constructireland.ie - Steep decline

Steep decline

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This was exactly what happened immediately before the sub-prime crisis broke out in the US. At that time, energy purchases had risen to the point at which they were taking 14 per cent of US national income. This squeezed amount left for other things including loan repayments and made it inevitable that the weakest borrowers would run into difficulties.

The second effect is that the higher energy prices will cause inflation. Central bankers, who are very alert to inflation risks at the moment because they are worried about the huge sums of money they have been creating out of nothing to pump into ailing economies, will increase interest rates sharply. This will not only push up business costs, reduce profits and impede the recovery, it will also cause severe problems to everyone, governments included, who are already struggling with massive debts.

Another banking crisis will develop and governments, including our own, will reach the point at which they are unable to borrow more and will default. Social welfare payments and public services will be cut drastically and unemployment will rise. Take-home incomes, already considerably reduced since July 2008 for those who have managed to retain their jobs, will fall much further.

The recession will become a depression. Energy prices will drop below the floor level they found in the early part of this year, and investment in bringing new fossil and renewable sources into production will fall again.

After a year or two of financial restructuring, another attempt at recovery may begin. If one does, energy demand will rise and the price of power will start increasing again but at a lower output level than before. This will choke the recovery off and energy prices will drop back down, halting energy sector investments almost entirely and bankrupting projects started by people who thought that scarcer energy was bound to put its price up.

Yamal Peninsula, which holds Russia's biggest natural gas reserves, and where the Bovanenkovo gas deposit is located

After this second cycle, the potential for recovery will be small since two important sources of investment funds - corporate profits and private savings - will have dried up and property prices will be so low that it will be barely acceptable as collateral. The Irish government's ability to borrow to invest will be limited because of the default.
Euros will get very scarce and, in desperation, new forms of currency will be introduced which, unlike the monies used today, do not depend for their existence on people's readiness to go into debt. However, while the new type of money will lubricate local and perhaps national trade, only the hard-to-find euros will be acceptable internationally.

Ireland will be forced to rely much more on its own resources. Since its export markets will be very weak, it will have limited ability to import fossil fuels and the equipment it needs to develop its renewable energy sources. Moreover, as happened after the collapse of Lehman Brothers, there will be problems with the letters-of-credit system which underlies a lot of foreign trade. Sellers will ask “Can we trust this Irish bank's guarantee that our account will be paid?”

Barter systems will emerge, just as they did in Russia when the rouble collapsed in the late 1990s. At that time, The New York Times carried a story which described how Splav, a company in Novgorod which made valves for the oil, gas, chemical and nuclear industries, managed to keep its 4,000-strong workforce busy with only 10 per cent of its invoices being paid in cash. The company even set up a chain of chemists shops to sell the drugs it received in payment from some customers. It paid its local taxes in Volga cars, road tax with excavators and medical insurance with ambulances.

A staff of fifty developed deals. One particularly complex one to finance a sale to the Balakovo nuclear power station involved the power company cancelling the overdue electricity bill of a foundry in Kazakhstan on the basis that the latter would send castings to a factory in the Russian republic of Bashkiriya, which then sent its product to the Lipetsk Metallurgical Combine, which then provided sheet metal for a half dozen car and truck factories = in Russia and Belarus. The vehicle manufacturers then sent cars and trucks to Splav, some of which it sold for cash. Others were used to pay some of its taxes. Splav had to mark up its prices to make the barter sales work because a lot of the goods it received had to be sold or exchanged at a discount.

As incomes fall, maintenance will be neglected, particularly as spares will get harder both to afford and to obtain. Breakdowns will become more frequent, so production and delivery will become less reliable. There are serious worries about how long it will be possible to maintain communications, co-ordination and control systems since computers and servers already consume 2 per cent of the world's energy, as much as aviation, and need additional energy for the manufacture of the replacements required every few years.