Will Diminishing Supplies of Natural Resources Limit World Economic Growth Research Paper

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Macroeconomics

For most of the time since the subject of economics was first studied, the idea of resource constraints has been irrelevant. The world was simply not viewed as a finite place. The concept of resource constraints was limited, more or less, to the consideration of constraints on an individual economy. Adam Smith recognized that all economies would face resource constraints of one type or another. As Snowdon (2003) points out, "to Smith, it was obvious that all economies were faced with resource constraints and that free trade was a policy that would allow any nation to achieve the most efficient allocation of its scarce resources." This notion was built into the Ricardian trade theory and classical economics. It has not been until recent times, however, that the concept of worldwide scarcity has become relevant. The idea of peak oil and a world with seven billion people (or more) has economists searching for responses to the idea that economic growth is not sustainable forever, and that those resources which are finite on this earth will force economies to rethink their ideas about the nature of economic growth and the very concept of sustainability. This paper will seek to answer the question of whether or not diminishing supplies of natural resources will limit world economic growth, drawing on the theories of Keynes, Smith and modern economists alike.

Adam Smith and Scarcity

Prior to Smith, the prevailing economic view of the world was that the world is a zero sum game. This implies resource scarcity, leading to public policy that emphasized acquiring as many resources as possible in order to maximize the nation's economic wealth, knowing that it was coming at the expense of others. Smith argued that trade was a better solution. Smith's vision of trade held the issue of scarcity should be better addressed through trade because this enabled for maximize efficiency in the use of resources (Snowdon, 2003).

Flowing from this argument is Ricardo's theory of comparative advantage, which also emphasizes efficiency as an important objective of trade. Although Smith and Ricardo viewed economies as having scarce resources, they did not give much consideration to a world where finite limits on the use of critical resources was a legitimate concern. Smith would have traded his way out of scarcity. The modern trading system, build on Ricardo and Smith's arguments in favor of free trade, emphasize the role that efficiency plays in facilitating economic growth. Improved efficiency has, to this point, allowed us to enjoy economic growth even as a rapidly rising population on Earth tears through its resources at a rapid pace.

Keynes

Holt (2010) argues that Keynes' view of the economy did not adequately factor in resource constraints. Keynes, as with other economists o the time, did not view the environment as a constraint to economic growth. This meant that environmental externalities such as pollution and resource depletion were not taken into consideration. Indeed, the Keynesian accounting identity for GDP only factors in government, business and consumer spending, as well as the trade balance. There are no constraints of any type built into the model.

The Keynesian model did account for constraints on capital and labor, but there was an underlying assumption that these could be summoned if necessary. Capital in particular could be summoned through government borrowing if business and consumer spending were inadequate. Increased capital could bring surplus labor back into the market as well. Implicit in this view is that any other resource could be purchased for the right price. A critique that could be made of Keynes' view is that he failed to understand the value of resource constraints. He even went as far as to argue that resources constraints were not an antecedent or factor in war. Yet he presided over the development of the post-war economy, knowing that one of the biggest reasons why the Axis powers lost the war was their inability to capture enough oil and metal to power their war machine -- particularly after losing the Battle of Stalingrad. Resource constraints were very real in Keynes' world, but like earlier economists he doubtless viewed them as a national problem rather than a global one.

Alan Greenspan

Among later thinkers, Greenspan has generally taken the view that resource constraints are not relevant. He understood the relevance of financial constraints, but also was in a position as the central banker to loosen the purse strings and relieve those constraints. His view traditionally was that industries would protect resources out of self-interest (Nair, 2009).

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Greenspan's views are common today among monetarist thinkers. The underlying assumption of perfectly rational investors is prevalent in economic thought, and this is part of Greenspan's thinking as well. The theory is that perfectly rational investors will make the decision that is best in the long-run. This is a falsehood for a number of reasons. The first thing worth remembering about rational investors is that the idea was built into economic models out of necessity for simplicity, not out of a desire to accurately reflect the world. The idea should never have become orthodox. Beyond that, the market cycle is not geared towards a long-term time orientation. Companies are oriented towards pleasing stock markets every three months. This does not instill any sense of long-term rational behavior in corporate managers. The focus is on maximizing profit today, and tomorrow's problems can be dealt with tomorrow. This way of thinking is not especially proactive, and is not congruent with the theory of rational investors. Additionally, as there are negative externalities not accounted for in the basic measurement systems (financial statements), they will not be taken into account when the rational assessment of one's situation is taken into account. Corporations are strictly oriented towards short-term maximization of shareholder wealth (Friedman, 1971), not to maximizing resource acquisition, efficient use of resources or much of anything else to do with resources. The idea that these irrational actors would be able or willing to make long-term resource allocation decisions effectively is foolish.

Other Thoughts and Analysis

As the very concept of a world with finite resources had never really been incorporated into economic thought, the juxtaposition of resources constraints with the idea of perpetual economic growth had never really been conducted. Some authors argue that growth is still possible. Ellis et al. (2010) argue that trade can continue to deliver growth even in a world that is facing the real threat of carbon constraints. With increased trade and technological development, growth can continue. Underlying this theory is the idea of substitute goods. If oil and natural gas supplies dwindle, other power sources can be used -- coal, wind, solar, etc. If fresh water dwindles, seawater can be desalinated. New technologies will be developed to replace ones that are no longer viable. This innovation need not be the work of the invisible hand, either, as governments are perfectly able to invest to address these problems. Growth remains possible under these assumptions.

Substitution, of course, is not always perfect, so it should not be assumed that all goods are perfectly substitutable. Large internal combustion engines, for example, cannot run on alternative fuel sources -- that technology has not yet been developed. Sometimes lifestyles will be forced to change. Consider when a region runs into a food shortage -- people eat less at first, then they eat non-food and then they starve to death. While trade or charity could resolve that sort of resource constraint if it occurs on a global scale there is nowhere else with which we can trade to help us resolve the issue.

Krugman (2010) argues that substitution will come in the form of changes to the way we live, but that this does not necessarily preclude economic growth. In one way, he is correct because we do not know the form of substitution that will occur. However, historical evidence suggests, again, that humans are not perfectly long-run rational. There are many examples in the past of overconsumption of scarce resources leading to not just changes in the ways in which we lead our lives, but the collapse of our situations. Each situation is unique and complex, but some point to the reality we face should be push up against our resource constraints -- we have nowhere else to go. If we run out of something and cannot find an adequate substitute, we will not only see the end of growth but we could easily see collapse.

One important consideration is the role that money plays in resource constraints. There is no fixed amount of money in the world. New wealth is created when resources are exploited, but new money is created more easily. The multiplier effect is important because it means that at any given time there is probably more money in the world than there is material wealth. When that money sits on the sidelines, resources may be managed effectively. Consider, however, the idea that when resources essential to life become scarce, the price of those resources will rise......

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