The Federal Reserve Enters Decline

The Federal Reserve is an artifact of the Abundance Economics that have governed Western economies over the past 250 years. For nearly 250 years exactly we have climbed the ladder of ever increasing energy density, and ever increasing energy supply. That era has now come to an end. You can see that view, the end of the abundance era, expressed by a number of different writers, whether it’s today’s longish piece from Matterhorn Management, last year’s piece by Richard Heinberg on the End of Growth, or some of the shorter (free) posts I write here at To keep things simple, oil is no longer available to fund world growth. Oil is certainly available to fund existing systems as they are currently set up, but not new growth. You can only fund new growth with an energy supply that is growing. That’s why the developing world has turned to coal, not oil, to fund its growth. Based on the most recent data, let’s update the chart of global crude oil production:

The credibility of the United States Federal Reserve is closely aligned with its ability to induce economic activity, by the provision of money and credit. But you can see the problem: if there is not an expanding supply of energy, credit is less useful as credit cannot be paid back very easily in a future of either flat, or declining growth. Now that the return on the Fed’s credit provision has gone into decline, then its incumbent on the Federal Reserve to rethink its approach. But the Fed, governed by post-war economists, is apparently unable to learn from new information.

There is another limit to the Fed’s provision of money and credit: and that is the quantity of debt already being carried in the economy.  As debt levels rose in the US economy over past decades, the Federal Reserve simply kept repeating itself in a kind of argumentum ad infinitum, providing ever more money and credit as though completely unaware of the levels to which debt was rising. Now, presently, the Fed has declared a war on debt-deflation. But, the Fed indicates no understanding of the core thrust of debt-deflation. I’ll help out: there can be no kick-starting of economic activity, until debt levels are reduced significantly. What the Fed is looking for is not the effects of more credit provision, but instead, debt jubilee.

The Federal Reserve is now in permanent, irreversible decline because it has no tools to fight both the limits placed on the economy by oil, and, current debt levels. Were the Fed to conduct debt jubilee on a scale sufficient to restart demand, that would vaporize the currency. But even if it were possible to manage a workable debt jubilee, then the economy would come more squarely back into confrontation with the energy limit. And there too the Fed would discover that its role as provider of money and credit was reduced, as credit itself relies on future growth.

The Federal Reserve came into existence during the fattest part of the abundance curve, made possible by the extraction of energy-dense fossil fuels. The early part of the last century was the moment when the world started to transition from Coal to Oil, with the fullness of oil’s resource spread out before the industrial economy like a broad forest. As an artifact, not a creator, of this abundance the Fed was merely a mediator of wealth and performed (at best) a smoothing operation as the economy traded credits on future labor and future growth. Like most institutions in decline, the Fed can either reform itself now and embark on a substantially new mission, or, it can decay into irrelevance as it attracts lower quality intellects, and is dismembered of its power. Indeed, if you look around the edges, that process of decay in the Federal Reserve has already begun.



  1. Burk writes:

    Hi, Gregor-

    Firstly, solar energy, and many other renewable forms, are “growing”. Secondly, any rational public policy will price the vast harms done by coal into its usage, forstalling future use. Are we rational? You would say not. I would hope so.

    But for the Fed, you seem to misunderstand its role. The Fed mostly sets interest rates, and provides bond transactions to support those chosen rates, indirectly setting credit prices in relation to inflation. It does not print the money or create new money. That is done by the banks as they create loans, and by federal fiscal policy, which extinguishes money via taxes, etc. and creates it via spending as needed. Not enough is being spent at the moment, but that is a separate (Keynesian) issue.

    The public debt is also public savings. You are right to say that there has been an unhealthy build-up of private debt in the last decades, now imploding in the financial disaster (as per Minsky's financial cycle). But for public debt there is no credibility or solvency problem, only an educational problem to avert the public from mindless panic at the hands of debt terrorists. As you say, a debt jubilee would be idiotic, destroying everyone's savings. I hear that is what recently happened in North Korea, to some consternation, to say the least.

    The Fed has as much of a role during civilizational decline as it does during growth, if that is indeed what we are facing. (I doubt it). Which is to set interest rates so that we don't experience inflation/deflation. As you know, raising real interest rates prevents inflation, but rates can't go below zero. During deflation, the Fed's role is banker to the government, which, with any luck, will create sufficient economic demand (spending) to restore employment, and enough currency to restore the value of the currency, allowing the Fed to resume normal policy. Conceptually, the Fed and the Treasury should be thought of as unified in making monetary policy, along with the rest of the government, since government net spending is such a critical part of the equation.

    Deflation will be transient in any model of economic growth or decline, given rational policy. It certainly was a frequent event in American history prior to the Fed's founding, in the face of rapid growth. Unfortunately, Japan is a model of insufficient policy response over the last two decades, though living standards there have not suffered significantly.

  2. rks987 writes:

    You claim that a declining economy is unmanageable. This seems odd since the economy runs in nominal terms. However the inflation rate needs to be aimed to exceed the decline rate (negative of the growth rate) by 5%. So in a “normal” 3% growth (= -3% decline) you need 2% inflation. With 2% decline you need 7% inflation. This is what you need to keep the velocity of money up. It doesn't seem unachievable. The more important point is that normally the economy is constrained by lack of suitable (skill=weighted) labour. However until we transition to nuclear power and electric infrastructure we are constrained by energy. This means that labour costs will be driven to the floor. So if the economy were to be driven efficiently in the current situation that would facilitate driving labour costs down, which meets all sorts of political resistance.

  3. How do you drive to work in a car that uses anything but oil. Everything you buy is made of oil. EVERYTHING. Every apple, piece of paper, plastic bag, shirt, etc. Once the price of oil goes up and is limiting — these goods get more and more expensive to make and buy. The whole economy is a slave to oil — and we have been wasting the last 40 years doing little or nothing or perhaps negative things to mitigate this issue with oil alternatives. I think the economy is hardwired to oil in such a way that it will take a massive collapse in order to build the proper economy that uses more abundant and scalable sources of energy. But in the meantime, it will be ugly before it gets better.

  4. UnlikelyMoniker writes:

    Were the quotation marks around “growing” in the first sentence intentional or a Freudian slip?

  5. UnlikelyMoniker writes:

    “However until we transition to nuclear power and electric infrastructure we are constrained by energy.”

    There is something almost Zen-like in the ability of neoclassical economics to inhabit an ivory tower even though it is never able to locate the elephant in the room.

  6. Chris Selland writes:

    fascinating piece Gregor

  7. digitalindustrialpark writes:

    Perhaps an additional question would be, Why do we need the Federal Reserve Bank (which is neither Federal, have any reserves, nor a bank) to lend us our own currency? (See Woodrow Wilson's end-of-life regrets for reference). Could not states or even the Federal government fiat currency themselves? Now that would be a free market experiment, wouldn't it?

  8. rjs0 writes:

    if it ever gets better…

  9. Blog writes:

    Technology & Knowledge had to progress (see the last 30 years of the computing revolution) for us to be able to find alternatives in the renewables. We didn't do nothing during the last 40 years, we made possible to harvest this type of energy for the near future (in a wasteful manner admittedly). A proof is the wind energy boom for the last three years in the US. Only possible compared with the seventies because the technical issues are no longer a huge problem. Energy storage is also on its way to solve other problems. I am confident that we'll adapt.

  10. Kurt Griffin writes:

    Wind? At some 0.7% of the energy “pie”? Storage? What storage? There's this thing called the electric load line. Fail to meet that, my friend, and the voltage collapses and the substation breakers open. And stay open. Generators overspeed and kick off line. It takes days to fully restore major cascading power failures. After a few days in the dark, the local Democrat voters in your neighborhood may come to visit, and your locked door will not keep them out. Electricity generation has to be consistent and predictable. Wind, Sun, etc. are not. There's a reason the torque on rotor shafts in large generator facilities are measure in ton-meters. It's takes a helluva lot of twist at the plant to turn the rotors in thousands of air conditioners and refrigerators, especially when you consider efficiencies on the order of 18 to 20%. In an age of declining fossil fuels, now's the time to start praying for breeder reactors. There is nothing else on the horizon.

  11. I dont think that Wind and Solar are not predictable. LOL. The sun rises and the wind blows. You mean that the Wind and Solar power are not perfectly consistent. Perhaps you are right. But electric demand is not perfectly consistent either. There are tests being conducted in MN using a wind/electric storage system, which creates power that matches demand in the area perfectly based upon electric usage profiles. They are determining the ratio of electric storage to wind generation capacity. All the windy areas of the country are making their moves. It will take time but coal will become expensive to move around as oil becomes more expensive. Wind is likely the cheapest form of energy in the future. Nuclear is very expensive. LOL more expensive than solar.

    Nonetheless, electric generation is not really the near term problem. Oil and liquid fuels and the transportation sector are in very deep doo doo. Oil is the problem and the clear and present danger. You dont mean to suggest placing a “breeder reactor” in my car do you. I would rather ride a bike, thank you.

    I also think that democratic voters and republican voters alike are ignorant about oil and energy. Your political bias is quite perplexing to me. LOL. Wasnt Sarah Palin saying drill baby drill. Where is she going to make up the lost supplies in the steep decline? I think she is an idiot, but equally idiotic are the members in both political parties in the US Senate who failed to enact a broad energy strategy.

    Are we waiting for China to define the next iteration of technology? Maybe. But oil is a goner. Show me the new oil.

  12. chistletoe writes:

    You have written the most succinct, plain, straight-forward statement of the “problem”
    that I have seen to date. You are indeed correct that the people who discuss matters such as
    “economics”, “growth”, “interest rates”, “deflation”, “inflatin”, “money supply”, and so forth
    largely ignore this simple truth, that the history of economic growth is entirely dependent on
    the history of energy availability and consumption. Without access to increasing energy,
    there can be no growth.
    What I call “the marketplace”, an anthropomorphized version of trillions of separate
    decisions to buy and sell, has figured it out already. Credit is contracting because “
    the marketplace” understands that going forward, for generations, there is going to be
    a general economic contraction, coupled with a reduction in total world population.
    The handwriting is on the wall, its only the “experts” like Burke, too much in love with
    recent history and booklearning and what it has done for their own lives, to see the big picture.

    Mankind is not going to evolve intelligent, rational solutions to this change in expectations.
    It is not in our vocabularies to voluntarily cut back, reduce our standards of living either
    for our children's sake or for humanity in general. People would rather be forced to change.
    Change will come, but it will come with everybody kicking and screaming
    and doing everything they can to prevent it. Very few will be prepared.

  13. Burk, you are forgetting that oil in entrenched in everything and solar, wind or whatever cannot replace it as quickly as oil declines. Also people in general refuse to believe that they need to trade in their cars for electric ones or more fuel efficient ones. People are basically too stupid to do the right thing in the face of a collapsing energy supply.

  14. Beavsco writes:

    Insightful post Gregor. Few people outside the energy industry understand the ramifications of current oil production levels. Prior to the economic downturn, new demand was growing much faster than new production. While demand has fallen during the global recession, the problem has actually become worse. As demand falls, so too do oil prices. This results in lower profits for oil producers and delays investment in new production capacity. As the economy recovers, global demand for oil will obviously increase. Asian countries in particular are expected to see significant increases in oil consumption. It takes several years to develop new production capacity. Because oil companies have delayed investment, however, the gap between increased demand and increased production will only widen.This in turn will drive oil prices higher, limiting economic growth in countries heavily dependent on oil – like the U.S.

  15. elessar0x3 writes:

    lol, Holy Roman Empire?

  16. Danny writes:

    Excellent piece Gregor

  17. writes:

    Thanks Burk. A couple of questions.

    1. Your reference to the growth in solar: how is this related to the terminus of oil supply growth, with regard to the transitional effect on industrial economies?
    2. Your discussion of the growth of public debt as having its only barrier in the form of debt terrorists or general misunderstanding. Are you espousing the view of Chartalism? Also, if a sovereign as you claim has no limits to the amount of debt it can issue, please explain the history of sovereign debt default.

    I'm not personally convinced debt jubilee would be idiotic. I am convinced however that QE through the portal of the banking system has now reached its end point, and will create no jobs as debt-deflation cannot be fought with QE applied in that manner.


  18. writes:

    I think Burk, from previous conversations, is quite aware of oil's integration into the industrial economy. I just don't think Burk understands the transitional hurdle from energy-dense forms, to energy-diffuse forms. It's a physics, not a social, problem. Though the social landscape certainly mitigates the problem but only to, or away, from the limits placed by physics and the material world.

    Energy transition is almost its own discipline. It's a landscape of mostly harsh realities that cannot be intuited easily.


  19. writes:

    I claim that the Federal Reserve is an institution that is dependent on growth, and cannot function in a no-growth world, or a declining growth world. If it does, it will only be a result of being a different institution, with new mandates. In a no growth world, the interest rate curve slowly ebbs away, as there is no reliably posited future that can be pledged in trade for current capital. Sure, there will be a little of that, but it would be more along the lines of an agriculture cycle and an agriculture timeline. To be sure, these have existed before, but transition back to those will take enough time to knock the FED as an institution beyond relevancy. Remember, am merely explaining why the institution itself has entered decline. The bottom line: the FED is an institution that derives its relevancy from a growing, industrial economy. We no longer have that, and are unlikely to have that again.


  20. writes:

    Thanks. I wish people would open up more to the idea that growth rates of the past 250 years are anomalous, and strongly suggestive of a unique period in human history. It is certainly not possible to refute that humanity could never have grown while tied to the agricultural cycle. Land, plowed by animals and fed through recycling of organic material and also wood, could never produce 7 billion people, and our rates of consumption. It was of course coal, and then oil, then provided the fuel for such phenomenon.

    I strongly believe that when human live inside of a paradigm, almost by definition, they cannot see it. That is why this material can be challenging.


  21. writes:

    Nice chart here by Reuters from late Spring, which gives another view of the wall the FED has run into.


  22. Burk writes:

    Hi, Gregor-

    Thanks for your response. My mention of solar power was a bit tongue in cheek, since you didn't have any caveats in your original mention of “growth”. All the same, solar supply is very large in principle, and rational policy should take environmental harm into account when planning future energy policy … since we live in the environment.

    My economics note was more serious. This is chartalism, though adherents prefer “modern monetary theory”, or MMT, these days. See William Mitchell's blog. The sovereign with floating exchange rates is indeed unlimited in what it can spend in its currency of issue, limited only by inflation. This is a serious limitation, of course. But not right now, in our current economic conditions. Note that the Fed has been increasing bank reserves hugely, with absolutely no effect, since banks fear to lend. The government will have to spend fiscally if it wants to forestall deflation and the whole complex of Japan-like conditions.

    Sovereign debt default is a sad history, almost entirely due the state not really being sovereign in the above senses. Greece isn't sovereign- it uses the Euro and borrows in the private markets, not in a market of its own issue. Ditto for Argentina, whose currency was pegged to the dollar. Ditto for all the old systems where currencies were pegged to gold, etc. These were all much more complicated to deal with than the modern freely floated sovereign currency, and were all subject to default. We aren't. One last example is Russia, which was pegged to the dollar during its currency crisis. It had to default on its external debt upon revaluation. But it didn't have to default on its internal ruble debt- that was simple cruelty to its own citizens.

    Incidentally, QE is virtually pointless as far as I understand, only altering the mixes of long/short rates, but not actually spending new money into the economy, which is what the fiscal arm does. So I agree the QE is not going to help. Lastly, even the idea that fiscal spending needs to be offset by borrowing 1:1 is a fiction left over from gold standard days- spending without borrowing now would be fine too. The monetary and fiscal arms should be consolidated in a policy sense so that spending, borrowing, and rate policy work together, in the interests of stable currency value and full employment.

  23. I1 writes:

    That means a heck of a lot of bonds are worthless.

  24. rjs0 writes:

    how much coal generated electricy is needed to produce your solar and wind power equipment? do you think the materials for a new electric grid come free? all the materials take copious amounts of diesel fuel to mine, more to transport, then you need your current coal generated electricity to manufature the components of your new system…there is no magic bullet…

  25. Ian_M writes:

    I think Andrew Jackson did something along those lines. It ended in the Panic of 1837, if I remember correctly.

  26. Ian_M writes:

    I was just reading about the collapse of the Chacoan (Anasazi) culture last week. It seems that as droughts started to destroy their corn supply in the 1090's, the ruling elite embarked upon ever-greater building projects of ceremonial roads, kivas, and great houses. Made perfect sense in their paradigm, propitiating their gods in the same way we propitiate our macroeconomic gods of inflation and deflation.

    Times change, people don't.

  27. Mainly steel and cooper and lithium are needed, but should we use these materials in 5 mile deep oil drill rigs, which may not produce as much energy as a wind or solar array placed in the right places in this country. One needs to have a plan and yes under the BAU model — we are screwed since oil and investment bankers control capital investment. LOL

  28. writes:

    That's right. At some point, eventually, the savings of millions which is represented by bonds will be effectively destroyed. I assume this will be a process that will extend over time, possibly even enough time that most experience it as chronic loss, rather than acute destruction. But yes, even apart from the energy limit, the world has produced way too many claims and sadly those claims are someone's retirement capital.


  29. Robin Datta writes:

    As stated: “oil is no longer available to fund world growth”.

    I had the (perhaps mistaken?) impression that niether the primary economy (natural resources: soil, sunlight, water, minerals, &c.) nor the secondary economy (the products of the use of energy from human or other source) can “fund” anything: funding belongs to the tertiary economy, where the natural resources or the products of the use of energy are symbolized by either physical objects (seashells, coins of precious metals. &c.), or where a “fiat currency” (of little green pictures of dead presidents or pixels), runs rampant.

    In such a case, oil is no longer available to feed world growth

  30. mika. writes:

    It gets even better: “Gasland” –

  31. Knossos22 writes:

    Hope you are right. But we are betting the future of the species on the speculation that technology can come to the rescue? We just keep going about life as if there is nothing wrong. Mean while we dither and fritter away precious time under this illusion of modernity – our unbridled faith in technology to solve our problems. I just do not believe that model is compelling or has helped to create a world people actually want to live in. They only do so because a) they do not know any better and b) where else are they going to go? Mars?

    The lack of visions is astounding, appalling and has become an existential threat to the future of the species and the planet.

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