Canadian Investment Review

Rubin’s No Growth World

Written by Scot Blythe on Wednesday, May 23rd, 2012 at 4:48 pm

abandoned carThe future may just be a walk around the block away. One reason: it’s probably going to be expensive to drive any farther than that. That’s former CIBC chief economist Jeff Rubin’s take on the current economic environment, as expressed in his latest book, The End of Growth.

The book takes a very particular perspective. Over the long term, oil will be pricier, not because there’s a shortage of oil, but because it becomes that more much expensive to extract it. And, for a long time, the post Second World War economy was fuelled by cheap oil – at least for advanced countries.

But here’s the interesting point: cheap oil didn’t so much fuel the vast expansion of manufacturing capacity as it expanded the horizons of consumers – limitlessly almost, as they settled far way from the concentration of activity in central city cores and took advantage of cheap gas both to commute to work and to shop. In this, they had help, as cheap gas made it easier to distribute products in far-flung regions.

“I think one of the big impacts of oil is going to be on relocating people. Just as cheap oil fuelled suburban sprawl,” Rubin says, “I think that triple-digit oil prices are going to fuel the re-energization of inner-city cores – for the same reason that we won’t be getting food and steel from China. Distance costs money.”

Thus there’s some gain for the pain: the more drivers have to pay, the more they aid in the revitalization of the local economy, bringing jobs back home as fuel prices pressure commuters to work closer to work – and make it more expensive to buy imports. One might almost say: your job or your car.

The reason is threefold. First, despite talk of peak oil, the real question, for Rubin, is the peak price of oil. Yes, more supply will come on line. But can consumers afford it? At triple-digit prices, select Chinese and Indian consumers can, but that’s because, with incomes growing, they can trade up from a bicycle to a car. Consumption here evinces an income elasticity, not a price elasticity. And more growth is on the way, since, as Rubin estimates, perhaps one in 15 Chinese consumers owns a car. In the U.S., more or less every consumer of driving age has a car. As a result, oil becomes a zero-sum game: the more some countries can afford to consume, the less other countries can.

But the big reason is simply that industry does not rely on oil that much – not in North America. Where replacements can be found, such as in cheaper natural gas feed stocks – with capacity growing as more shale gas is recovered – industry has adopted them. But the one place where there has been no replacements, Rubin argues, is in transportation.

“We’ve been able to substitute natural gas for oil in virtually all economic applications of oil, except for one: as transit fuel. And no matter how you move goods around the world, by air, by rail, by boat, by truck, you’re burning oil; it may be in the form of jet fuel versus diesel versus gasoline, but you’re burning oil – and that’s a function of energy density.”

So high oil prices are a threat to consumers who drive, and to countries that rely on exports. But there’s also a threat to governments because, in essence, growth depends on cheap exports and exuberant consumers.

On the debt troubles in Europe, Rubin thinks, “[a]ll of that euro debt might as well be denominated in barrels of oil because the only way that Europe has any chance of servicing its debt is a huge rebound in economic growth. But unfortunately that huge rebound in economic growth is going to require millions of barrels of oil.”

As a result, the prospect worldwide is for slower growth – almost no growth in advanced economies, and a halving of growth rates in emerging ones. India and China, he says, “are going to gear down just like we’re going to gear down, only for them gearing down in terms of the growth rates at which their economies can grow I think is more like going from 10% to 5%, whereas for us its 3% to 1%.”

The calculation behind this is that economies have limits to growth before inflation becomes endemic. In advanced economies, assuming labour force growth of 1% and productivity growth of 2%, it would seem the sustainable rate of growth would be 3%. But Rubin argues that higher oil prices have changed the speed limits on an economy’s capacity of non-inflationary growth. “Virtually every major recession we’ve had — 1973, 1979, the double dip in 1981, 1991 and of course 2009 finds its roots in oil and oil impacts the economy in many ways but its most fatal linkage with growth is through inflation, and ultimately a growth-ending rise in interest rates.”

Higher interest rates will make it harder for governments to service debts – certainly the “extraordinary” debts contracted in the wake of 2008’s financial crisis — and ultimately lead to a peeling back of public services, Rubin acknowledges. Or higher taxes. Or both. In any case, the burden of the bailouts will fall on the taxpayers.

With less disposable income, and reduced access to credit, perhaps the consumer won’t be worse off, Rubin agrees. Just more prudent about spending in a quasi-permanent recessionary economy, where jobless recoveries are salient. When asked whether we’re facing a future that looks a bit like the 1950s, as portrayed by Brooklyn bus driver Ralph Kramden in the Honeymooners, with a sparely furnished apartment and a fridge as probably the only new gadget, he says:

“Maybe Ralph Kramden had just as good a life as many people have today. Maybe Ralph Kramden had a better life than many people have today. Certainly if you look at any indexes of human welfare or human happiness, it’s not the U.S. that comes out on top, it’s not the countries with the largest GDP or the the fastest-growing GDP. It’s countries like Denmark. It’s countries that don’t have any energy, countries that should be ill-equipped to deal with this kind of environment then a Canada or the United States. Yet they manage because they do things differently. I’m suggesting that maybe we’ll start doing things differently as well.”

That doesn’t bode well for bonds, not with many governments on the brink, nor for stocks, not growth stocks. But money will count . Says’s Rubin: “it’s time to have the defence on the field. It’s not about the yield on cash, it’s about not taking a capital loss.” And living within our means.

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