptable technology development p l a n . This p l a n must be designed to decrease over time the r e a l resources of the economy going i n t o petroleum mining sources and i n c r e a s e over time the r e a l resources of the economy going i n t o a l t e r n a t e energy sources. In a d d i t i o n to supporting the research and development of new t e c h n o l o g i e s , the economics of t h i s p l a n must come to g r i p s with the i n c r e a s i n g uncert a i n t y of long-term investments in a l t e r n a t i v e energy r e s o u r c e s . T h i s i n c r e a s i n g u n c e r t a i n t y is being h e a v i l y i n f l u e n c e d by the s t e a d i l y growing i n v e n t o r i e s of U. S. d o l l a r s in the hands of a few oil-endowed n a t i o n s . Modern day communications and banking technology allow b i l l i o n s o f these d o l l a r s to be t r a n s f e r r e d a l most i n s t a n t a n e o u s l y from one money market to another f o r a wide array of p o l i t i c a l and economic reasons. The f l u i d i t y of these d o l l a r s and t h e i r c o n c e n t r a t i o n s in a few hands adds a whole new dimension to investment and f i n a n c i a l a n a l y s i s . In t h i s economic arena, the fundamental premises of competitive markets are d e f i n i t e l y q u e s t i o n a b l e : l a r g e numbers of s m a l l p l a y e r s , f r e e t r a d e , market-determined p r i c e s , and widely h e l d i n f o r m a t i o n ; see (10) f o r r e q u i s i t e s of competition. Today's investment and f i n a n c i a l markets seem b e t t e r c h a r a c t e r i z e d as economic games of j u s t a few "high r o l l e r s . These economic games are l a r g e l y o u t s i d e the cont r o l of United States f i n a n c i a l i n s t i t u t i o n s (e.g., F e d e r a l Res e r v e ) ; however, t h e i r outcomes s i g n i f i c a n t l y a f f e c t investments and f i n a n c i a l d e c i s i o n s in t h i s country. 1 1
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FEDERAL REGULATION AND CHEMICAL INNOVATION
An e f f e c t i v e t r a n s i t i o n o f the n a t i o n ' s energy base from petroleum to a l t e r n a t e energy sources will r e q u i r e r e l a t i v e l y l a r g e c a p i t a l investments. I n c e n t i v e s to make these investments will be i n f l u e n c e d by our n a t i o n ' s c a p a b i l i t y to c o n t r o l i t s money supply and execute a d e s i r e d monetary p o l i c y . The United S t a t e s faces the sobering task of d e s i g n i n g a technology develop ment p l a n and implementing it. I t s development and implementa t i o n will r e q u i r e an e f f e c t i v e United States monetary p o l i c y .
Literature Cited 1.
Executive Office of the President, Energy Policy and Plan ning, The National Energy Plan, Supt. of Documents, U.S. Govt. Printing Office, Washington, D. C., 20402, A p r i l 27, 1977.
2.
Kim, Y. Y., and Thompson, R. G., "An Economic Model of New Crude O i l and Natural Gas Supplies in the Lower 48 States," Gulf Publishing Company, Houston, 1978
3.
Thompson, R. G., Calloway, J. Α . , and Nawalanic, L. A. (eds.), "The Cost of Clean Water in Ammonia, Chlor-Alkali, and Ethylene Production," Gulf Publishing Company, Houston, 1976.
4.
Thompson, R. G., Calloway, J. Α . , and Nawalanic, L. A. (eds.), "The Cost of E l e c t r i c i t y , " Gulf Publishing Company, Houston, 1977.
5.
Thompson, R. G., Calloway, J. Α . , and Nawalanic, L. A. (eds.), "The Cost of Energy and A Clean Environment," Gulf Publishing Company, Houston, 1978.
6.
Thompson, R. G., Stone, J. C., Singleton, F. D., J r . , and Raghaven, S. "Predicting the Structural Economic Consequences of Different Interrelated Energy and Environmental P o l i c i e s , " technical report to the Electric Power Research Institute, July, 1978 (draft).
7.
Thompson, R. G., "Forecasting New Economic Trends in the Energy and Materials Sector of the U. S. Economy," Review of Regional Economics and Business, Vol. 4, No. 1, Oct. 1978.
8.
Dorfman, R., Samelson, P. Α . , and Solow, R. M. "Linear Pro gramming and Economic Analysis," McGraw-Hill Book Company, Inc., New York, 1958.
9.
I n t r i l l i g a t o r , M. D., "Mathematical Optimization and Economic Theory," Prentice-Hall, Inc., Englewood C l i f f s , 1971.
10.
Stigler, G. J., "The Theory of P r i c e , " The MacMillan Company, New York, revised edition, 1952.
RECEIVED March 8, 1979.
