The Price Mechanism and the Myth of Limited Resources
Why we never run out of anything, and why it's okay when we do.
In day-to-day conversation, I regularly hear concerns about what are called ‘finite’ resources. I recall spending a few weeks discussing the topic when I studied GCSE chemistry. Here’s a BBC bitesize page dedicated to it:
The seemingly reasonable argument goes as follows: there are many valuable resources which are in limited supply; eventually we will exhaust our supply of these resources and be unable to make the things that we used them for. As a result, when we run out of a finite resource, technology will regress.
In 21st century countries, this argument is flawed, and the reason why lies in two of the most basic principles in economics - the upward sloping supply curve and the price mechanism. In fact, this is one of my favourite applications of economics to real life. It shows how even basic economics can have non-obvious implications and improve our understanding of the world.
Fears about a finite resource ignore the effect of supply shortages on the price of that resource - and thus the incentive for it to be produced. According to BBC bitesize, oil is a finite resource that will eventually run out. I think two things about this claim; first, that we probably won’t run out of oil and second, that it doesn’t matter if we do. If oil supply declines as expected, and demand for its uses remains the same, its price will rise significantly. That is, when oil is in short supply, the reward for finding more oil increases. And because incentives like this matter, when oil producers are rewarded for finding oil, they find it - through increased effort as well as new and innovative technologies which are all highly incentivised when the price of oil goes up.
Having read this, you might still be thinking that oil supplies must eventually run out. Oil is a physical resource, and so there can only be so much of it. This is technically true but misses the point. If oil does completely run out, then producers will be highly incentivised to produce substitutes for oil - clean electricity, for example. Technological innovation in the substitutes for oil will ensue and demand will be satisfied, simply by a different means. Perhaps a synthetic version of oil will be produced using some undiscovered technology.
This all sounds like I’m relying on magic, but history has taught me that when incentives are aligned, technological progress can do things which previously seemed impossible. The CEO of AstraZeneca was the highest paid CEO of any FTSE 100 company in 2020. Why? Because he was the CEO of a company that did the seemingly impossible and produced a COVID vaccine in under a year. And why did his company achieve that? Because they were incentivised to do so, by the immense rewards that the price mechanism promised them if they were successful. In summary, incentives matter, and when something is in short supply the price mechanism adjusts incentives.
Conclusion:
This is an application of economics that I have been passionate about for a long time. It affects how I see the world. On immigration, for example, I don’t buy the arguments that we will run out of space - skyscrapers and building into the sea have already shown how producers adjust when land becomes a scarce resource. I was also never worried about the world running out of indium tin oxide - a finite and scarce resource used for making touch screens. As economists would have predicted, we found an alternative1, because producers were incentivised to do so by a supply shortage.
It should be noted that when externalities are present, these arguments aren’t as strong. This post is by no means claiming that we shouldn’t worry about pollution because when good quality air is scarce, it will be produced more. To some extent, an adjustment like this will happen, but we can’t rely on the market alone. Population growth is another interesting example. Many people are fearful that populations will decline rapidly due to low birth rates in many rich countries. The price mechanism will prevent this to some extent by rewarding producers (parents) for having more children through the price mechanism (wages will rise since labour will be in short supply). Children have external benefits, however, and so subsidies may also be required to encourage births.
In some cases, though, we can almost entirely rely on a market adjustment to prevent permanent supply shortages. If you were worried about the world running out of everything and chaos ensuing, then the price mechanism, incentives and the elasticity of supply should put your mind at ease.
The world might run out of a crucial ingredient of touch screens. But don’t worry, we’ve invented an alternative (theconversation.com)
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