The Last Great American Energy Boom

The Daily Reckoning PRESENTS: With everything going on in Iran, Nigeria and Venezuela America’s oil crisis has been brought to the forefront in the last couple of weeks. Dan Denning thinks part of the solution to our energy predicament is a natural resource that had the crown long before oil was king. Read on…

THE LAST GREAT AMERICAN ENERGY BOOM

It hasn’t hit home yet, unless you call Iraq, Afghanistan, South Korea, or the Horn of Africa home. But those are the places the U.S. military finds itself, far from home, yet the largest single consumer of oil in America. That oil has to be paid for in American dollars, by a nation deeply in debt and facing the end of the cheap fossil fuel era.

It’s never easy to fund a war, especially a long war. And when rising energy prices make it more expensive for you to fight AND deliver petro-dollar profits in the pockets of some of the people you consider your strategic adversaries, well, then you find yourself in a highly unfavorable position.

That’s why you see two separate military studies acknowledging and preparing for a world of higher energy prices. And let’s be honest, both of the studies quoted above (and in more depth below) acknowledge the fact that the world’s fossil fuel reserves are rapidly depleting. This has economic, political, and military consequences.

The military knows it will be difficult for it to achieve its mission as fuel gets more expensive. But more importantly, it understands that the rising price of energy will make some nations and – our interest – investors rich. And to follow up on some ideas I’ve explored in the last few months, you’ll see that the world’s two most important economic powers are relying on the same fossil fuel for electric power generation, the economic growth that comes with it, and the military strength that can be projected from a nation that has abundant energy sources in an energy-scarce world.

It was once said of coal (although it could be said of oil, electricity, natural gas, or uranium, too), “With coal, we have light, strength, power, wealth, and civilization; without coal, we have dankness, weakness, poverty, and barbarism.”

Does it seem strange to you to be reading about coal when CNN is finally bothering to cover the Peak Oil story? It seemed a little strange to me, to be honest. But coal was King before oil had ever been discovered. And coal and oil really aren’t so different, geologically speaking.

Fossil Fuel Reserve: Coal

Coal, like oil and natural gas, is a form of “solar income.” As Barbara Freese points out in her must-read book Coal: A Human History:

“For billions of years, almost every life form on earth depended for its existence on energy fresh from the sun, on the ‘solar income’ arriving daily from outer space or temporarily stored in living things.”

The ancient forests of the Earth were actually huge solar panels. They just didn’t know it. You can forgive a tree from a few hundred million years ago for not knowing the critical role it would play in powering your car today. Freese continues:

“Like living solar collectors handily dispersed all over the planet, plants capture sunshine as it arrives and covert it into chemical energy that animals can eat. And plants don’t just convert energy, they store it over time – holding that energy within their cells until they decay, burn, or get eaten (or in rare but important cases, are buried deep within the planet as a fossil fuel.)”

It takes a long time to crunch a tree into a lump of coal. But the carboniferous (coal-bearing) period of the Paleozoic Era was around 300-360 million years ago. Mother Nature works long hours. And if her work seems tedious, we can at least be thankful that the end result has produced so much energy.

But using millions of years of the stored energy of the sun – energy essentially locked in the great plants and forests of previous geologic ages – is a fairly new thing for human beings. It’s only in the last several hundred years that we’ve been burning what the Earth took millions of years to produce.

The energy from fossil fuels – coal, oil, and natural gas – is the energy that powered the Industrial Revolution. It’s the energy that still powers the information revolution. And it’s the dwindling of this energy – this geologic dowry – that may lead to many a political revolution ahead. In the meantime, it will also lead to some investment profits. But to see why a modest lump of coal plays such an important role in the future, you need to understand how coal made the modern world.

Fossil Fuel Reserve: Wood

Wood was the first best source of energy (heat) for fire-taming men because it was lying around. You could pick it up or cut it down. This is exactly what people did in pre-Industrial Revolution Britain. As the population grew, the forests shrank.

Timber though, at least in Britain, was consumed quickly. It was needed for building and heating, and it was often in the way of farmland needed to feed the growing populations of large cities. Water could power mills. And peat could be used for heat. But neither were abundant enough to power a growing nation.

Even wood wasn’t enough. But it WAS easy to get. And so the solar income stored in the easiest and most convenient source was quickly used up. Timber, unlike coal and oil, is renewable. But you have to be a good steward, keeping an eye on the future, to avoid merely consuming your resources in pursuit of growth.

The British were busy growing. There was no time for stewardship of the forests. But geologically speaking, Britain was fortunate. When the trees were gone, there was still something left. It was a black rock, lying around on the ground. It was rock that burned.

Coal gave heat as well and lasted longer than wood. Nature’s patient work compressed a lot of carbon into a small area. It was the perfect replacement for wood. It was cheap. It was abundant. And it provided both heat and light for hundreds of thousands of Britons.

But if you could get a lot of heat out of coal, there were still nasty side affects. The burning of coal in Britain led to higher infant mortality rates (which is saying something for the time), not to mention numerous lung-related and respiratory ailments and deaths. And then were the mines themselves. They were (and still are) some of the most dangerous places in the world to make a living. And that was working aboveground.

Eventually, as coal demand in Britain grew, mines had to be dug deeper. That meant mining below the water table. Thus you had the invention of a “machine for raising fire by water,” the Newcomen engine. It was the precursor of the steam engine, and powered by coal. It made the mine drier and more coal available.

It was the birth of one of the most powerful feedback loops in human history. It’s why what’s known as the Industrial Revolution was really an energy revolution. Coal was at the center of it then. And as you’ll see later, it’s at the center of the revolution now, even as that revolution runs, quite literally, out of cheap energy.

Regards,

Dan Denning
The Daily Reckoning
April 20, 2006

Dan Denning is the editor of Strategic Investment, one of the most respected “big-picture” investment newsletters on the market. A former specialist in small-cap stocks, Dan has been at the helm of Strategic Investment since 1999 – where, drawing from his network of global contacts, he has designed an investment strategy that takes into account global political and economic trends.

Not a peep from Bill today…apparently his family hasn’t rebelled against him and dragged him somewhere with Internet access and hot water yet.

No matter, there is plenty to talk about.

We heard on NPR this morning that Americans are fleeing big cities in droves in search of cheaper homes. A report released by the Census Bureau today showed that almost every large metropolitan area has more people move out than move in from 2000 to 2004.

“Among the 25 largest metropolitan areas,” continues the report, “18 had more people move out than move in from 2000 to 2004. New York, Los Angeles and Chicago – the three biggest metropolitan areas – lost the most residents to domestic moves. The New York metropolitan area had a net loss of more than 210,000 residents a year from 2000 to 2004.”

We can understand why this happens – it gets too expensive to live in the city, especially on the coasts, so people migrate to the outer suburbs, or “exurbs.” But then you’re posed with another problem: what do you do when it costs you $50.00 to fill up your Suburban and you have to commute a total of three hours everyday?

That’s not as farfetched as it sounds. At a Brooklyn, New York, gas station yesterday, a gallon of premium gasoline cost $4.50 a gallon. Regular gas wasn’t cheap either – if you paid with cash, it would have cost you $4.14 and $4.26 if you paid with credit.

Of course, people were more than a little perturbed by these prices and enlisted Senator Chuck Schumer to call for an investigation by the Federal Trade Commission to be sure that the rising gas price was not due to gas companies trying to make a quick buck.

“It’s not hurricane season, but the oil companies are just raising the price up and up and up,” Schumer said. “And the question is are they doing this dictated on the laws of supply and demand, or is something else at work?”

Apparently (and not surprisingly) Sen. Schumer hasn’t been paying attention to the news. Yes, “something else” is at work. Continued fears that Iran will cut off its exports of crude if the U.N. Security Council imposes sanctions, not to mention consistent attacks on Nigerian pipelines, and Venezuela’s Victor Chavez threatening to blow up its own oilfields if the United States were to attack Venezuela.

All of this happening, and Schumer is right – it’s not even hurricane season yet, or peak driving season. Just wait until the end of the summer.

“If things keep up the way they are, I fully expect to see a sustained $4.50 or even $5 price this summer – if we have significant disruption and get hit with one or two major hurricanes,” says Resource Trader Alert’s Kevin Kerr.

“Now Nigeria is on the brink again, on top of everything else. What else can possibly happen?”

Now, for the news from our team at The Rude Awakening…

————–

Eric Fry, reporting from Manhattan:

“This delicious combination of emotions may be appropriate in a roller-coaster car…or maybe even in a bedroom, but not while sitting in front of a quote screen.”

For the rest of this story, and for more market insights, see today’s issue of The Rude Awakening.

————–

Short Fuse, back in Baltimore:

*** Oil is heading up, up, up…and taking the price of our favorite yellow metal with it.

Investors tend to flock to gold during tense times, and now is no exception. Gold reached a 25-year high this week, with the Iranians themselves buying the precious metal in large quantities.

According to Gareth Smyth, a Financial Times correspondent in Tehran, “The rush to gold reflects both growing tension over Iran’s atomic activities and the destabilizing economic policies of fundamentalist President Mahmood Ahmadi-Nejad,” whose government took office last August.

All we can say is – we don’t see the price dropping anytime soon. We’ll keep you updated.

*** From Finster, a regular contributor to the Daily Reckoning Discussion Board:

“A log chart of the foreign direct investment (FDI) over the past seven years, shows in grisly detail the decline and fall of the U.S. dollar. By this measure, the U.S. dollar has lost 13.8% of its value over the past two years, with prices increasing an overall 16.0% over that time frame. That works out to an annualized rate of inflation of 7.7%. No wonder gold, silver, platinum, copper, oil, gas, etceteras have been going crazy. When inflation roars, they usually do.

“Folks, this means that you had to have an after-tax nominal gain on your investments of 7.7% just to break even. If your pay has gone up by the average amount of 3%-4%, you have been taking a cut in pay, not getting an increase. Real wages in the U.S. have been falling. Nominal GDP has grown by 6.7% on average over the period, so in fact real GDP has been in contraction by some 1% per annum.”

*** We received so many messages on what the Great Depression, Part Deux would entail, there is no way we could have gotten through each message today. So for this issue, we will only publish one reader comment, but we promise to print more tomorrow – and keep them coming! Write Short Fuse at kincontrera@dailyreckoning.com

“The dollar of my childhood is worth about 7¢ today and I expect to see it plunge to 2¢ or less before I die,” writes John Wrisley, of Columbia, SC. “It’s a shame inflation can’t be suspended and attempts made to restore the dollar to a little of its former glory, but that’s not the way long episodes of monetary inflation end. Unfortunately, the chips must fall where they will, the chickens must return to the roost, and people will notice the punch bowl is empty and the party will be over.

“As a child of Great Depression 1, I grew up believing ‘they’ would never let anything like that happen again. Not that being raised by grandparents in a small rented house was an unhappy experience. They couldn’t afford luxuries like an automobile or vacation trips, but life was not unbearable. Besides, radio entertainment was free! Not until I became an adult did I realize how Spartan my childhood was.

“I don’t look forward to enduring Great Depression 2 because I think it will be far more unpleasant than the episode of the 1930s. I fear the level of violence most of all, as young people trained by movies, videos, and vicious ‘music’ notice the raunchy party is winding down and they must go out and take what they want to sustain themselves.

“I remember the adults of the 1930s being very adept at growing food in the backyard and raising a few chickens to augment the vegetables. Clothes were repaired when necessary, and no one worried particularly about drifters coming through town looking for handouts. You either helped them if you could, or shrugged in sympathy if you couldn’t. They usually understood and roamed on.

“Not only will average people be less self-sufficient in Great Depression 2, but the new social phenomenon of huge numbers of old people must be faced. In the ’30s, the over-65 crowd usually lived with family when they couldn’t work any more. Now, they live apart from their families and science is keeping them alive longer. A preview of things to come can be found in the mailing piece of an upscale retirement center in our town, which asks for contributions to help certain residents who have ‘outlived their reserve.’ Imagine! These are people who thought they had provided for their future and plunked their money down to be taken care of until the Grim Reaper came to fetch them. And now, they have ‘outlived their reserves!’ (There’s a book title there.)

“There is no way to avoid this difficult economic setback, unless the laws of nature have been rescinded. No inflation has ever not ended amid pain and confusion. And no economic boom, funded mainly be debt, ever led to anything but a depression. We’ve been very clever devising ways to postpone the grim payoff, but an awareness of the fictions is creeping across the land, and here and there people are saying, ‘Wait a minute! Maybe all this debt is not such a good thing! Let’s find the guy who told us we could borrow ourselves rich and hang him!’

“Arnold Toynbee remarked, ‘The fall of a great nation is always a suicide.’ I have a vague understanding of why all the great empires of the past did themselves in, but I never expected to live long enough to witness this strand of history repeat itself in the United States.

“However, it will only be another transition. It will be grossly painful for some, and a minor inconvenience for others. Life will continue. When the going gets tough I shall walk the streets with a sign that quotes Thomas Paine; ‘We have it in our power to begin the world over again!'”