The Competing Geopolitics of Energy in the Early 21st Century
(This piece represents an as-yet incomplete and as-yet unedited version of a monograph that I have been preparing as a summary of the theoretical foundation of EnerGeoPolitics. Most of the following was presented at the ISA-West conference in Los Angeles in September, 2010).
Summary of the Argument
*Long Cycle Theory (LCT) predicts that the end phase of the current American hegemony is nearly upon us.
*If LCT is correct, then we are in the Coalitioning phase and we should be able to detect shifts and changes in long standing alliances and relationships.
*LCT also predicts that the hegemon of each cycle has certain characteristics – a strong fiscal base, ability to globally project influence, and the ability to best address key global issues of the period
*I argue that the key issues of the next period are the conjoined issues of energy and climate
*There are currently three competing models for dealing with energy (they all give little but lip service to climate)
*The existing Anglo-American international petroleum market is one model
*The Russian Model that I term “Energy Hegemony” is a model for producing and exporting nations
*The Chinese Model that I term “Petro-Mercantilism” is a model for consuming countries
*If LCT is correct, we should be able to see alliances and relationships forming around these three competing models
*I lay out some evidence of this happening
*I conclude that, although the US model is the weakest at the moment, the US has several latent strengths and potentialities that it can pursue to come out ahead in the next conflict and earn a “second term” as hegemon.
The Winter of 2018-19 was the coldest in the history of Europe, and the advanced nations of the West were at the mercy of the new global natural gas cartel, the Russian led GasPEC (Gas Producing and Exporting Countries). Modeled on the OPEC oil cartel of several decades earlier, GasPEC was far more ruthless than that predecessor and wedded its pricing schemes with broad political demands. GasPEC was in a position of dominance because, over the previous decades, the Western nations had successfully crippled the coal industry through a complicated regime of carbon caps and taxes and, over the same time period, the East Asian nations had seriously depleted the global petroleum market by inking exclusive deals with oil producers that forever removed billions of barrels from the market. Wind and solar power had never lived up to the fanciful claims of their proponents, and environmental concerns and disposal issues had held the nuclear industry in check. Natural gas was the fuel, not of choice but of necessity, for Western Europe. Now, thirty years after their apparent defeat in the Cold War, the Russians were using the cold winter as their weapon to win concessions in the Energy War.
The above is one highly plausible scenario for our near future. The (relatively) free and open global market for petroleum – that has served the world (and has been dominated by the United States) for a century – is under assault. On one front, Russia has emerged from its post-Cold War spiral as an aggressive power once more, using its enormous energy resources as a weapon on the world diplomatic stage and encouraging other petro-states such as Iran and Venezuela to follow suit. On another front, Chinese national oil companies are striking deals around the world to secure energy resources for the exclusive use of their nation, bypassing the market system in favor of a neo-mercantilism which has been embraced by other Asian nations. As demand continues to increase and supplies are stretched, states that formerly embraced the US led market paradigm are being forced to reconsider their loyalty to that system. Those who are producers are tempted to join the Energy Hegemony model championed by Russia, while those who are consumers feel pressure to secure their own supplies and thus join the Petro-Mercantilist model led by the Chinese. How the world aligns between these three energy paradigms will shape the structure of the next global conflict, which will in all likelihood occur within the lifetime of everyone reading this article.
While the above may read like the prologue to a Tom Clancy novel or the opening of a Hollywood thriller, it is not an implausible scenario. The purpose of research, however, is not to imagine simply possible scenarios, but to examine deep structures that make them plausible. Long Cycle identifies a regular cycle of roughly 80 to 100 years in which a global leader rises, dominates, and then faces a challenge and, usually, falls. In addition to identifying the periodicity of leadership change, Long Cycle theory also identifies several individual phases within that period. If correct, this theory predicts that we are nearing the phase of “macrodecision” – which in the past has meant global war – that will re-order the interstate arrangements of the global economic structure. Five times previously in the modern era, developed states have organized into disputing coalitions around various key global questions. At the end of each struggle, a new global order arose with a new leader – hegemon – at it’s head. Only once before has a reigning hegemon emerged from that struggle to maintain leadership. That leader is the nation who is best able to address the global problem or issue. Today, we are late in the most recent cycle. If Long Cycle theory is correct, we should be able to discern the outlines of the key problems that will initiate the next conflict, as well as the beginning of the coalitions that will come into competition around them. In this paper, I will argue that the emergent global problems are the inseparable issues of energy and climate, and that three distinct approaches to these problems, each favored by one of three leading world powers, are emerging: Energy Hegemony (Russia), Petro-Mercantilism (China), and a Global Energy Public Good (United States).
This paper will be organized in three parts. First, the three approaches mentioned above and in the title to the paper will be defined and discussed. Second, the theoretical framework of Long Cycles and its application to this issue will be examined. Third, evidence from current events will be presented to support the argument
Carbon fuels – coal, gas and especially oil – remain the life blood of the global economy and will likely remain so for much if not all of the current century (Odell, 2004). The idea of “Peak Oil” – the point at which half the global reserves of petroleum have been exhausted and thus a permanent and irresistible decline in availability begins – has been around for over half a century. Yet, as formerly “Third World” nations industrialize, and as developed nations continue to grow, the demand for these fuels is increasing at an accelerated pace, and that Peak is ever closer (and, some would claim, has already passed – see table below). Although there are potential alternate sources of energy, none provide the combination of the Three Ps: Price (carbon fuels are still very cheap compared to alternatives), Portability (coal, gas and especially oil are very easily transported to the point of use) and Potency (electricity can lose up to half of its power in transmission, and carbon-based fuels have about 100 times the energy density of even the most advanced batteries for storing electrical power). Additionally, carbon fuels have the advantage of a well built infrastructure that supports their use. Many alternatives will require large investments in supporting infrastructure beyond the already large research outlays needed to simply develop them. For these reasons, Oil is still King, and Coal and Gas are powerful Princes.
Table 1: Estimated Time of Global Oil Production Peak by Various Sources:
|2006-2007||Oil Depletion Analysis Centre (2001)|
|By 2011||Skrebowski (2007)|
|Before 2010||Goodstein (2004)|
|Around 2010||Campbell (1998)|
|After 2010||World Energy Council|
|2014||Oxford University (2010)|
|2017 or 2018||Maxwell (2010)|
|Between 2026 and 2047||EIA (2004)|
|After 2020||CERA (2006)|
|2025 or later||Shell (2008)|
|2030 or after||USGS (2005)|
As the wide variability in projected Peak dates demonstrates, estimation in this area is exceedingly difficult. We do not have perfect knowledge of how much oil remains undiscovered, nor of how much remains in existing fields, and both oil companies and national governments have been known to willingly falsify resource data. What we do know is that maintaining modern lifestyles and lifting populations out of poverty will result in increasing demand on what is assumed by most to be a finite resource.1 Rising demand from multiple sources combined with declining supply is a recipe for conflict. Since the end of the Second World War, the United States has supported a global petroleum trading system that many fear is inadequate to the task in a Peak Oil world. Governments are well aware of the issue and are casting about for a solution to the problem. Currently, there are two major models that are competing with the still existing US system – the Russian approach, which is a producer’s model, and the Chinese approach, which is a consumer’s model. I call the Russian model Energy Hegemony, and the Chinese model Petro-Mercantilism.
Russia has enormous reserves of oil and natural gas – the 8th largest proven petroleum reserves and the largest – by far – proven conventional natural gas reserves. Additionally, its central position in the Eurasian land mass puts it astride the shortest, cheapest pipeline and transit routes for those reserves that it does not directly control. Russia is using its energy resources and geographical position to bully both suppliers (in Central and Southwest Asia) and users (primarily in Europe) into supporting its political projects. It’s pressure on states seeking to create alternate pipeline routes that circumvent Russian territory was made explicit in the 2008 Georgia War. In winter of 2006, the Russians ceased gas supplies to Ukraine in order to force political concessions from their neighbor and formerly occupied client.
Additionally, Russia is using its energy companies to exploit the free market. Gazprom, the largest Russian company, is larger than Western behemoth Exxon Mobil. Gazprom executives and Russian political leaders alike have publicly discussed the creation of an international gas cartel modeled on OPEC – GasPEC – that would be dominated by Russia. American defense and foreign policy analysts have commented for years on this formidable “energy weapon,” and in recent months, several European nations, Germany in particular (Stratfor, 2010), have become closer politically and economically to Russia.
Figure 1: Primary Energy Pipelines to Europe
China has been behaving as a classic mercantilist state across the board, not just in energy. The Chinese government and its quasi-public agents such as SinoPec are seeking to lock up exclusive access to oil and gas reserves wherever they can obtain them. The Chinese collusion in the Darfur genocide, for example, is a direct result of their desire to obtain exclusive rights to Sudanese energy reserves. Also, China is using its state-owned companies to play in foreign free markets to purchase Western companies that further its hunt for energy supplies. These are classic mercantilist approaches. In 2005, the Chinese National Overseas Oil Company (CNOOC) placed a bid for the purchase of the American oil company UNOCAL. This set off a wave of panic, as political leaders recognized the potential threat to US national security, and the UNOCAL bid was eventually withdrawn under political pressure. However, CNOOC and other large Chinese companies (including PetroChina parent Chinese National Petroleum Company – CNPC – and SinoPec parent China Petrochemical Corporation – CPC) have ever since been engaged in a global acquisition strategy aimed at securing exclusive petroleum deals wherever they can be had. CNOOC has global operations in Australia, Nigeria, Indonesia and Iraq. Recently, they have trod into the traditional American sphere of influence and signed deals throughout South America and the Caribbean region – Argentina, Bolivia, Chile and Trinidad and Tobago. SinoPec has global operations in Ethiopa, Gabon, Ghana and, notoriously, Sudan. Last year, SinoPec purchased a majority interest in a company developing the Alberta tar sands in Canada, while earlier this year, SinoPec signed a deal with Cuba to initiate deep water drilling in the Gulf of Mexico. CNPC global investments include ventures in Azerbaijan, Indonesia, Myanmar, Oman, Sudan, Thailand, Turkmenistan, Kazakhstan, and Uzbekistan. CNPC is also playing in the Western hemisphere with activities in Peru, Venezuela and its own deals in Canada. The Chinese quest for exclusive deals has not abated. Figure 2 shows the major acquisitions by Chinese companies in 2009 alone.
Figure 2: Notable China Oil and Gas Deals, 2009
The global energy market
When the Anglo-American dominated global petroleum market first coalesced, the United States was the world’s largest producer and exporter of petroleum, and the British controlled much of the growing but still largely untapped Persian Gulf region. They were also the world’s largest economies. Finally, first the British and later the United States were the clear and dominant naval powers in the world. It was relatively easy for these nations to dictate the terms on which oil would be traded. While the US Navy is still supreme, the costs of supporting military action have nearly become prohibitive. Today, while the US is still far and away the world’s largest economies, the combined economies of the rest of the world have a much larger piece of the pie than they did 60 years ago, the US current account balance is in perpetual deficit, as are its annual budgets. Finally, while the US is still the world’s third largest producer of oil, it imports vast amounts and exports only distillates and excess products from the refining process. The circumstances on which the global market was formed have radically changed. This leads us to the intersection of geopolitics and energy: Geopolitical choices/events can either shrink or enlarge the total energy resource pool. General rule of thumb: The goal of producing nations is to shrink that pool (or, at least, the perception of the pool) in order to maximize prices; the goal of consuming nations is to enlarge the pool in order to. These two impulses lead down the same road: the formation of national oil companies. For producers, a national oil company maximizes the power and profit of the resource. For consumers, it emulates the Chinese model of circumventing the international market and locking up exclusive supplies. Together, this has resulted in immense national oil companies that dwarf the size of Western companies in both market power and in control of actual resources.
What is commonly referred to in the West as “Big Oil” are the six largest Western oil companies, also called the “Supermajors.” These companies are ExxonMobil, Royal Dutch Shell, BP, Chevron, Total and ConocoPhillips. While these companies are indeed massive in financial terms – market capitalization, cash on hand, etc – they are relative pipsqueaks in terms of the geopolitics of energy. ExxonMobil has control over the largest oil reserves of the Supermajors, with about 13.3 billion barrels of oil and gas (converted to oil equivalent) reserves. This places it just 17th in the world, and all 16 companies ahead of it are national oil companies owned entirely or majority by national governments. Of the other Supermajors, BP ranks 19th, Chevron, Shell and ConocoPhillips are 21 through 23, and Total is 26th. While these rankings are ordinal, they mask the real disparity in production power. Figure 3 shows the world’s largest oil companies in terms of production capacity.
Figure 3: World’s Largest Oil and Gas Companies.
The Chinese and Russian models are currently dominating, and the US led global petroleum market is in serious decline. And yet, if the US wants to earn a second term as global leader, or to see that leadership pass to another like minded nation, that market has to be defended. A viable third way to the Russian and Chinese models must be presented to the rest of the world. The good news is that, despite its precarious energy and financial positions, the United States has at hand the means with which to do so. It lies directly beneath our feet
Welcome to the Shale Age; or, the Second Age of Oil
The United States sits atop a treasure trove of fossil fuel energy. Let’s not even touch the politically sensitive areas of ANWR and the outer continental shelf, both of which are probably off the table for the foreseeable future due to the Deepwater Horizon disaster in the Gulf of Mexico. Domestically, on shore, the United States has the ability to become King Carbon among nations with its vast deposits of coal, natural gas, and unconventional oil.
Table 2: US reserves of coal, natural gas, conventional oil and shale oil
Long Cycle Theory
World System Analysis is a perspective in the social sciences that looks at the world as a whole as its unit of analysis, and considers the entire world economy working as a whole. From this perspective, certain regular periods and cycles become apparent. In the modern world system, which rose about 500 years ago with the rise of European dominance, these long cycles have occurred roughly every 80 to 100 years. Historian George Modelski noted that, in each cycle, there is a single nation that takes the lead – hegemony – and uses that leadership to dictate the rules by which the world system will be organized. The hegemonic power rises from the aftermath of a “macrodecision” – usually a global war – that unseats the previous hegemon and sets the stage for the next cycle. The United States is the reigning hegemon, having succeeded Britain at the end of World War Two. Table 3, below, displays the prior eras, the hegemonic powers, and their primary challengers, while Figure 4 demonstrates how the cycles of the period interact.
Table 3: The Long Cycles of the Modern Age
Figure 4: The Recurring Phases of the Long Cycle
It is now late in the fifth cycle, and students of long cycle theory would predict the next macrodecision to occur probably in no more than two or three decades. The years preceding the macrodecision are known as the “coalitioning” phase, a period within which the leading power organizes those who have benefitted from the system under their leadership, while the challenging power organizes those who feel aggrieved or simply believe that they could be doing better under a different system. This the phase the world is in today, and it is around the energy industry that the coalitions are being organized. As noted above, various nations are gravitating toward the national oil company models currently advocated by Russia for producers and by China for consumers. But, adoption of a particular model is not the same as coalitioning in advance of a global conflict. Such national oil companies have been integrated into the Anglo-American system in the past, can be again in the future.
At the conclusion of the Second World War (and the end of the last Macrodecision), the United States emerged as the world leader. In the implementation phase that followed, the United States built the international institutions that created the legal and moral framework for the global trading system in which it dominated and from which it prospered. Other nations fell into step with the US and many of them, too, prospered. Others did not fully join and a few others actively resisted American hegemony but, in the end, the US was too powerful militarily and, especially, economically to be threatened. When the largest of the resistors, the Soviet Union, collapses, the US moved from implementation to agenda setting. The Washington Consensus of the 1980s and 1990s set the goal of total market globalization. The world seemed well on its way to accepting this “consensus,” and even Professor Modelski wondered if the era of cycles was over, and a new era of global governance might be on the horizon.
The Coalitioning Phase
It is tempting to say that the world changed on September 11, 2001. In the aftermath of the attacks on the World Trade Center and the Pentagon, the United States launched into a multi-front war that has sapped its strength and treasury. Before that war could be brought to a close, a global financial crisis struck and the combination of war and stimulus funding and apparent inability to deal with national problems by either political party led many to talk of the decline of American power. However, the causes of this relative decline were at work long before 9/11. The success of the Washington Consensus and the adoption of various iterations of market capitalism across the globe had led to a boom in development in previously undeveloped nations. This had two cascading effects: First, the demand on global energy supplies from previously un- or under-developed nations began to increase rapidly and, second, burning that additional energy meant that the production of gasses that aid in global warming also increased – more rapidly due to the lack of any effective environmental regimes in many of the developing nations. Of these, the energy issue was seen as the most pressing (even though there was a large and growing constituency for action on global warming). Without the energy issue, there likely would have been no invasion of Iraq, nor an ongoing large scale Western presence in Afghanistan. But for the need to increase the world access to oil, neither makes any strategic sense. The Taliban would have been toppled, police agencies and military special forces would have hunted the remnants of al Qaeda, and that would have been the end of it. But, ongoing action in Afghanistan gave the United States a precept on which to build a presence in several oil and gas rich Central Asian nations. Iraq was a different case altogether. There was a marginally plausible excuse for invading the nation as part of the “global war on terror,” but there was a profound strategic reason for doing so. Iraq sat on the world’s second largest oil reserves, reserves that had been mismanaged, under-explored, and largely held off the world market for decades under the brutally functional but managerially incompetent regime of Saddam Hussein. Afghanistan could help to unlock the energy stocks of Central Asia while Iraq could release oil reserves potentially as large as those of Saudi Arabia. Together, this would relieve the pressure on the energy market for decades, allowing the US to maintain it’s dominant position in that market and to continue pursuit of its wider agenda.
Iraq and Afghanistan, once Soviet client states, are now the sites of forward bases maintaining over 100,000 combined American combat troops. These nations sit in the heart of the Strategic Energy Ellipse (SEE), a region that holds 70% of the world’s proven (conventional) oil reserves and 40% of the proven (conventional) gas reserves. The early stages of the coalitioning phase is clearly exhibited in this region, which is depicted in Figure 5 below.
Figure 5: The Strategic Energy Ellipse and the Primary Energy Consumption Regions
(Permission for use granted for 2010 presentation, but used here without permission from CIEP)
In addition to the troops in Iraq and Afghanistan, and pre-existing bases or basing arrangements with Turkey, Bahrain, Qatar, the United Arab Emirates, Kuwait and Saudi Arabia, the United States has used the war on terror to sign troop or access deals with Georgia and Azerbaijan in the Trans-Caucus region, and with Turkmenistan, Uzbekistan and Tajikistan in Central Asia (along with an on-again, off-again relationship with Kazakhstan). At one point, the United States tried to create a permanent alliance grouping consisting of many of these nations, called the Caspian Guard. The Caspian Guard concept was never officially abandoned, but it is no longer referred to in any State or Defense Department documents. The US has also supported the so called GUAM group of Georgia, Ukraine, Azerbaijan and Moldava (and has since expanded to include Poland, Lithuania and Romania from outside the SEE) as a counter to Russian influence in the area, and has courted Ukraine and Georgia for full membership in the primary NATO alliance. Through NATO, the US has also extended “Individual Partnership Action Plans,” which are sort of junior memberships, with SEE nations Azerbaijan, Armenia and Kazakhstan.
Concurrent with the massive US military engagement in Central Asia and its attempts at creating the Caspian Guard, both Russia and China, together and separately, have been nearly as active. Although neither has the large direct military presence of the United States, both are close enough to project power (although modern China has never demonstrated the capability to project such power so far from their population centers on the Pacific coast – but Russia most assuredly has demonstrated that capability). Russia and China are partners with Kazakhstan, Kyrgyzstan, Tajikistan and Uzbekistan in the Shanghai Cooperation Organization (SCO), which came into formal being in the summer of 2001 but had its genesis in a pair of border treaties and reduction of military forces signed in 1996 and 1997. The SCO is not, however, a military alliance, although there have been talks of expanding its scope to include military affairs. Hedging its bets, Russia responded to US inroads into its “near abroad” and former client states by initiating the Collective Security Treaty Organization (CSTO) – an explicit military alliance – in 2002. The membership of the CSTO overlaps and extends the SCO – all members of the Shanghai group save China are in the CSTO, plus Armenia and Belarus. Both groups are seeking to expand, with Iran a prime target of each. India and Pakistan are observers of the SCO but not of the CSTO.
Table 4: Competing Alliance Structures Within and Around the Strategic Energy Ellipse
Of the three competing powers, it seems that Russia currently holds the upper hand. US influence in the region probably peaked in 2007 at the height of the Iraq Surge. Since then, an exhausted America has begun to retreat from the region, first rhetorically and now, increasingly, physically. If the US military is not going to be geographically and immediately present, the players in the region have to make the best possible deals with the large remaining powers, China and Russia. China’s role as a hungry energy importer is not congruent with the nations of the SEE for whom energy production is by far the largest sector of the economy, and the remoteness of Chinese military power makes it an unsure ally. Russia, with the greatest ability (and historical willingness) to project military power into the region, is the conventional favorite, enhanced by its role as an energy producer with an economic model that the other energy producing nations find appealing. Russia is also using its energy surplus and its geographic location in the center of the Eurasian land mass to draw China itself ever closer. Just last month, Vladimir Putin cut the ribbon on the newly completed, 3000 mile East Siberian-Pacific Ocean pipeline that will deliver Russian oil to China and beyond. At roughly the same time, the Russian shipping company SovComFlot sent a supertanker filled with 70,000 tons of gas to China via the Northern Sea Route (Russia’s version of the fabled Northwest Passage, made passable for the first time due to increased summer ice melt in the Arctic Ocean). This route, entirely through Russian waters, cuts weeks off the traditional routes around Africa and through the treacherous Straits of Malacca. And, it draws China more intimately into the Russian energy circle.
Outside the SEE, we see other indications of the coalitioning phase. Old allies are slipping away, and old foes are becoming friendly. Pakistan was a steady US ally throughout the Cold War, but has recently signed a nuclear power deal with China. Meanwhile, Vietnam, which with support from both Russia and China emerged victorious over the United States in what was at the time the longest war in US history, has signed their own nuclear power deal . . . with the United States. In June, German Chancellor Andrea Merkel and Russian President Dmitry Medvedev announced a joint proposal for a Russian/European “security arrangement.” This arrangement would ostensibly run parallel to the existing Atlantic Treaty (NATO), but which in effect would largely weaken that alliance – the most important in the US network of treaties. Dependency on Russian energy coupled with af formal security arrangement parallel to NATO would give Russia a plausible veto on any NATO action.
German/Russian realignment will tighten next year with the completion of the Nord Stream pipeline. This project is the world’s longest undersea gas pipeline, feeding gas supplies from Russia directly to Germany (and beyond to Western Europe) via the Baltic Sea bed. This bypasses Poland, Latvia, Lithuania and Estonia and effectively isolates these nations – allowing Russia to shut off the gas to them (as it did to Ukraine in 2006) without disrupting deliveries to their lucrative Western European customers. As with Ukraine, Russia can now wield – or simply threaten to wield – their “energy weapon” against these formerly occupied states, who are now effectively cut off from their allies in the West (increasingly, the US alone), due to the growing Russo-German alignment, just as they were immediately prior to World War II.
In the wake of these developments, early this month a secret report from the Bundeswehr (German Defense Ministry) on the implications of Peak Oil was leaked. A failure of the current market system to adequately supply energy hungry nations of the developed world is anticpated. The report predicts a “more pragmatic” German foreign policy as European suppliers Norway and the UK see diminishing stocks, causing Germany to seek enhancedties with Russia and other Caspian Basin states. It even explicitly predicts the likely abandonment of Western values in foreign policy frameworks.
Things certainly seem geopolitically bleak for the US at the moment. The Anglo-American petroleum market system from which it has profited for over a century and which it has dominated for nearly as long is teetering. Although it remains the world’s largest economy, the ongoing military commitments to Iraq and Afghanistan combined current financial crisis has left it without the fiscal wherewithal to respond to other pressing strategic threats. The US current account deficit is bleeding money to energy producing nations while the government finances itself with money borrowed from its Chinese competitor.
I accept the precepts of Modelsky’s formulation of Long Cycle theory. I believe that it is a largely accurate description of the world as it functions. That means the following:
- The world is best understood as a single economic system in which nations are actors with varying – and limited – autonomy.
- That world system tends to produce a leader, or hegemon, to whom additional benefits accrue.
- Nations allied with the leader can also prosper, but less so, and those who resist that leadership tend to suffer.
- The US is the current hegemon, and immense prosperity and enhanced standards of living have come as a result.
- There are two US values that are fundamental and must be defended. Liberty and Prosperity. And one probably cannot exist to the degree Americans expect without the other.
- There will be a global leader at the end of this cycle and at the beginning of the next. If not the US, then someone else, someone whose interests might prove to be hostile to the US values of liberty and prosperity.
- Since there is going to be a leader, it is better that it be the US than someone else. You have to pick a side in this debate.
Over the years, mercantilism has received a great deal of scholarly attention. Originally, the term was coined by critics to denote trade policies that were based on “export monopolies, protectionism, exchange control, and balance of trade” (Schumpeter, 1954b, p.318). Today, the term is used to signify on economic systems that incorporate the elements listed above. Seminal works such as Eli Heckscher’s two-volume Mercantilism (Heckscher & Shapiro, 1935) or John Viner’s (Viner, 1930a, 1930b, 1948) contributions to the field have not just shaped our understanding of historical mercantilism but also significantly influenced theoretical perceptions of the field. These texts are today historical sources in their own right and deserve at least as much attention as the historical primary sources from the sixteenth, seventeenth, and eighteenth century.
Accordingly, this literature review will approach literature of and on mercantilism from various perspectives. The first section will discuss mercantilism in historical perspective. This section will not just include a discussion of the earliest “theoretical” contributions to the field but also the specific national practices of mercantilism in Europe from the sixteenth to the eighteenth century. Moreover, this section will discuss early criticism of mercantilism such as Adam Smith’s Wealth of the Nations (1776), which began to emerge with beginning of the industrial revolution.
The second section of this literature review will focus on secondary literature of historical mercantilism and on twentieth century theoretical contributions to the field. This section will also identify important directions of research and theoretical debates.
The final and last section of this chapter will assess recent contributions to the field and identify current debates.
Mercantilism in Historical Perspective
The notion that the state regulates a nation’s economy in order to augment its power has shaped European politics and trade policies for three centuries up until the late eighteenth century. Early contributions to the theory and practice of trade policies consisted of theoretical debates between proponents of mercantilism about the shape and form that trade policies should take (Child & Culpeper, 1693; Coke & Miscellaneous Pamphlet Collection (Library of Congress), 1670; Malynes, Jones, Bourne, & English Printing Collection (Library of Congress), 1623; Malynes, Legate, Sheffard, & English Printing Collection (Library of Congress), 1622; Misselden, Dawson, Bourne, & English Printing Collection (Library of Congress), 1623; Mun, 1664; Mun, Okes, Pyper, & English Printing Collection (Library of Congress), 1621; Steuart & Pre-1801 Imprint Collection (Library of Congress), 1767).
Mercantilism has to be understood as the economic counterpart to the political system of absolutism, which is characterized by the notion that an absolute ruler reigns over every aspect of public life, society, law, and economy (Viner, 1948).
The intellectual debates of the seventeenth century were lively and characterized by adamant disagreement about how policies of mercantilism should be designed and implemented. However, despite this disagreement, mercantilists shared some common ideas that constitute the core of classic mercantilism. One of the tenets is the notion that a state should try to achieve a positive trade balance in order to accumulate as much specie (gold and silver bullion) as possible. The underlying rationale is based on the notion that the global volume of international trade and the “economic resources of the world” are limited (Heckscher & Shapiro, 1935, p. 25). This notion is supported by more recent research that suggests that the English economy, for example, had been relatively stagnant for at least two thousand years (Clark, 2007). Put differently, one country’s gain was considered another country’s loss. Accordingly, it was believed that a country’s wealth depended on its ability to obtain and accumulate gold and silver bullion. Furthermore, it was believed that if a country’s portfolio of natural resources did not contain silver or gold, the country would have to obtain these assets through trade. The “golden rule” of mercantilist trade policies was thus that export should exceed import (Mun, 1664). Although this recommendation had potentially other positive effects such as increases in domestic employment, raising prices of exported goods, and increasing the amount of money in domestic circulation, secondary literature on mercantilism emphasizes that an increase in bullion supplies was the primary goal of mercantilist trade policies (Viner, 1930a, 1930b; C. Wilson, 1949).
The second area of agreement among proponents and theorists of classic mercantilist trade policies concerned the nature of exported and imported goods. It was believed that exporting manufactured goods and importing commodities (agricultural and mining goods) was essential to achieving the overall goal of accumulating specie. Moreover, exporting manufactured goods also had the positive effect of boosting domestic employment, as manufacturing was a labor-intensive activity. Alexander Hamilton believed that prospering manufactures were the key to a nation’s wealth, independence, and security (United States. Dept. of the Treasury., Hamilton, & American Imprint Collection (Library of Congress), 1791).
The last point of agreement among proponents of mercantilism was the notion that trade and commerce were instruments to enhance state power (Maneschi, 2004). As mentioned earlier, mercantilism is the economic counterpart of absolutism. In his multi-volume work on mercantilism Eli Heckscher (1935) argues that mercantilism served as a unifying system that transitioned medieval societies into nation states with unified economies and centralized state power. The accumulation of specie grew in importance, as financial resources to pay for state expenses such as armies became increasingly necessary. The emerging nation states of the seventeenth century maintained large standing armies to protect themselves against the competing territorial demands of their neighbors.
Economist Jacob Viner, who is one of the major contributors to theories of international trade, challenges the assumptions made my Heckscher (1935) and others, when he points out that
Despite his wide knowledge on the mercantilist literature, Heckscher fails to cite a single passage in which it is asserted that power is or should be the sole end of national policy, or that wealth only matters as it serves power. I doubt whether any such passage can be cited, or that anyone ever held such view. (p.7)
Viner then goes on to ask,
What then is the correct interpretation of mercantilist doctrine and practice with respect to the roles of power and plenty as ends of national policy? I believe that practically all mercantilists, whatever the period, country, or status of the particular individual, would have subscribed to all of the following propositions: (1) wealth is an absolute essential means to power, whether for security or aggression; (2) power is essential or valuable as a means of the acquisition or retention of wealth, (3) wealth and power are each proper ultimate ends of national policy; (4) there is long-run harmony between these ends, although in particular circumstances it may be necessary for a time to make economic sacrifices in the interest of military security and therefore also of long-run prosperity. (p.10)
Viner’s observations are in so far significant as he emphasizes that power and plenty were in fact ends of national policy in their own right and that they complemented each other for the most part; however, in some instances these ends were at odds. He suggests that political leaders had to resist “pressure from merchants to pursue petty commercial ends, which promised immediate economic gain bit at the possible cost of long-run military security” (17). This notion is implicitly also shared by Ekelund and Tollison (1981) who characterize the arguments brought forward by proponents of mercantilism as promoting rent-seeking behaviors.
However, it is important to point out that there is a significant amount of disagreement in the secondary literature about the exact motives and objectives of classic mercantilism. Schumpeter (Schumpeter, 1954b), for example, has pointed out that characterizing mercantilist trade policies as self-serving is too simplistic. He points out that the mercantilist system is an “imaginary entity” (p.143) and that complex interests and objectives were at play in recommending and implementing mercantilist policies.
This nuanced view of the interplay between political and economic interests, is taken up by several scholars who argue that mercantilism formed the basis of European colonization efforts and imperialism (Fitzmaurice, 2003; Ghosh, 1964; Koebner, 1949; Mukherjee, 1985; Pares, 1937). This notion is supported by primary sources, such as the writings of William Petty (1967 ) or Josiah Child (1693) who urged territorial expansion to promote and expand trade and obtain advantages over other nations. Pares has pointed out, “colonization and empire-building are above all economic acts, undertaken for economic reasons and very seldom for any others” (p.119). Furthermore, “a colony was to yield raw materials and dispose of English manufactures” (p.120). However, given the long and complex history of colonization, one could argue that the reasons for territorial expansion and the establishment of colonies were motivated by a number of cultural, economic, and political reasons, which were all closely intertwined (Osterhammel, 2005).
As mentioned earlier, some scholars have pointed out that mercantilism is an “imaginary entity” (Schumpeter, 1954b). This notion is not just based on the observation that the trade policies of the sixteenth, seventeenth, and eighteenth century were not subject to one unifying theory but also to the fact that mercantilism took on various forms across Europe.
Often associated with Jean-Baptist Colbert (1619-1683), French mercantilism began to emerge already in the sixteenth century (Cole, 1939). As Cole (1939) has pointed out, Jean-Baptist Colbert represents the maturation of French mercantilism. This is not to say that Colbert’s contributions to the establishment of a unified French national economy were insignificant. Colbert served as finance minister under Louis XIV, the Sun King. During his twenty years of service as finance minister, he installed an economic system (Colbertism), which was quite effective in stimulating and stabilizing the French economy. French mercantilism under Colbert was characterized by a high degree of economic planning. The government would issues decrees which would in great detail define the specific quality of cloth, furniture and other manufactured goods that were to be produced (Magnusson, 1994). Under Colbert, significant improvements in infrastructure (canals and roads) were made and a domestic tariff zone in Northern France was established that facilitated domestic trade (Hansen, 2001). Other domestic policies included the establishment end strengthening of guilds and the establishment of firms that exclusively catered to the Court. Internationally, France pursued an active colonial policy to gain access to markets and resources, which led to frequent military conflicts with Great Britain in “remote” colonial regions such as North America and India (Hansen, 2001).
French mercantilism is often compared with the mercantilist system of England. As Hansen (2001) has pointed out, British mercantilism was protectionist but in contrast to Colbertism not “dirigiste” (Hansen, 2001, p.64). The British also established a system of guilds and regulated domestic and international trade. However, Parliament and the King did not dictate the nature and quality of the various products that were manufactured. Moreover, Common Law prohibited the establishment of monopolies except in very few cases that were clearly defined by the courts (Hansen, 2001). British mercantilism encouraged private enterprises. As Nettels (1952) has pointed out
[the mercantilist system in England] encouraged the merchants, shippers, and manufacturers by conferring benefits upon them and by identifying their private interests with the highest needs of the state. So close was this identification, that one may properly regard the theory of mercantilism a rationalization of the special interests of dominant groups of the time. (p.106)
This emphasis of private interests in British mercantilism starkly contrasts with the French system of mercantilism. Moreover, while the British emphasized export and international trade of manufactured goods, the French system emphasized domestic trade and produced goods that were supposed to meet the standards of the domestic Court, not international markets (Hansen, 2001). Accordingly, British mercantilism strongly emphasized colonial expansion as a means to gain access to resources and access to new markets (Knorr, 1944; Nettels, 1952). British mercantilist policies focused on protecting domestic markets by placing tariffs on imports and bounties on exports. Moreover, the exports of certain raw materials was banned completely, as it was believed that this would give competitors an unwanted advantage.
The French and British mercantilist systems also differed in another respect. Although Colbert’s reforms created a flourishing national economy, the country became increasingly impoverished (Mousnier, 1979), as Louis XIV spent significant amounts of money to maintain a large army and lavish court. English mercantilism, on the other hand, formed the basis for British world dominance in the eighteenth and nineteenth century.
Other countries, such as the Netherlands, Sweden, Denmark, or Prussia adhered to mercantilist trade policies to varying degrees. Eighteenth century Prussia under Frederick the Great had probably the most regulated mercantilist system in continental Europe (Hubatsch, 1975), while attempts to create mercantilist systems in other countries such as Russia under Peter I or in the Austrian-Hungarian Empire proved to be difficult and widely unsuccessful (Good, 1984; Kahan, 1966).
Mercantilism started to attract significant criticism during the eighteenth century. One of its most famous critics was Scottish social philosopher Adam Smith, who in Wealth of the Nations (Smith, 1778 ) criticizes mercantilist policies for protection producers’ interests at the expanse of consumers. Smith also points out that the strong emphasis on production in mercantilist policies ignores the role of domestic consumption, which also is a significant factor in economic growth. Moreover, he emphasizes that mercantilism has a number of logical flaws such as the assumption that the accumulation of bullion equaled wealth. He argues that bullion is just like any other commodity and its value is thus relative to supply and demand. Smith’s seminal work would form the basis of classical economics.
Other critics included David Hume, who shared Smith view that economic growth and advancement would come about without planning by the state (Hume & Rotwein, 2007). In contrast to Smith, however, Hume emphasized the non-agrarian sector of the economy, i.e. manufacturing, and foresaw significant growth in this area given that policies would be designed to allow for such growth. John Locke’s Second Treatise (Locke, 2004) sums up anti-mercantilist criticism by suggesting that the amount of wealth and trade in the world is not fixed but that instead wealth and trade are subject to growth (Spiegel, 1991). Moreover, Locke’s text outlines the concepts of absolute and comparative advantage, which would only later become fully developed concepts of economic theory.
To date, the reasons why mercantilism fell out of favor are not entirely clear. Although Smith’s Wealth of the Nations became a highly influential text, several American politicians and statesmen, such as Alexander Hamilton, Henry Clay and Abraham Lincoln favored this system (Williams, 1958). In the twentieth century, classical mercantilism was practically dead and theoretically refuted. However, certain aspects continued to fuel theoretical debates in the historiography as well as theory of economy.
Historiography of Mercantilism and Theoretical Debates
Heckscher’s Mercantilism (1935) is to date one of the most important works on mercantilism. As Findlay (2006) has pointed out, the historiography of mercantilism but particularly Heckscher’s contributions deserve scholarly attention of their own, as they have not just influenced contemporary economic theory but also can be seen as constituting the founding moment of the discipline of economic history. Findley furthermore points out that the historiographic interpretation of mercantilism has to be understood in its proper historical context.
Heckscher’s book was first published in Swedish in 1932. A year later, it was translated into German but it was not until 1935 that Mercantilism was translated into English. The publication of Heckscher’s book was significant because it was the first work that tried to combine historical research methods and economic theory. Accordingly, the booked received mixed reviews from historians and economists alike (Magnusson, 1994). At the time the major point of critique was directed at Heckscher’s conceptualization of mercantilism as an economic and political system (Magnusson, 1994). Critics such as Marc Bloch and Herbert Heaton found it unrealistic and misguided to assume that all governments from the Middle Ages to the end of the eighteenth century based their policies on a common set of intentions and goals (Findlay, 2006). Heckscher himself perceived of mercantilism as “a phase in the history of economic policy” (1935, p. 202) but also as a systematic doctrine of “protection and money.”
Critics of Heckscher’s book also took issue with the fact that the individual chapters of text were somewhat disjunctive and made it thus hard to assess the complexity of the book’s topic under one theoretical framework. Historical observation as well as economic theory are used by Heckscher, yet a meta-theory that explains his epistemological interest is somewhat missing. However, taken together the chapters of Heckscher’s seminal work all support his basic thesis, namely that economic policies were designed to augment state power. Furthermore, he emphasizes that economic policy of classic mercantilism should never be mistaken for an actual explanation of economic processes. He states that one should not suppose “mercantilist writers constructed their system – with its frequent marked theoretical orientation – out of any knowledge of reality” (p.347).
Heckscher interprets mercantilism not just as an economic system but also as a social and political model and makes the state the driving force behind economic activity. As mentioned earlier Viner (1948) objected to Heckscher’s view that the aim of mercantilism was the augmentation of state power and argued instead that economic gain and particular interests were the main motivators of mercantilist theories. Moreover, Viner sides with Adam Smith’s (Smith, 1796) assumption that mercantilists mistook the accumulation of bullion for wealth and argues that mercantilist theories were based in “reality” and that thus the decline of mercantilist systems could be explained as theorists came to understand the flaws in mercantilist theory. This argument has also been brought forward by Ekelund and Tollison (Ekelund & Tollison, 1981) and echoes one of the major themes in criticism of Heckscher’s work.
Research of economic historians of the 1950s and 1960s has greatly depended on Heckscher’s groundbreaking work in the field of economic history (Findlay, 2006). Mercantilism remained a popular topic of inquiry particularly in the Anglophone world, although the validity of Heckscher’s broad concept of mercantilism continued to be subject to debates. However, despite the disagreement about the usefulness of Heckscher’s concept, mercantilism emerged as a working concept of research in economy and international trade relations (Coleman, 1969) The lively academic debates of the time also tried to establish a more comprehensive and coherent theoretical basis for mercantilism. Magnusson (2006) speculates that these lively debates were the product of the academic controversy regarding protectionism vs. free market ideologies that had dominated economic research since the nineteenth century.
The major point of critique of Heckscher’s concept of mercantilism remained through the decades that his synthesis of three hundred years of economic history did neither justice to economic theory nor to economic history. However, Coleman one of the strongest critics of Heckscher’s concept in the 1960s, admitted in the 1980s that Heckscher’s notion of mercantilism might have some value as a working term.
The second major point of critique that was brought up time and again in theoretical debates about mercantilism since the 1950s pertained to the supposed relationship between economic ideas, policies, and events that according to Heckscher shaped classic mercantilism. Heckscher had rejected the notion that a relationship between thought and events existed. In his view there was, however, a relationship between thought (i.e. discourse) and actual policy. Several scholar, among them Coleman (Coleman, 1969) argued that if such a thing as mercantilist ideas existed they were most certainly rooted in specific historic events during the age of classic mercantilism. Accordingly, researchers set out to investigate specific historic circumstances and events that contributed to the emergence of mercantilism. This approach differs in so far from the framework of Heckscher’s text in that economic historians did not try to superimpose a theoretical concept upon an “era” but rather looked for concrete evidence that supported their hypotheses and assumptions. A good example of this change in research are the writings of Wilson (C. Wilson, 1957, 1959; C. H. Wilson, 1958), who pointed out that critics of mercantilism, including Adam Smith have ignored the fact that mercantilist tenets such as the accumulation of bullion might have rational roots that were based on concrete historical experiences. One of the conclusions Wilson drew from his analysis was that trading capital in money was a way for individual merchants to link their business activities to goods. Accordingly, there was a rational basis for mercantilists preference for species and bullion (C. Wilson, 1949).
Other researchers like J.D. Could (1955), for example, pointed at known economic crises of the seventeenth century as possible reasons for the emergence of mercantilist systems. Gould argues that these crises were caused by significant flaws in the monetary system of the time and that thus mercantilism had to be understood as a reaction to these flaws. Again, like Wilson, Gould held that mercantilism was rooted in concrete historic experiences. This view was also shared by Schumpeter (Schumpeter, 1954a, 1954b) who emphasized that “mercantilism” was rather the pragmatic response to economic flaws then a coherent economic framework.
The historical research into the concrete events and experiences that aided the emergence of mercantilist-type policies have greatly enriched today’s understanding of the economic history of the sixteenth, seventeenth, and eighteenth century. Moreover, one of the assumptions Heckscher made, namely that there is a close relationship between economic thought and actual policy has been convincingly refuted by several historical studies.
However, Heckscher’s insistence of the relationship between economic thought and policy is telling given the historical context out of which his text emerges. Mercantilism was published at the height of the Great Depression, i.e. at a time when questions of how governments could positively influence national economic outcome were debated and answers to these pressing questions in demand. Accordingly, one could argue that Heckscher’s work was in a sense also serving the purpose of underpinning the notion that the systematic study of economy could be translated into more or less successful economic policy. Although critics such as Schumpeter denied the relevance of economic thought for theory with regard to classic mercantilism, they at the time, actively participated in producing theoretical discourse that, would translate into concrete political action.
Contemporary Research and Debates
Today hardly any theorist adheres to the tenets of classic mercantilism. Economic theory and economic history has used various terms to describe quasi-mercantilist policies that were used various historical contexts. Some of these terms that describe quasi-mercantilist theories are “export monopolism,” protectionism, exchange control, and the concept of balance of trade (Schumpeter, 1954b). Significant contributions to this field have been made by Bhagwati (2002, 2008), Grossman and Helpman (1994), Krugman (1996), and McGillivray (2001, 2004). It is important to point out, however, that these terms only describe aspects of mercantilist thought and do not, in contrast to the concept of mercantilism introduced by Heckscher, represent an all-encompassing political, economic, and social theory. Moreover, the terms have come to be used in a wide variety of political and historical contexts that do not intersect with the “era” of classic mercantilism but rather refer to modern macro-economic theories and systems.
Today the theoretical notion of mercantilism is used in a number of contexts. Congleton (2009) and Holslag (2006), for example, examine historical mercantilism and draw parallels to the economic systems of Third World countries, which are often held in the grip of dictators or neo-patrimonial systems. Lal (2006) concurs with this view and points out that especially in the 1960s and 1970s post-colonial nations continued to favor mercantilist policies, which was clearly a part of their colonial heritage. Moreover, he argues that although these nations tried to rid themselves of colonial systems, nationalism, socialism, and economic planning remained strong factors in post-colonial nations and thus these countries unconsciously replicated colonial market structures and trade policies. He concludes that this holds true for almost all post-colonial nations. However, the built-in flaws of these systems would eventually reveal themselves in the 1980s and 1990s, when several nations, such as India in 1991, experienced severe economic crises and would eventually introduce liberal reforms. The observations made by researchers such as Lal and Congleton are in so far significant, as they convincingly illustrate the rationales and mechanisms of mercantilism in a modern context. Moreover, they also allow draw parallels between classic mercantilism and modern mercantilism and validate many of the assumptions about the decline of mercantilism Heckscher had already made some seventy years earlier (Lal, 2006).
The second area in which the concept of mercantilism has been applied to describe protectionist policies relates to foreign exchange accumulation. Shaffer and Warby (2009) describe neo-mercantilism as a policymaking in the interest of maximizing state-level trade balances. This, as they observe, includes management of exchange rates and accumulation of foreign exchange reserves for competitive advantage or stability. Shaffer and Warby point out that current literature has largely ignored the political implications of such polices and practices. They argue that large foreign currency reserves, especially of the dollar, accumulated by countries like China, may influence the interactions of these countries. Moreover, as both states hoard reserves, they become vulnerable to the currency decisions of the other nation. An unfavorable dependence ensues that might have significant macro-economic implications.
Aizenman and Lee (2008) address this problem as well. They point out that international reserves held by East Asian countries, China, Japan, and Korea, had exceeded $ 2 trillion dollars by 2006 (p.609). The sharp rise in international reserves since the late 1990s in these countries is reminiscent of mercantilist intervention aimed at manipulating exchange rates in favor of these countries, which in turn would give them a competitive economic edge. However, the authors also point out that this strategy while providing short-term economic benefits bears the danger of creating a highly fragile and volatile financial sector that if it collapses will cause severe problems.
Durdu (2009) describes neo-mercantilist practices in emerging economies. He observes that emerging economies frequently use mercantilist practices, such as hoarding of foreign currency, to protect themselves against Sudden Stops, which can cause significant economic damage. Hoarding foreign reserves is thus seen as a precautionary measure to bridge times in which trade might be impaired by sudden economic slowdowns or stops.
The three examples (Shaffer; Aizman and Lee; Durdu) are representative of a prevalent use of the term neo-mercantilism as it pertains to international trade and monetary policies. It is important to point out that these concepts are almost exclusively used in connection to the trade policies of Second or Third World countries, although arguably neo-mercantilist structures might also be identified in relation to the trade policies pursued by the European Union (Blaas & Becker, 2007). However, since the European Union is generally implements free market policies, their economic and trade policies can rarely be described as “purely” mercantilist. Significantly, the ideological backdrop against which trade policies are designed and implemented continue to play an important role in contemporary discussions of mercantilism. In this sense, Heckscher’s concept of classic mercantilism has proven to have some de facto validity, as it is usually used in contemporary context along political and ideological analysis.
While the researchers mentioned above generally assume that world trade and globalization are, with the exceptions mentioned above, liberal and free-market processes, Gee (2009) argues that globalization is in fact rather a form of “structural mercantilism.” This claim is in so far significant as proponents as well as opponents of globalization tend to emphasize its free-market and neo-liberal qualities. Gee argues that New Left dependency theories, frequently used to criticize the neo-liberal implications of globalization, are useful, yet what they describe is not neo-liberal capitalism but rather mercantilist capitalism.
Gee (2009) argues that in contrast to mercantilism, which saw trade as a “zero-sum game” (p. 254), neo-liberalism holds that trade is a “positive-sum game” (p.254) suggesting that everyone profits from economic growths. Within this rationale, free markets are believed to bring the greatest benefits to the greatest number of people. This belief has significantly shaped trade policies since 1945 and a number of international organizations such as the WTO, IMF, or the World Bank are explicitly built on this belief in the benefits of free markets. Accordingly, state tariffs have dropped from 40% in 1947 to 5% in 2009 (p. 254). However, as Gee rightly points out these policy changes have not led to improvements for Third World countries but have rather widened the gap between rich and poor nations. While some critics of globalization attribute this development to the neo-liberal nature of globalization, which is ultimately believed to be exploitative, Gee attributes these negative developments to a number of mercantilist policies and practices by rich industrialized nations. He names “conspiracies” of oil-producing countries, European Union subsidies for domestically grown crops, “buy American” rules in the United States for public procurement, and China’s practice of hoarding dollar reserves, as examples of “structural mercantilism.”
It is difficult to tell whether Gee’s argument could be validated upon closer analysis. However, his text shows that the concept of mercantilism is today still relevant. Moreover, it suggests that perhaps mercantilism is not limited to a particular historical epoch but that instead characteristics and elements of mercantilism are more common in contemporary economic policies than some theorists are willing to admit. After all, the discourse of economic theory does not exist independent from cultural, political, and ideological context. Adam Smith’s Wealth of Nations introduced a paradigmatic shift away from classic mercantilist ideas towards modern perceptions of economics. Because mercantilism was historically used by critics of the system (such as Smith) as “cuss” word of sorts, anti-mercantilist thinking is deeply engrained in market liberal thinking. Sometimes to the extent that theorists and policy-makers are blind to their own quasi-mercantilist practices.
Summing up, it is important to emphasize that mercantilism although it is perceived of as an outdated economic model and theory, continues to play an important role in theoretical debates, particularly as they pertain to globalization, Third World countries’ economic policies, and national policies regarding the accumulation of foreign reserve. Moreover, historic mercantilism serves as model that helps explain economic processes, especially with regard to emerging economies, today and has thus a value beyond mere academic contemplation.
Resource Nationalism and Resource Cartelization
In current research, the terms “Resource Nationalism” and “Resource Cartelization” are most frequently used in the context of oil and gas production. Both fields began to emerge in the 1970s as the result of several oil crises and the perception that resource nationalism and resource cartelization posed a significant economic and political threat to Western countries that heavily depended on oil and gas imports. Although both terms describe different political and economic practices, they are in many cases closely related. Roughly, resource nationalism denotes the perception that the natural resources of a country are the exclusive property of that country and should therefore be exploited through national, rather than free-market companies. In many cases, such as Venezuela, Kuwait, or Russia, resource nationalism is actively used to make political as well as economic gains and these countries are, as is the case with OPEC, willing to join intergovernmental organizations to coordinate output and price (cartelization).
Both resource nationalism and resource cartelization have been critically evaluated in academic literature. The following pages include a cross-section of the most important academic findings and discussions regarding these topics. Part One will discuss resource nationalism, while Part two will investigate resource cartelization.
As a result of the energy crises of the 1970s, Resource Nationalism (RN) became a major concern in academic research relating to energy supply and macroeconomics. During the 1970s, major industrial nations such as the United States, Germany, and Canada faced substantial shortages of petroleum, as a number of OPEC countries enforced embargoes against Western nations in reaction to their support of Israel in the Yom Kippur War of 1973 (Gorelick, 2010). Another major energy crisis was triggered by the Iranian revolution of 1979, in which the regime of the Shah of Iran, Mohammad Reza Pahlavi, was overthrown and the oil industry severely damaged. Although Iran resumed the production of oil soon after the Revolution, it did not reach pre-revolution levels, which led to a rise in the oil price due to diminished supplies.
These crises caused significant unease for Western governments, as the dependency and vulnerability of Western economies on foreign oil and natural gas became apparent. Against this backdrop, RN began to emerge as a theoretical concept, which described the fact that national governments, especially in the Middle East, controlled the export of oil and gas to exert political and economic power (Itagaki, 1973; Okita, 1974; Park, Abolfathi, & Ward, 1976). An alternate term that is frequently used in academic texts of the 1970s is “economic nationalism,” which like RN denotes an economic and political system in which national governments take control over a country’s natural resources (Itagaki, 1973; Kemp & Ohyama, 1978; Laux & Molot, 1978). Significantly, as research regarding RN matured, the term came to be used in several contexts and was no longer limited to political and economic processes of the Middle East. Laux’s (1978) text, for example, contextualizes Canadian energy policies with RN and analyzes the debates that took place in Canada in the 1970s. Kemp (1978) on the other hand, used RN as a working term to describe imperialist notions of economic policies, which are, like classic colonialism exploitative.
While the 1980s and 1990s experienced a relative decline in secondary literature on RN, the topic came back into focus towards the end of the 1990s and at the beginning of the new millennium. One of the reasons for the renewed interest in RN has to do with the changed political and economic landscape after the collapse of socialist and communist regimes in Europe in the 1990s. At the time Morse (1999) stated
Since the collapse of the Soviet Union and the end of the Cold War, a new political economy of oil has been evolving. It is characterized by open access to resources not only in the Persian Gulf, where most of the World’ oil is located, but elsewhere in the world as well – especially in the Caspian basin. This new era is also marked by dramatically improved technology and a shift from government control to government and industry cooperation.
Retrospectively, Morse’s text draws an overly optimistic picture of the changed political economy after the collapse of the Soviet Union by assuming that government and industry would cooperate in controlling production of and access to oil. Open access to oil would remain short lived, as several countries, most prominently Russia and Kazakhstan returned to a system of government controlled National Oil Companies (NOCs) in the first decade of the 21st century (Bremmer & Johnston, 2009; Domjan & Stone, 2010; Joffé, Stevens, George, Lux, & Searle, 2009; Molchanov, 2000).
This trend could also be observed in Latin America, particularly in Venezuela, Columbia, and Ecuador where governments in the first decade of the 21st century increasingly tried to bring the oil industry under national control. These global tendencies have not just led to an increased number of publications on RN but have also resulted in the emergence of more nuanced and precise definitions of what RN entails. The term, as it has been used in earlier research, was usually meant to signify on governmental control over national natural resources. Stevens (Stevens, 2008) defines RN as consisting of two distinct elements: “limiting the operations of IOCs [International Oil Companies] and asserting a greater national control over natural resource development” (p.5).
A differentiated definition has been provided by Bremmer (2009) who distinguishes between four different types of RN. The first type “revolutionary resource nationalism” which is “linked to broader political and social upheaval, not merely directed at the natural-resource sector” (p.150). Bremmer names Russia and Venezuela as two prominent examples of revolutionary resource nationalism. In Russia these changes were ushered in during the presidency of Vladimir Putin, whose policies aimed at rolling back privatization efforts. Framed as a reform necessary to control oligarchic control of the gas sector, the Russian government effectively brought Gazprom (the world’s largest producer of natural gas) under its control and has since regulated the company’s ventures. In Venezuela, RN was the result of “Bolivarian Revolution” (Bremmer & Johnston, 2009, p.150), in which political and economic power was transferred from the “technocratic business class” (p.150) to the presidency of Hugo Chavez. As Bremmer points out
A second feature of revolutionary resource nationalism is its dangerous effect on international resource companies. Ownership of prized assets maybe wrenched away through forced renegotiation of existing contracts, using perceived historical injustice or alleged environmental or contractual misdeeds by the companies as justification. These actions tend to be top-down, arbitrary and accompanied by little if any compensation or recourse. (p. 150)
He observes these tendencies in both countries, Russia and Venezuela. This sentiment about the dangers of resource nationalism is shared by a number of other scholars who have emphasized the arbitrary and undemocratic nature of RN (Domjan & Stone, 2010; Hirsch, 2008; Joffé, et al., 2009; Molchanov, 2000).
The second type of RN identified by Bremmer is economic resource nationalism, which is, as he argued, practiced in Kazakhstan (2009). In contrast to revolutionary resource nationalism, economic resource nationalism remains stable regardless of changes in political power. Moreover, this form of RN also frequently emerges in stable political economies. In contrast to revolutionary resource nationalism, economic resource nationalism does not necessarily seek full control over a specific industry sector. Bremmer names Algeria and Mongolia as examples of countries with economic resource nationalism in which the government seeks to influence and regulate oil and gas production but where companies are essentially still run by IOCs. The benefits derived by governments are usually limited to tax revenue or state regulations that would, for example, punish oil companies for leaving the country.
The third kind of RN identified by Bremmer (2009) is legacy resource nationalism. This kind of RN is practiced in Kuwait and Mexico. Historically, these countries have nationalized oil industries. In Mexico, oil production has been under government control since the 1930s and in Kuwait since the 1960s. Accordingly, nationalized oil production in these countries is part of their national identity and resentments against the privatization of these industry sectors run deep.
The fourth and last type of RN Bremmer (2009) addresses is the so-called “soft resource nationalism,” as it is practiced by countries such as Great Britain, Canada, Australia, and the United States. This form of RN is rampant in OECD countries (and Brazil) and is characterized by slightly more democratic processes in renegotiating terms of contracts with IOCs. This distinguishes them from systems of economic resource nationalism, which often break contracts and force renegotiations (although Canada is an exception to this rule). However, soft RN and economic RN share the same motives and in many cases use similar policies to profit from the oil and gas industry. Governmental influence in these two systems of RN is most commonly exercised through tax policies and regulatory action.
Bremmer’s distinction of these four types of RN is quite useful, as academic discourse on RN is structured along these four major lines. Bremmer’s categories of RN represent the major directions in which research in the recent years has ventured. However, virtually no other scholar explicitly uses the analytical categories of RN outlined by Bremmer. A number of studies approach RN from a comparative perspective, in which usually two systems of RN are compared. Domjan (2010), for example, compares RN in Russia and Kazakhstan. Although he identifies all specific characteristics of revolutionary and economic RN, he does not label them accordingly. The same holds true for a comparative study done by Molchanov (2000) who compares RN in Russia and the Ukraine. Kalyuzhnova and colleagues (2009) compare various modes of RN in former Soviet Union countries. However, their analysis focuses on the impact of RN on the financial sector in these countries. They argue that the hydrocarbon sector has boosted domestic credit in these countries regardless of whether the country adheres to RN policies or not. This finding is in so far significant as it refutes a common perception about RN, namely that it poses risks to a country’s financial sector and ultimately to its entire economy.
Finally, a comparative study done by Shaxson (2005) examines RN in Nigeria, Angola, Gabon, Cameroon, Sudan, Equatorial Guinea, Mauritania, and Niger. He points out that although these countries generate significant revenue from oil production, this revenue does not translate into improved prosperity in these countries. Neo-patrimonial systems as well as government corruption are the most likely to blame for this unfavorable development. This problem appears to be particularly severe, although not exclusive, to the sub-Saharan region, which notoriously struggles to generate economic growth and prosperity despite the fact, that these countries are rich in natural resources.
What is common to all scholarly commentary about RN is the fact that resource nationalism is perceived of as a major political and economic threat. Hirsch (2008), for example, discusses the risks of RN in the context of shortage scenarios. In a case analysis, he outlines best and worst case scenarios of “natural” as well as “political” oil shortages. His policy recommendation emphasizes the importance of mitigation planning to prevent economic slowdown or even collapse, as the oil resources decline.
Hughes and Kreyling (2010) and Kretzschmar and colleagues (2010) have pointed out that RN limits direct foreign investment and is thus bad for national economies, especially in countries that would potentially benefit from such investment the countries of the former Soviet Union, sub-Saharan, or Latin American countries. However, Hughes and Kreyling (2010) and Mares (2010) identify another form of RN, in which the country that adheres to RN is actually not an oil producing country. India and China have big and powerful NOCs, which strategically invest in oil producing countries to secure their economies access to oil and other natural resources. Especially China is known for pursuing aggressive investment politics through government-owned ventures in sub-Saharan Africa to gain an edge over competitors with regard to access to natural resources (Holslag, 2006; Large, 2008; Taylor, 2006; Tull, 2006).
A common theme in scholarly discussion of RN is the notion that higher oil prices, which are believed to be the result of naturally declining oil supplies, are an incentive for the establishment of RN (see for example, Guriev, Kolotilin and Sonin (Guriev, Kolotilin, & Sonin)). However, this assumption has recently been challenged by Kennedy (2011) and Yergin (2009) who have pointed out that high oil prices are not an incentive for the formation of RN but rather that high prices are the result of RN. As high oil prices appear to be a continuing trend, it is likely that future research will investigate these and other more important questions related to RN more thoroughly.
In general, the term cartelization refers to the establishment of independent commercial or industrial enterprises designed to limit competition or fix prices. In scholarly literature OPEC, the Organization of Petroleum Exporting Countries, is often referred to as a resource cartel, since its statutes are designed to protect the individual interests of its member states as well as the collective interests of the organization (Hnyilicza & Pindyck, 1976).
OPEC was founded in the 1960s; the organization today includes Algeria, Angola, Ecuador, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, the United Arab Emirates, and Venezuela. From its founding in the 1960s OPEC has been controversial (Hnyilicza & Pindyck, 1976). However, scholarly interest and concern about OPEC reached its peak in the 1970s as a result of the oil embargo OPEC had issued towards Western states that had supported Israel in the Yom Kippur War of 1973.
Several critical investigations of natural resource cartelization, especially with regard to the establishment of OPEC, refer to one seminal article, namely H. Hotelling’s “The economics of exhaustible resources” (1931). Hotelling’s text, although first published in 1931, is surprisingly accurate even in the contemporary contexts. Hotelling writes:
Contemplation of the world’s disappearing supplies of minerals, forests, and other exhaustible assets has led to demands for the regulation of their exploitation. The feeling that these products are now too cheap for the good of future generations, that they are being selfishly exploited at too rapid a rate, and that in consequence of their excessive cheapness they are being produced and consumed wastefully has given rise to the conservation movement. (1931, p.137)
This description by Hotelling accurately describes political and cultural sentiments about the exploitation of oil resources in the twentieth and twenty-first century. More significantly, Hotelling has made a number of significant contributions to the field of economics and statistics, which are still relevant today. “Hotelling’s rule,” for example, provides a theoretical model, which describes the net price path of exhaustible resources as a function of time while maximizing economic rent before the complete depletion of that natural resource (Hotelling, 1931).
Interest in Hotelling’s theoretical model has permeated research literature on resource cartelization since the 1970s. Stiglitz (1976), for example, investigates the rate of extraction of exhaustible resources in monopolies. Significantly, his analysis does not distinguish between monopolies and cartels, although he assumes that his results are applicable to both. He comes to the conclusion that with regard to exhaustible resources, the power of monopolies is only limited in comparison to free markets and that accordingly concerns about the extent of their power are not necessarily justified.
In the 1970s, several noteworthy scholarly contributions were made by R.S. Pindyck (1978a, 1978b, 1979). He is among the first to properly define OPEC as a cartel (Pindyck, 1978a) and discuss cartel profits. Pindyck argues that the establishment of a cartel bears a number of significant risks and drawbacks for participating states. For one, the cost of the establishment of an effective cartel can be quite high. This does not just refer to financial cost that emerge out of the coordination of output and price but also to the political cost that the formation of a cartel has. Cartelization is generally perceived of as a negative trend, as concerns about dependency and arbitrary price-setting abound. Moreover, the formation of a cartel might also create cost associated with being undercut and losing short-term profits. However, as Pindyck shows through a comprehensive cost-benefit analysis, the advantages of cartelization in the long-term clearly outweigh the risks and costs associated with this process. This view is also shared by Gilbert (1978), who points out that cartels are by far better positioned to maximize profits than individual free-market players. Johany (1979) on the other hand has argued that the OPEC oil embargo against the West did not cause the price rise of oil but rather that pre-set production rates, which as he suggests were set independently from the oil embargo, have led to the price hike of oil in the 1970s.
A significant amount of research literature on resource cartelization approaches the topic from an economic point of view and employs statistical methods to investigate the advantages of cartels, as well as the price-setting mechanisms and costs associated with the formation and operation of resource cartels. This trend started in the 1970s, and continued with contributions such as Ulph’s cost of production analysis for cartels versus competitive fringe (1980), in which the author finds that cartels enjoy significant advantages over free-market competitors.
More recently, several studies have analyzed non-renewable resource cartels anticipating the forced break-up into oligopolistic markets (Benchekroun, Gaudet, & Van Long, 2006; Wirl, 2008). Benchekroun’s model found that as the natural resources deplete and the break-up onto oligopolistic markets is imminent, cartels tend to increase their output. Moreover, his model showed that the depletion of the natural resource on which the cartel is based correlates inversely to the end-of-life span of the cartel. In other words, sharp rises in production output signal the imminent end of the cartel.
Another noticeable trend in research is that several assumptions about the nature of cartels, especially OPEC, are being critically re-evaluated and challenged. Gaudet (2007), for example, revisits Hotelling’s rule and compares the predictions of this theoretical model to the historic behavior of OPEC since the 1960s. Significantly, he finds that not all predictions proved to be accurate.
Along similar lines, Brémond (2011) has recently raised the question whether OPEC is a cartel at all. His analysis tested whether or not the production rates of OPEC member states are still coordinated, which per definition would be one criteria of a cartel. His empirical investigation showed that the production rates of OPEC member states are not consistent with the criteria laid out for a cartel.
Reynolds (2010) concurs with this view. His study investigated the production rates of Venezuela in comparison to the production rates set by OPEC. His findings support the view that OPEC is no longer an effective cartel, as Venezuelan production rates significantly deviated from the production rates set by OPEC. This is, as he argues clear evidence against the cartelization hypothesis that has for many years dominated scholarly investigation into resource cartelization. However, it is also important to point out that Reynolds found that Venezuela produces oil “off the record,” which is to say that it understates its actual production to create the impression that it actually adheres to OPEC production rates. Given the political system and climate in Venezuela, this might in fact be rather symptom of the political system then of the actual dysfunction of OPEC as a cartel.
The Anglo-American International Oil Market
Daniel Yergin’s seminal book The Prize (2009) traces the history of the oil industry from its beginning in the mid-nineteenth century to the present. Yergin’s account highlights the importance of oil and oil markets for almost every aspects of the economic and political life of Western nations. As he argues, the rise of the oil industry is intertwined with the rise and development of capitalism and modern businesses. Not just that oil gradually replaced coal as the most important fossil fuel, the oil industry is also perceived of as the engine of technological advancement and economic power in its own right. Standard Oil, for example, dominated the American oil industry for well over one hundred years, and it is, as Yergin argues, no coincidence that the top ten companies in the 2008 global ranking of the Fortune 5000 index included six oil companies.
Significantly, Yergin’s book highlights the importance of oil for global and national economies such as the United States and analyzes U.S. and British foreign policies under the paradigm of geostrategic considerations, as they pertain to the access of oil. The Gulf War of 1991 was, as Yergin points out, a geostrategic war, fought to ensure American access to oil from Kuwait. Although this insight is today common knowledge, Yergin describes in detail how official rhetoric about human rights abuses by Sadam Hussein served as a pretext to justify a war that was primarily led for geostrategic and economic reasons (Little, 2008). Yergin and Little (2008) thus identify a governing principle of U.S. foreign politics, namely that the United States chose to selectively defend human rights if their violation happens to intersect with geostrategic considerations.
Yergin’s narrative of the “history of oil” starts in the mid-nineteenth century when oil was first exploited on the American continent. Speculators earned unprecedented profits, as $1 invested would in some cases result in a return of $15,000 (Yergin, 2009). By the twentieth century, the oil industry had become not just the nation’s but also the world’s biggest business and the first truly globalized modern industry.
World War I was in so far a significant event, as that it transformed oil into a good of strategic importance. Great Britain had switched its fleet from coal to oil as the major source of energy and accordingly access to oil and continuous supply of oil gained strategic importance (Yergin, 2009). Yergin also emphasizes the fact that U.S. economic and military power since WWII has greatly depended on oil imports.
This dependency has had its pitfalls, as various military conflicts and turbulences in international politics such as the Korean War or the Six Day War of 1967, have reminded the United States of the political and economic importance of access to oil.
Yergin’s core argument that economic and political power in the twentieth century is inseparably linked to access to oil is convincing. However, one has to acknowledge that he fails to discuss exceptions to this rule. Not just that countries like Germany or Japan, which lacked direct access to oil were economically and politically successful, other countries like Russia, which have a significant wealth in oil reserves have failed to become economically successful. Taking this into account, it is fair to say that Yergin’s analysis falls short on discussing the complex relationship between the oil industry, government, and political ideology that in the case of the United States was responsible for America’s rise to a political and economic world power.
Yergin does however mention that important figures of the Oil industry such as John D. Rockefeller were able to establish their industrial empires because they were able to successfully lobby the legislature (Yergin, 2009). However, he does fail to address the underlying political, economic, and ideological implications of the early phase of the American oil industry sufficiently. Fortunately, his analysis of the relationship between politics and the oil industry becomes more detailed and analytic when he discusses the Great Depression. The Roosevelt administration entered into an agreement with Standard oil during the 1930s to ration the production of oil and thus keep the oil price stable at about $1 per barrel. In return, the oil industry supported the Democratic Party generously from the 1930s to the 1960s.
Moreover, Yergin’s account fails to point out some of the underlying ironies in American pursuits of oil. He discusses one of the most important episodes of American foreign policies, when he draws the reader’s attention to Mohammed Mossadegh, the Iranian Prime Minister who nationalized British Petroleum in 1951 and triggered a conflict of interest between Iran and the West that would have political repercussions to this very day (p.458-ff). Although Mossadegh’s attempt to nationalize British Petroleum might be considered legitimate, Yergin fails to point this out and thus misrepresents the CIA-staged coup against Mossadegh that put the Shah into power. The historical irony of the fall of the Shah during the Iranian Revolution of 1979 lies in the fact, that the United States supported an undemocratic ruler, which would eventually be overthrown and replaced by a theocratic anti-American government. Moreover, the United States then supported Sadam Hussein to counter-balance the influence of the Ayatollahs who henceforth ruled Iran. Again, in an ironic turn, Hussein would become an enemy of the United States in the struggle over access to oil.
United States foreign policy and domestic rhetoric has emphasized that energy security could only be achieved by maintaining free markets and equal access to oil (Blanton, 2005; Yergin, 2006). After the defeat of Sadam Hussein, the United States hoped that the oil market would just remain that, a free market. However, almost twenty years later prices remain high and fears of shortages dominate the oil markets. For many observers this situation constitutes a moment of reckoning, as high oil prices demonstrate the drawbacks of free market ideologies.
During the past ten years the United States has found itself in competition over access to oil with emerging industrial nations such as China and India, which, as already observed in the previous chapter, pursue policies of resource nationalism. In the 1970s, the United States consumed twice as much oil as Asia (Yergin, 2006). However, by 2004 China’s and India’s rapid economic growth had led to a “demand shock” which made the oil prices soar and stabilize at an unprecedented high level (Yergin, 2006).
Another significant problem for the oil market is the fact that it does not operate entirely free. Several oil-producing countries including Venezuela, Russia, and several other OPEC countries have nationalized their oil production and accordingly oil production and distribution is not entirely subject to free markets but rather to resource nationalism and resource cartelization, which effectively distorts free market mechanisms (Bremmer & Johnston, 2009).
One of the problems frequently discussed in macro-economic but also foreign policy literature are the so-called “oil shocks” (Hamilton, 1983). The term first emerged in the 1970s after OPEC states had enforced an embargo against Western nations that had supported Israel in the Yom Kippur War. The notion of “oil shocks” was brought to prominence in the 1980s and the following decades, most significantly by Hamilton (1983), who for the first time statistically correlated oil shocks with macroeconomic performance.
Over the last seven years, this view has been critiqued from various sides. Barsky and Kilian (2004) have pointed out, that “increases in oil prices have been held responsible for recessions, periods of excessive inflation, reduced productivity and lower economic growth” but they “challenge the notion that at least the major oil price movements can be viewed as exogenous with respect to the U.S. macroeconomy” (p.1). Since the 1970s, economists have observed a close link between so-called “oil shocks,” which disrupted the free market of oil, and macro-economic problems in the United States (Barsky & Kilian, 2004). Miller and Ratti (2009) have analyzed the long-run relationship between the world price of crude oil and international stock markets since the 1970s. Their comprehensive analysis of data has shown that there is a clear long-run relationship between oil prices and the international stock market in the period from the 1970s to the 1999. However, after 1999, this correlation appears to be disintegrating, which suggests that oil prices have a much weaker impact on stock markets and possibly macro-economic developments than was previously suggested (Miller & Ratti, 2009).
Barsky and Kilian (2004) share this view. They challenge the commonly held belief that exogenous events such as political unrest in the Middle East cause recessions in industrialized nations and hikes in oil prices. They state,
Even if we accept that turmoil in the Middle East may cause sharp increases in the price of oil, however, recent history demonstrates that Middle East disturbances do not necessarily raise the price of oil and that major oil price increases may occur even in the absence of such shocks. For example, the real price of oil between March 1999 and November 2000 was certainly a major increase, but during that period, military conflicts in the Middle East were conspicuously absent. Even more difficult to explain for adherents of the conventional view is the fact that after November 2000 the oil price fell, despite Middle East turmoil and the high likelihood that most of Iraq’s oil exports would remain off global markets, on top of low inventories that were further strained by one of the coldest winters in recent memory (Barsky & Kilian, 2004, p. 12)
The analysis provided by Barsky and Kilian is in so far relevant as they refute commonly held beliefs about the correlation of political events, especially in the Middle East, and changes in oil prices or macroeconomic developments. Moreover, they also reject the notion that the oil cartel OPEC “engineers” changes in the price of oil. As they state, “this interpretation begs the question of how this cartel suddenly acquired new powers in March 1999, having been unable to force a sustained increase in oil prices since 1986, and how the same cartel just two years later seemed on the verge of collapse” (p. 12). Citing Rotemberg and Saloner (1986), Barsky and Kilian suggest that the ability of cartels to keep prices high is procyclical if producers are unable to determine whether cartel members are genuine in keeping to their production quota. Accordingly, cartel member might choose to flood the market with oil or withhold it, and thus influence oil prices independent of official cartel price policy.
Nordhaus (2007) has also highlighted the fact that not all oil shocks are created equal. Although, his optimistic view that the sharp increase of oil prices in 2007 did not result in increased unemployment rates and an economic depression in the United States appears, in the light of the current economic situation of the United States, slightly dated, to say the very least. Blanchard and Gali (2007) likewise conclude that there are qualitative differences between the oil shocks of the 1970s and those of the recent past. However, they emphasize that one of the main reasons why increases in oil prices have not automatically caused macroeconomic turbulences is that government policies have become more effective in dealing with oil price fluctuations and were thus able to avoid significant increases in unemployment rates or stagflations.
The notion that oil prices and “oil shocks” correlate and influence macroeconomic performance is probably the single most prominent direction of research of the last thirty years. However, there is a considerable amount of disagreement about the validity of Hamilton’s (1983) proposition that oil shocks and fluctuations in oil prices negatively affect the economy at large. The use of different sets of data, as well as different modes of analysis has led to inconclusive results regarding the relationship of oil shocks and macroeconomic performance (Oladosu, 2009).
One last such analysis worth mentioning however was provided by Cunado and de Gracia (2003). They have analyzed the relationship between oil prices and macroeconomic performance in the context of European Union countries. Their results “suggest that oil prices have permanent effects on inflation and short-run but asymmetric effects on production growth rates” (p.137). Significantly, they find that these effects vary from country to country and suggest that individual governments’ responses to changes in the oil price significantly influence macroeconomic development. This finding is in so far important as it highlights the fact that even pronounced free-market democracies such as Germany, Great Britain, and the United States view the oil market’s impact on their economies as warranting massive regulatory interference.
Bremmer (2010) has also addressed the role of governments with regard to the oil markets. His commentary emphasizes the distortion of free-market forces that emerged after the fall of the Soviet Union and the rise of “state capitalism.” Bremmer points out
the risk for the United States and – and for free market democracies generally – is that distortions created by state capitalism will ensure that the pie isn’t expanding quickly enough to accommodate all the new mouths it will soon be expected to feed. That will threaten not just standards of living, but eventually perhaps the security of the world’s free market economies. (p. 251)
Bremmer argues that today two “forms” of capitalist-oriented states exist; those with truly free-market economies and those with “state capitalism.” While the former perceives of the government as enabling growth, the latter perceives of capitalism and “free” markets as a means to enhance state power. Bremmer’s concept of state capitalism in not unlike resource nationalism. However, as he points out, the existence of nationalized oil companies is not a qualifying characteristic for presence of state capitalist policies. One example would be Norway, where 85% of all oil and gas companies are owned by the Norwegian government. However, the Norwegian government does allow free-market trade of its oil. In contrast, countries like Russia or China have, as Bremmer argues, embraced capitalism only as a means to enhance government power. He identifies these state capitalist governments as a significant threat to the world economy and national economies, especially of the United States and the European Union.
Bremmer’s policy recommendation for the governments of the United States and the European Union are accordingly, that they should encourage other states to follow the free-market model. However, at the same time, he points out that the recent economic meltdown has shown that not less but better and smarter government intervention is needed to counteract the negative effects of the volatile oil market. As he makes it clear, free-market democracies should not expect that free-markets regulate themselves, particularly because the oil market is not an entirely free-market but one that operates under various regulatory and resource-nationalist paradigms, which are frequently diametrically opposed to free-market ideologies and practices.
Summing up it is important to emphasize several points. For one, as long as renewable or alternative energy sources that could effectively replace oil and gas are missing, oil and gas will continue to be the single most important source of energy.
Secondly, access to oil is of crucial importance for industrialized nations and has significantly shaped foreign politics in the twentieth century. During the last ten years, the United States and other Western industrial nations have faced stiff competition over access to oil, especially from China and India, which partly explains increases in the price of oil.
Finally, the influence of political turbulences, especially in the Middle East, and the role of cartels in affecting oil prices is disputed. However, since the oil market is highly volatile and seems to affect macroeconomic developments, government intervention either through foreign or fiscal policy continues to play an important role in ensuring economic stability and growth.
Addendum: This is a part of my core argument, but does not yet have a place in the monograph.
The world is awash in oil.
This might come as a surprise at a time when gas is nearing $5 a gallon in some locales. It’s the law of supply and demand, we are told. Too much – and growing – demand, and limited and declining supply. The oil world has reached or will soon reach its peak, at which point production will decline inevitably to zero, and the end of the Oil Age will be upon us.
The end of the Oil Age will, undoubtedly, come some day, but it won’t be in my lifetime. It probably won’t even be in this century. The problems of supply and demand are real, but they need a bit of explanation.
Demand is definitely growing.
Even though global demand will undergo a tightening in the coming months due to the shock of oil prices and an overall slackening economy, on a long term basis, it is increasing inexorably. Once this downturn is over, the wealthy nations will go back to work and the emerging nations will ramp up use once again. Global energy use has grown every year for the last two decades and more, and will likely grow in 12 (or 10 or 11 or 13) of the next 15. The current contraction will be temporary, whether it lasts for 6 months or for 60.
Oil supply is a slippery thing.
As noted above, there is a strong and growing belief in the world of the Peak Oil theory. The problem with Peak Oil is that nobody knows how much oil there is in the world, so it is impossible to know where the peak is. People have been confidently predicting an approaching peak for decades, and, not only have they been wrong, but each year global proven reserves have actually increased over the previous year. According to the BP Statistical Review for 2008, “reserves have grown 107.8 billion barrels since 2001 and 168.5 billion barrels, or 14%, over the last decade.” A good example of the uncertainty of oil reserves is the nation of Iraq. As shown in the table below, Iraq has the world’s third largest proven reserves at an estimated 115 billion barrels. However, due to decades of war and poor governance, Iraq is the most under-explored nation in the Persian Gulf region. As a means of comparison, the Energy Information Administration points out that, while the state of Texas has over 1 million oil wells, there are just 2,000 wells in Iraq. With further exploration, Iraqi reserves will certainly increase. To what extent is just guesswork, but the US Geological Survey expects another 100 billion barrels, and Iraqi government officials think they will ultimately find over 300 billion or even 350 billion barrels, dwarfing even the vast Saudi fields. Similarly, estimates of Russian oil reserves range from a low of 60 billion barrels to a high of over 200 billion. Recently, Brazil announced the discovery of a large oil field in the deep Atlantic coastal waters that some analysts predict will be as big or bigger than the big Alaskan discovery decades ago. In all likelihood, there are fields as large or larger in the waters off the American coasts, but current law bans exploration there (and exploitation of them even if they were discovered).
Having oil and getting it are two different problems
So, if there is all that oil out there, why are we hearing about supply problems? The answer is there are many answers. First, because having a massive supply and bringing it to market are two entirely different things. Going back to the example of Iraq – although petrogeologists are certain that vast quantities of oil are there to be discovered, the nation is simply too chaotic and violent to do any exploration. Russia, although it has made a comeback in recent years, still suffers from dysfunctional governance. Brazil’s offshore fields will take enormous effort to bring to market – the national petroleum company Petrobras has leased 80% of the available offshore fleet in the entire world, and that still won’t be enough (that lack of capacity is why, even if the US changes its offshore oil policy, it still won’t be able to fully exploit it’s own resource for years, or even decades).
The problem of Political Peaking
A second reason is a phenomenon called “Political Peaking.” Petro-states, that is, nations whose economic base is completely or even largely based on selling oil, have a vested interest in understating their proven reserves. Creating the impression of limited supply increases the market price of their oil and, as night follows day, of their overall economy. Some will argue that large oil companies are in cahoots with the petro-states in this game, but there is a counter-argument that oil companies, in order to attract investors and to assure shareholders, have to demonstrate that they have access to as large a portion of the world’s reserves as possible, which works against their interests in understating supply.
The Rise of the Speculators
A third reason is that oil itself is used to satisfy two types of demand. First, as most of us think of it, oil is a commodity. This is how I have been treating it in this article. However, oil is also an investment instrument. Investors purchase oil futures, which is a bet that the global price of oil is going to increase over time, depending on the length of the futures contract purchased. While the price of oil has been increasing steadily for the last few years, the recent explosion of prices has come directly on the heels of the worldwide credit crisis. Many banks, investment houses, and hedge funds were heavily invested in mortgage securities, whose value has plummeted in the last year, placing many institutions in precarious positions. Indeed, some have already failed. Many of those remaining have turned their investments toward commodities in general and to oil in particular. Now they, too, have in interest in seeing the price of oil increase. Every dollar increase in the price of crude is an increase in the value of their futures contracts and a narrowing of their losses (at least on paper) on mortgage securities. So, when an energy analyst from Goldman Sachs predicts that oil will reach $200 per barrel, we have to remember that he has a vested interest in doing everything he can to see that it reaches that price – including pumping up the price with frightening, if baseless, predictions.
This is not to say, however, that speculation is the cause of increasing prices. It is but one factor in many. The perception of limited and increasingly scarce supply is another, and the reality of limits on production is a third.
But, really the world is awash in oil
British Petroleum’s current estimate of worldwide reserves 1.238 trillion barrels, with worldwide demand currently around 85 million barrels per day (that is a 1.1% increase from 2006 to 2007, although the United States – the world’s largest user, showed a 0.1% decrease). If current demand held steady, and estimates of reserves were complete and correct, then the world would run completely out of oil in about 40 years. If estimates of reserves are off by 50%, meaning there are actually 1.8 trillion barrels, then we have roughly 60 years. Of course, the fact is demand is increasing yearly, so the amount of time left in the petroleum age would shrink with increased use. However, even a 50% estimate is probably too low. The US Geological Survey, using statistical modeling based on the history and frequency of new oil finds, projects a total value of worldwide reserves to be about 3.338 trillion barrels, about 3 times the current estimates. The USGS model works on three possibilities. At the low end, they predict that there is a 95% probability that there at least 2.793 trillion barrels that will ultimately be recovered, while at the high end, there is a 5% chance that there will be 3.947 trillion barrels or more. Using these numbers, and assuming moderate growth in global demand, the Energy Information Administration estimates the year for peak oil production to be around 2040.
After the peak, a crash or a slope?
Most models of Peak Oil see production as a bell shaped curve, which means that there will not be a crash after the peak is reached, but rather a gentle decline. In other words, in the year 2072, thirty two years after the peak, the world will be producing as much petroleum as it is today, thirty two years before the peak. In the intervening decades, we can expect technological developments on many fronts – alternative energy sources that will do some of the jobs that petroleum does today, additives and supplements that will increase the efficiency of petroleum products, advancements in refining that will allow the generation of more gasoline from a barrel of crude (half a century ago, a 42 barrel of crude produced 11 gallons of gas; today, that same barrel produces 21 gallons of gas). Additionally, there are other, non-conventional sources of gas that will become available.
The technology for producing gasoline from coal, called coal-to-liquid or CTL, has existed for nearly a century, but it has usually been far more expensive than simply refining crude oil. As prices increase, however, CTL becomes more viable. If all the known coal reserves in the world were converted to CTL fuels, it would be the equivalent of just under 3 trillion barrels of oil. The United States alone, which controls 27% of the world coal reserves, would be able to distill 800 billion barrels – more than 3 times the proven reserves of crude in all of Saudi Arabia.
Another estimated 2.3 trillion barrels
Additional 1.3 trillion barrels
Estimated minimum of 800 billion barrels in the US alone
Total non-conventional fossil fuels
about 7.3 trillion barrels, which, when added to the estimates of current conventional reserves brings the total world reserves to well over 10 trillion barrels.
1There is a minority view that petroleum is an abiotic resource that is, in fact, constantly generated deep within the earth’s mantle. This view is mostly rejected in the West but has some support in other nations, especially in Russia.
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