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February 16, 2010

A Primer on Energy and the Economy: Energy’s Large Share of the Economy Requires Caution in Determining Policies That Affect It

February 16, 2010
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Two of the biggest issues in national politics over the past few years have been health care policy and energy policy. The reason is simple—health care policy impacts us in very personal ways. When we get sick or injured, we want to get better at a reasonable price. Energy use is equally as personal. All of our decisions depend in some way on energy and the price of energy—how we travel, what we eat, what temperature we keep our houses, and which jobs we work. Affordable energy, like affordable health care, makes our lives better.   In fact, because energy is “the capacity to do work,” it facilitates all other economic endeavors, including increasingly technically-advanced health care delivery.

Affordable energy would help to heal an ailing economy because affordable energy facilitates economic growth. Energy’s share of Gross Domestic Product is one measure of the relative importance of energy in the overall economy. While the share of energy in the U.S. economy has declined from its high in the early 1980’s, it still remains a large component, and energy as a share of world GDP is also large.

United States

The Energy Information Administration calculates the share of U.S. Gross Domestic Product (GDP) that is energy-related and publishes it in its Annual Energy Review.[i] Prior to the embargo of 1973-74, total energy expenditures constituted 8 percent of U.S. gross domestic product (GDP), the share of petroleum expenditures was just under 5 percent and natural gas expenditures accounted for 1 percent. The price shocks of the 1970s and early 1980s resulted in these shares rising dramatically to almost 14 percent, 8 percent, and 2 percent respectively, by 1981. Since that time, the shares have fallen until the early part of this decade when they began to rise again.

The energy component still remains a major share of GDP in 2006 at 8.8 percent.[ii] In 2006, Americans spent $1,158 billion on energy, 2.7 times more than in 1981, when they spent $427 billion on energy (both in nominal dollars).  The U.S. economy in 1981, however, was about one-fourth of its 2006 size. That fact and lower Middle Eastern crude oil production due to Iraq’s invasion of Iran raising energy prices in 1981 are some of the reasons why energy represented a larger share of GDP in that year.

Another reason for energy’s lower share of GDP since 1981 is that energy intensity has been declining. Energy intensity is energy consumption (measured in physical terms, such as BTUs) per dollar of GDP. Its decline means that the American economy uses less physical energy to produce a dollar of output (GDP) because of efficiency improvements in energy consuming technologies and structural shifts in the U.S. economy. The U.S. economy has become more service oriented, requiring less energy than many manufacturing industries, such as steel and cement, that have been moving offshore due to competition and lower energy prices in other parts of the world.

World

Neither the Energy Information Administration nor the International Energy Agency publishes energy expenditures for the world. Thus, there is no definitive number or source of energy expenditures as a percent of the global economy. Energy journalist Robert Bryce estimated global energy expenditures at $5 trillion, of which at least $4.4 trillion is directly derived from hydrocarbons—coal, natural gas, and petroleum.[iii] According to Bryce, total global energy use in 2008 was 11.29 billion tons of oil equivalent, which is about 82.8 billion barrels, using the conversion factor of 7.33 barrels per ton. Assuming an average oil price of $60 per barrel, results in energy expenditures at $4.968 trillion.[iv] The world economy in 2008 was $60.587 trillion. Thus, the energy share of the global economy is about 8.2 percent according to this method.

Another way to calculate the global share that energy represents of world GDP is to assume that the entire world shares U.S. prices for energy and a fuel distribution similar to that of the U.S. This improves upon the calculation by recognizing other fuel prices besides that of oil, but may still overstate the global share that energy constitutes of GDP since the U.S. uses more oil (about 3.5 percentage points more) and less coal  (about 4.5 percentage points less) than the world. Using the following formula,

(US physical energy use / US GDP) /percent of US economy that is energy = (world physical energy use / world GDP) / percent of world economy that is energy, and solving for the percent of the world economy that is energy results in a 7.9 percent share.  Global energy intensity (world physical energy use/world GDP) can be obtained from the International Energy Agency’s Key World Energy Statistics 2009.[v]

Conclusion

Under either method of estimation, about 8 percent of GDP is associated with energy expenditures worldwide, and a slightly higher 9 percent is associated with U.S. GDP. In many countries, this may be second only to health care costs, which are almost 16 percent of GDP for the U.S., but in the 8 to 11 percent range for many European countries and Canada.[vi] This means that energy prices, like health care, have a large effect on the economy and policies that promote energy price increases may result in negative consequences to economic growth. Politicians worldwide should be cautious regarding energy policies that may disrupt their economies.


[i] Energy Information Administration, Annual Energy Review 2008, Table 1.5, www.eia.doe.gov/emeu/aer/pdf/pages/sec1_13.pdf

[ii] The share was also 8.8 percent in 2007 when energy expenditures were $1,233 billion, and GDP was $14,078 billion. See www.bea.gov/national/pdf/dpga.pdf and www.eia.doe/emeu/states/sep_prices/notes/pr_print2007.pdf .

[iii] Robert Bryce, Energy Tribune, December 18, 2009, www.energytribune.com/articles.cfm?aid=2746

[iv] Roger Pielke Jr.’s Blog: How Large is the Global Economy? December 21, 2009, http://rogerpielkejr.blogspot.com/2009/12/how-large-is-the-global-energy-economy.html
[v] International Energy Agency, Key World Energy Statistics 2009, http://www.iea.org/publications/free_new_Desc.asp?PUBS_ID=1199

[vi] Health Care Spending as Percentage of GDP, Robert Wood Johnson Foundation, June 30, 2009, http://www.rwjf.org/pr/product.jsp?id=45110 , and The Commonwealth Fund, January 29, 2007,

www.commonwealthfund.org/Content/Publications/Fund-Reports/2007/Jan/Slowing-the-Growth-of-U-S-Health-Care-Expenditures–What-Are-the-Options.aspx


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