CHAPTER 2: TABLE OF CONTENTS The Nature of Material-Technical Forecasts: Explaining the Paradox The Difficulties of Material-Technical Forecasting The Vast Differences Among Technical Forecasts Summary Afternote to Investors CHAPTER 2 WHY ARE MATERIAL-TECHNICAL RESOURCE FORECASTS SO OFTEN WRONG? The most-publicized forecasts of long-run natural-resource scarcity made by natural scientists and engineers disagree sharply with economic forecasts of the sort given in this book. And the engineering forecasts have usually been utterly wrong. This chapter explains this consistent error. Can sound engineering (or "technical") forecasts be based on physical principles alone? Do economic and material-technical forecasts necessarily contradict each other? The answer is no to both questions. Some of the best-informed technical forecasters agree strongly with the optimistic economic extrapolations discussed in chapter 1 and disagree with the pessimistic material-technical forecasts. That is, the variation among material-technical forecasts is as great as the differences between technical and economic forecasts, though the pessimistic technical forecasts have always gotten much more attention than the optimistic ones. This chapter delves into the bases of agreement and disagreement among forecasts of raw-material availability. The next chapter explains why the forces that produced the long-run decrease in scarcity are likely to continue indefinitely, contrary to engineering assumptions. (The specific case of energy is discussed in chapters 11-13.) THE NATURE OF MATERIAL-TECHNICAL FORECASTS: EXPLAINING THE PARADOX The historical evidence in chapters 1, 5, 8, 10, and 11 that natural-resource costs have fallen, as measured by all reasonable concepts of cost, sharply contradicts the notion that diminishing returns must raise costs and increase scarcity. This cries out for explanation. The explanation is quite counter-intuitive, however. At first it affronts "common sense". The approach of the engineering analysts who rely on physical principles is as follows. They estimate quantities and "qualities" of resources in the earth, assess the present methods of extraction, and predict which methods of extraction will be used in the future. With those estimates they then calculate the amounts of resources that will be available in future years, at various costs of extraction (in the better forecasts) or just at the present cost (in the less-thoughtful forecasts). At the root of this material-technical view of natural resources is the assumption that a certain quantity of a given mineral "exists" in the earth and that one can, at least in principle, answer the question: How much (say) copper is there? What do we mean by a "resource" in the earth? If we mean a physical quantity, we have no instrument to measure the quantity of copper or iron or oil in the earth. And even if we did, we probably would not be able to agree on just what ought to be counted as a "resource" - for example, whether the copper salts dissolved in the sea should be included in the measurement of copper. There is an almost insuperable difficulty in the definition of available "copper," "oil," and so on, because there are many different grades of each resource in places that vary in difficulty of extracting the resource, and because (as seen in Table 2-1) the amounts at low concentrations (such as the quantities of metals on the sea bottom and in sea water) are extraordinarily large in contrast to the quantities we usually have in mind (the "proven reserves"). What's more, we constantly create new supplies of resources, in the sense of discovering them where they were thought not to exist. (In the past, the U.S. Geological Survey and others thought that there was no oil in California or Texas. Often, new supplies of a resource come from areas outside the accustomed boundaries of our system, as resources from other continents came to Europe in past centuries and as resources may in the future be brought from the sea or from other planets. New supplies also arise when a resource is created from other materials, just as grain is grown and nuclear fuel is "bred." (Here we must avoid getting hung up on the word "natural," as in "natural resources.") TABLE 2-1. Number of Years of Consumption Potential for Various Elements Most people do not at first feel comfortable with this point of view. The philosophy of scientific definitions may help. Consider the definition of the potential supply of oil that is implicitly or explicitly used by many people: the amount that would be recorded if someone conducted an exhaustive survey of all the earth's contents. This quantity is apparently fixed. But such a definition is not operational, because such a survey is impossible. The operational supply of oil is that which is known today, or that which we may forecast as being known in the future, or that which we estimate will be sought and found under varying conditions of demand. These latter two quantities are decidedly not fixed but rather are changeable, and they are the ones relevant for policy decisions. (The next chapter will explore in greater depth the counterintuitive idea that supplies are not "finite".) But there are other ways of adding to our raw-material supplies besides exploration. We must constantly struggle against the illusion that each time we take a pound of copper from the earth there is less left to be used in the future. Too often we view natural resources as we view the operation of a single copper mine: Dig some ore, and less is left. We must constantly remember that we create new mines and replenish the inventory of copper. The new "mines" may be somewhat different from the old ones - recycled metal from dumps, for example - but the new sources may be better rather than worse, so quality is not a necessary cause for concern. In exactly the same way that we manufacture paper clips or Hula-hoops, we create new supplies of copper. That is, we expend time, capital, and raw materials to get them. Even more important, we find new ways to supply the services that an expensive product (or resource) renders, as we shall see shortly. The common morally-charged statement that the average American uses (say) ninety times as much X as does the average Asian or African (where X is some natural resource) can be seen as irrelevant in this light. The average American also creates a great deal more of "natural" resource X than does the average African or Asian - on average, by the same or greater proportion as the resource is used by Americans compared with Asians and Africans. I realize that this approach probably still seems so anti- commonsensical as to be beyond belief, but please read on. Like many other important complex questions, this one can be understood only by coming to see the sense in what seems at first to be pure foolishness. Of course this requires a struggle, and a willingness to be open to radical rethinking of paradoxical propositions. Real understanding, however, often requires this price. THE DIFFICULTIES OF MATERIAL-TECHNICAL FORECASTING The most common forecasts simply divide the "known reserves" by the current rate of use and call the result "years of consumption left." This procedure is discussed more fully later in the context of oil and energy, but a few words and data will be useful here. The concept of known (or "proven") reserves is useful as a guide to the decisions a business firm must make about whether it is profitable to search for new deposits, just as a running inventory of a retail store tells the manager when to reorder. But known reserves are a thoroughly misleading guide to the resources that will be available in the future; see table 2-1, which compares known world reserves with two other measurements of available resources. In Figure 1-3 we saw how the known reserves of mercury have increased rather than decreased. Figure 2-1 shows the total world "known reserves" of copper and other raw materials; almost all known reserves have increased since 1950 as demand for the materials increased - just the way a store inventory often increases because the store's sales volume grows. And table 2-1 shows the ratios of reserves to total production; this is the measure that many writers have used to forecast exhaustion, relying on the simple calculation that if we have (say) only fifteen years of present consumption in "reserves," the cupboard must be bare fifteen years from now. But the graphs show that reserves not only do not go down, they even go up - not only in total, but also as a ratio of rising consumption. The explanation for this anti-commonsensical trend may be found in Chapter 3. This should be strong proof, even for the doubting reader, that forecasts using the known-reserve concept - which includes most forecasts, especially the doomsday type - are so misleading as to be worse than useless. FIGURE 2-1. Known World Reserves of Selected Natural Resources, 1950 to present The ratio of U.S. reserves to U.S. production has generally increased, also. The metals data cited by Earl Cook were, for 1934 and 1974, respectively: copper, 40 years and 57 years; iron ore, 18 and 24 years; lead, 15-20 and 87 years; zinc, 15-20 and 61 years. But these U.S. data are much less relevant than are the world reserves data shown above, because these materials are sold freely in world markets. To understand the concept of known reserves we must inquire into other concepts of physical reserves, including total crustal abundance and ultimate recoverable reserves, expressed in terms of years of consumption at the current consumption rate. Proven reserves are a ridiculously pessimistic floor for forecasting. At the other end - a ridiculously optimistic ceiling - is the total amount of a material in the earth's crust. The most economically relevant measure is that of "ultimate recoverable resources," which the U.S. Geological Survey presently assumes is one hundredth of one percent (.0001) of the amount in the top kilometer of the earth's surface; these are the figures given in the middle column of table 2-1, to be compared with proven reserves and total crustal abundance in the other columns. Even this "ultimately recoverable" estimate will surely be enlarged in the future when there are improvements in mining techniques or if prices rise. A second difficulty with material-technical forecasts stems from an important property of natural resource extraction. A small change in the price of a mineral generally makes a very big difference in the potential supplies that are economically available - that is, profitable to extract. Yet many forecasts based on physical principles are limited to supplies of the resource available at current prices with current technology. Given that the most promising lodes will always be mined first, this approach inevitably suggests a rapid exhaustion of "reserves" even though the long-term trend is decreasing scarcity because of the added incentive to find new lodes and invent better methods of extraction. A third difficulty with material-technical forecasts: the methods that go beyond the "known reserves" concept necessarily depend on more speculative assumptions than does the economic approach. Material-technical forecasts must make very specific assumptions about discoveries of unknown lodes and about technologies that have yet to be developed. Making the "conservative" (read "unimaginative") assumption that future technology will be the same as present technology would be like making a forecast of twentieth-century copper production on the basis of eighteenth-century pick-and-shovel technology. (Indeed, we must be wary of a tendency of experts in a given field to underestimate the scope of future technological changes and their impact on the economy. As Simon Kuznets said, "Experts are usually specialists skilled in, and hence bound to, traditional views and they are, because of their knowledge of one field, likely to be cautious and unduly conservative".) In contrast, the economic approach makes only one assumption, to wit, that the long-run trend of declining costs will continue. Fourth, the technical inventory of the earth's "contents" is at present quite incomplete, for the very good reason that it has never been worthwhile to go to the trouble of making detailed surveys. Why should you count the stones in Montana when you have enough to serve as paperweights right in your own back yard? We do not know the true extent of the resources that exist in, and can ultimately be recovered from, the earth. Nor will we know in the next two years or ten years. The reason why we do not know the absolute limits of the resources we have is simple and does not even require recourse to elaborate arguments about the wonders of technology. We do not know because no one has as yet found it necessary to know and therefore went about taking an accurate inventory. All these difficulties in forecasting resource availability are well known to geologists, even though they are left out of popular discussions. To illustrate, figure 2-2 shows the place of known reserves in the overall scheme of total resources. FIGURE 2-2. Concepts of Raw-Material Supplies -- McKelvey's Box Expanded What would be the ideal technical forecast if it were possible? All would agree, I believe, that we want to know how much of the raw material could and would be produced at each possible market price for each year in the future. The estimate for each future year 199? or 20?? must depend on the amount of the resource used in years previous to 199? or 20??. Thus on the one hand, if more was extracted in previous years, there will be less high-quality material left to extract, which tends to raise the price in 199? or 20??. But on the other hand, greater use in previous years leads to more exploration and more development of advanced technology, which in turn tends to lower the price. On balance, I'd guess that greater use in years prior to 199? or 20?? means a lower rather than a higher price in 199? or 20??, respectively. This idealized scheme paves the way to an answer to a most troublesome question: Among the wide range of technical forecasts and forecasters, which make the most sense? As we discuss this question, however, please remember my general advice on these matters: Prefer economic trend forecasts, if available, to any and all material- technical forecasts. Among material-technical forecasters, the best are those who come closest to the ideal of a price-dependent supply schedule that sensibly takes prior use into account. This immediately disqualifies most forecasters because they do not make their predictions conditional on various prices. More specifically, this criterion knocks out all forecasts based solely on the concept of known reserves. Among forecasts that do make the estimate conditional on price, you must judge a forecaster on how well he or she reasons about future technological developments with respect to resources in the land, ocean bottom, and sea. This is a difficult judgment for any layperson to make. THE VAST DIFFERENCES AMONG TECHNICAL FORECASTS Despite those reservations about technical forecasting, I shall briefly survey the results of some of the forecasters, mostly in their own words. My aim is to show that even with relatively "conservative" guesses about future extraction developments, many of the best-qualified forecasters report enormous resource availabilities - in contrast to the scare stories that dominate the daily newspapers. The central difficulty again is: Which expert will you choose to believe? If you wish, you can certainly find someone with all the proper academic qualifications who will give you as good a scare for your money as a horror movie. For example, geologist Preston Cloud has written that "food and raw materials place ultimate limits on the size of populations ... such limits will be reached within the next thirty to one hundred years", and, of course, not too many years ago the best-selling book by Paul and William Paddock, Famine--1975!, told it all in the title. We begin with the assessment of the raw-materials situation by Herman Kahn and associates. Examining the evidence on the twelve principal metals that account for 99.9 percent of world and U.S. metal consumption, they classify them into only two categories, "clearly inexhaustible" and "probably inexhaustible," finding none that are likely to be exhausted in any foreseeable future that is relevant to contemporary decisions. They conclude that "95 percent of the world demand is for five metals which are not considered exhaustible." Many decades ago, the great geologist Kirtley Mather made a similar prescient forecast: Summing it all up, for nearly all of the important nonrenewable resources, the known or confidently expected world stores are thousands of times as great as the annual world consumption. For the few which like petroleum are available in relatively small quantities, substitutes are known or potential sources of alternative supply are at hand in quantities adequate to meet our current needs for many thousands of years. There is no prospect of the imminent exhaustion of any of the truly essential raw materials, as far as the world as a whole is concerned. Mother Earth's storehouse is far more richly stocked with goods than is ordinarily inferred. In a comprehensive 1963 survey of natural and technological resources for the next 100 years, Harrison Brown - a well-known geochemist who would not be described as a congenital optimist by anyone who knows Brown's work - nevertheless looked forward to a time when natural resources will become so plentiful that "mineral resources will cease to play a main role in world economy and politics." (I think that that time has already arrived.) In an article sufficiently well-regarded that it was the first article from the physical sciences ever republished in the American Economic Review, H. E. Goeller and A. M. Weinberg explored the implications of possible substitution in the use of raw materials that are essential to our civilization, with this result: We now state the principle of 'infinite' substitutability: With three notable exceptions - phosphorus, a few trace elements for agriculture, and energy-producing fossil fuels (CH2) - society can subsist on inexhaustible or near-inexhaustible minerals with relatively little loss of living standard. Society would then be based largely on glass, plastic, wood, cement, iron, aluminum, and magnesium. As a result of that analysis of "infinite" substitutability, they arrive at an optimistic conclusion. Our technical message is clear: dwindling mineral resources in the aggregate, with the exception of reduced carbon and hydrogen, are per se unlikely to cause Malthusian catastrophe....In the Age of Substitutability energy is the ultimate raw material. The living standard will almost surely depend primarily on the cost of prime energy. Are those quotations from far-out voices? Hardly. Vincent McKelvey, then-director of the U.S. Geological Survey, said in an official Summary of United States Mineral Resources: "Personally, I am confident that for millennia to come we can continue to develop the mineral supplies needed to maintain a high level of living for those who now enjoy it and raise it for the impoverished people of our own country and the world." You may be startled by the discrepancies between these assessments and those that you read in the daily newspapers. The best-known doomsday forecast in the last few decades was The Limits to Growth. It sold an astounding 9 million copies in 29 languages. But that book has been so thoroughly and universally criticized as neither valid nor scientific that it is not worthwhile to devote time or space to refuting its every detail. Even more damning, just four years after publication it was disavowed by its sponsors, the Club of Rome. The Club said that the conclusions of that first report are not correct and that they purposely misled the public in order to "awaken" public concern. With respect to minerals, Dennis Meadows (of Limits to Growth) predictably went wrong by using the known-reserves concept. For example, he estimated the world supply of aluminum to be exhausted in a maximum of 49 years. But aluminum is the most abundant metal in the earth's crust, and the chance of its supply becoming an economic problem is nil. (Meadows also made the error of counting only high-grade bauxite, while lower grades are found in much greater abundance). The price history of aluminum in Figure 2-2 shows how aluminum has become vastly more available rather than more scarce since its early development in the 19th century. And in the two decades since Meadows wrote, the price has continued to fall, a sure sign that the trend is toward lesser rather than greater scarcity. Figure 2-3 [Prices of aluminum, and early ones from Madigan booklet] The complete failure of the prophecies of Limits to Growth, and even the repudiation by its sponsor, have had little visible effect on the thinking of those who made the false prophecies. In 1990 Meadows was still saying, "We showed that physical growth will stop within the lifetime of those being born today...The underlying problem has not changed one iota: It is the impossibility of sustaining physical growth in a finite world." (The next chapter discusses why finiteness is a destructive bogeyman, without scientific foundation.) And in 1992 they published Beyond the Limits which says the same old things while attempting to wiggle out of the failures of past predictions by saying that they just had the dates of the forecasts wrong. (See the Afternote to Chapter 34 for more discussion of the two Limits volumes.) Forecasts made by government agencies attract much attention, and many naive persons put special credence in them. But the inability of government agencies to predict resource trends, and the ill effects of such "official" but badly made forecasts, would be amusing if not so sad. Consider this episode: After a sharp price rise in the late 1970s, timber prices in 1983 fell about three- quarters, causing agony for lumber companies that had contracted to cut government timber at the high prices. Industry trade groups then argued that the government owed the industry help because its forecasts had led to the bidding disaster. In the late 1970s [an industry spokesman] says, government economists predicted timber shortages and helped to fan the bidding. Even economists can be influenced by physical considerations into focusing on too-short-run price series, and making wrong forecasts thereby. For example, in 1982 Margaret Slade published an influential analysis of trends in commodity prices based on a theoretical model including grades of ores. Her series ran from 1870 or later through 1978. She fitted quadratic concave-upwards curves to the data and concluded that "if scarcity is measured by relative prices, the evidence indicates that nonrenewable natural-resource commodities are becoming scarce." If she were to conduct the same analysis with data running to 1993, and using data before 1870 where available, she would arrive at quite the opposite conclusion. SUMMARY The potential supplies of all the important minerals are sufficient for many many lifetimes, on the basis of almost any assumption about these minerals' abundance on earth. This material-technical assessment is entirely consistent with the historical economic evidence of falling prices relative to wages for all raw materials, showing a trend of increasing availability and declining scarcity, as discussed in Chapters 1, 5, 8, 10, and 11. Material-technical forecasts of resource exhaustion often go wrong for two reasons. (1) No matter how closely defined, the physical quantity of a resource in the earth is not known at any time, because resources are sought and found only as they are needed; an example is the increase in the known supplies of such resources as copper, as shown in table 2-1 and figure 2-1. (2) Even if the physical quantities of particular closely defined natural resources were known, such measurements would not be economically meaningful, because we have the capacity to develop additional ways to meet our needs - for example, by using fiber optics instead of copper wiring, by developing new ways to exploit low grades of copper ore previously thought not usable, and by developing new energy sources such as nuclear power to help produce copper, perhaps by extracting it from sea water. Thus the existing "inventory" of natural resources is operationally misleading; physical measurements do not define what we will be able to use as future supplies. As one wise geologist put it, Reserves are but a small part of the resources of any given commodity. Reserves and resources are part of a dynamic system and they cannot be inventoried like cans of tomatoes on a grocer's shelf. New scientific discoveries, new technology, and new commercial demands or restrictions are constantly affecting amounts of reserves and resources. Reserves and resources do not exist until commercial demand puts a value on a material in the market. AFTERNOTE TO INVESTORS Persons interested in securities investments sometimes get impatient when I say that raw materials prices will fall "in the long run." Well, in order that you should understand that the subject of this book is quite practical, and just to lighten up a bit, here is a hot tip: Shun like the plague any investments in mutual funds that deal in commodities. They are sure losers in the long run. Here is a letter I wrote to a newspaper on this subject: To the Editor: The Commodity Index fund Goldman-Sachs has just announced [Wall Street Journal, July 22, 1991] is the worst investment this side of a Brooklyn Bridge deal. Raw materials have consistently fallen in price over the decades and centuries relative to consumer goods. That is, natural resources have been becoming less scarce rather than more scarce throughout history. The classic Scarcity and Growth by H. Barnett and C. Morse documents this trend for the period 1870 to 1957, and my own work does the same for periods up to the present and going back as far as 1800 (where the data are available). G. Anders, W. P. Gramm (now Senator), S. C. Maurice, and C. W. Smithson assessed the investment records of commodities between 1900 and 1975, and showed that the investor would have lost spectacularly by buying and holding commodities; AAA bonds produced a rate of return 733 per cent higher than holding resources. Goldman-Sachs may be able to show that over some selected short period of time commodities do better. But such a showing is either scientific foolishness -- the error of relying on an inadequate sample from a short period of time, rather than looking at the long-term record -- or outright fraud. There is no other possibility. And yes, I'll be delighted to take a position on the other side of the investment, selling what they buy. This misadventure demonstrates the importance of taking a long historical view rather than being seduced by short blips in a time series. Sincerely, Julian L. Simon page # \ultres\tchaq02a December 23, 1993