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During most of the 20th century, the prices of natural resources such as energy, food, water, and materials such as steel all fell, supporting economic growth in the process. But that benign era appears to have come to an end. The past ten years have wiped out all of the price declines that occurred in the previous century. As the resource landscape shifts, many are asking whether an era of sustained high resource prices and increased economic, social, and environmental risk is likely to emerge.
Similar concerns have appeared many times in the past, but, with hindsight, the perceived risks have proved unfounded. In 1798, land was at the centre of popular worries. In his famous ‘An essay on the principle of population,’ Thomas Malthus expressed concern that the human population was growing too rapidly to be absorbed by available arable land and that this would lead to poverty and famine. But the dire vision he outlined did not come to fruition as the agro-industrial revolution swept across Britain and then the rest of Europe and North America, breaking the link between the availability of land and economic development. Malthusian theories have enjoyed brief revivals, notably in the Club of Rome’s report on the limits to growth in the early 1970s. But the dominant thesis of the 20th century was that the market would ride to the rescue by providing sufficient supply and productivity.
This thesis--and hope--has largely proved correct. Driven by a combination of technological progress and the discovery of, and expansion into, new, low-cost sources of supply, the McKinsey Global Institute’s (MGI) commodity price index fell by almost half during the 20th century when measured in real terms. This was astonishing given that the global population quadrupled in this century and that global economic output expanded roughly 20-fold, resulting in a jump in demand for different resources of anywhere between 600 and 2,000 percent.
The rise in resource prices over the past decade and the scale and pace of economic development sweeping across emerging markets have revived the debate about resources. The market and the innovation it sparks may once again ride to the rescue and will clearly be an important part of the answer. The ability to generate, communicate, share, and access data has been revolutionized by the increasing number of people, devices, and sensors that are now connected by digital networks. These networks can help to transform the productivity of resource systems, creating smarter electricity grids, supporting more intelligent building, and enabling 3D and 4D seismic technology for energy exploration. Digital networks could potentially have an impact on even small-scale farmers in sub-Saharan Africa. Techniques from the aerospace industry are transforming the performance of wind-turbine power generation. Developments in materials science are dramatically improving the performance of batteries, changing the potential for electricity storage, and, over time, will diversify energy choices for the transport sector. Organic chemistry and genetic engineering may help to foster the next green revolution, transforming agricultural productivity, bio-energy provision, and terrestrial carbon sequestration. In short, there is no shortage of resource technology, and higher resource prices are likely to accelerate the pace of innovation.
However, the size of today’s challenge should not be underestimated; nor should the obstacles to diffusing more resource-efficient technologies throughout the global economy. The next 20 years appear likely to be quite different from the resource-related shocks that have periodically erupted in history. Up to three billion new middle-class consumers will emerge in the next 20 years compared with 1.8 billion today, driving up demand for a range of different resources. This soaring demand will occur at a time when finding new sources of supply and extracting them is becoming increasingly challenging and expensive, notwithstanding technological improvement in the main resource sectors. Compounding the challenge are stronger links between resources, which increase the risk that shortages and price changes in one resource can rapidly spread to others. The deterioration in the environment, itself driven by growth in resource consumption, also appears to be increasing the vulnerability of resource supply systems. Food is the most obvious area of vulnerability, but there are others. For example, changes in rainfall patterns and greater water use could have a significant impact on the 17 percent of electricity supplied by hydropower. Finally, concern is growing that a large share of the global population lacks access to basic needs such as energy, water, and food, not least due to the rapid diffusion of technologies such as mobile phones to low-income consumers, which has increased their political voice and demonstrated the potential to provide universal access to basic services.
This research has established that both an increase in the supply of resources and a step change in the productivity of how resources are extracted, converted, and used would be required to head off potential resource constraints over the next 20 years. The good news is that this research has identified sufficient opportunities to expand supply and improve productivity to address the resource challenge. The open question is whether the private sector and governments can implement the steps needed to deliver these opportunities sufficiently quickly to avoid a period of even higher resource prices, increased volatility, and potentially irreversible environmental damage.
Our analysis shows that there are resource productivity improvements available that would meet nearly 30 percent of demand for resources in 2030. Successful implementation of these productivity opportunities could more than offset the expected increase in land demand over the next 20 years in our base case. Their implementation would also address more than 80 percent of expected growth in demand for energy, 60 percent of anticipated growth in demand for water, and one-quarter of expected growth in demand for steel. We estimate the total value to society associated with these productivity improvement opportunities—including the market value of resources saved--to be 2.9 trillion US dollars in 2030, at current prices before accounting for environmental benefits and subsidies. The value of the opportunity would increase to 3.7 trillion US dollars assuming a 30 US dollar per tonne price for carbon as well as the removal of energy, agriculture, and water subsidies, as well as the removal of energy taxes. Just 15 opportunity areas, from improving the energy efficiency of buildings to moving to more efficient irrigation, represent roughly 75 percent of this productivity prize. There is an opportunity to achieve a resource productivity revolution comparable with the progress made on labour productivity during the 20th century. However, capturing these productivity opportunities will not be easy. We estimate that only 20 percent are readily achievable and about 40 percent are difficult to capture, facing many barriers to their implementation. Of course, if resource prices were to increase significantly, market forces would naturally drive greater resource productivity.
Boosting productivity alone would not be enough to meet likely demand requirements over the next 20 years. Supply would also need to grow. In the case of energy, a sizable proportion of the supply increase could come from the rapid development of unconventional gas supplies, such as shale gas. However, growing the supply of other fossil-fuel energy sources is more challenging, and the overall supply of energy would still need to expand by 420 quadrillion British thermal units (QBTU) from 2010 to 2030, almost entirely to replace the decline in existing sources of supply. For example, many of the world’s giant oil fields, especially outside the Middle East, are mature and, absent a major improvement in recovery rates, are likely to experience significant declines over this period.
While increasing supply and resource productivity would meet projected global resource demand, it would likely not be sufficient to prevent further global warming above the two degrees Celsius that may already be inevitable, or to alleviate the resource poverty that affects so many citizens. Further changes in the mix of resource supply sources and additional investment would be required to meet the challenges of climate change and resource poverty. This investment could in itself result in a step change in cost. For example, our research suggests that a much more rapid scaling up of renewable energy technologies could lead to rapid declines in cost. Solar power capacity could become available at around 1 US dollar per watt by 2020, down from more than 8 US dollars per watt in 2007 and 4 US dollars per watt in 2010.
Delivering the required productivity improvements and supply growth required is a very large and complex agenda. Putting it into practice will be far from easy because there are hurdles to all the major opportunities. Overcoming these obstacles would require action at the local, national, regional, and global levels. Tackling the resource agenda must start with new institutional mind-sets and mechanisms that can develop more coordinated approaches to the challenge of resources, reflecting stronger interconnectedness of resource systems. Beyond this shift to a more integrated approach to resource management, policy makers might consider taking action on three broad fronts to address the resource challenge. First, they should look to history, which shows that stronger, sustained price signals are a key driver of improved performance in resource systems.
Governments need to consider unwinding the more than 1 trillion US dollars of subsidies on resources, including energy and water, that today keep prices artificially low, and encourage the inefficient use of these commodities. To address climate change, governments would also need to ensure, through mechanisms such as carbon pricing, that resource prices capture the cost of their impact on the environment.
Second, although getting prices right would go a long way toward addressing the resource challenge, action would also be necessary to ensure that sufficient capital is available and to address market failures associated with property rights, incentive issues, and innovation. Third, public policy can play a useful role in bolstering the long-term resilience of society in the face of the resource challenge, including taking measures to raise awareness about resource-related risks and opportunities, creating appropriate safety nets to mitigate the impact of these risks on the poorest members of society, educating consumers and businesses to adapt their behaviour to the realities of today’s resource-constrained world, and increasing access to modern energy, so improving the economic capacity of the most vulnerable communities.
This new era presents opportunities and risks for business. Companies in most sectors were able to benefit from declining resource prices over the past century. This allowed management to focus attention primarily on capital and labour productivity. But resource-related trends will shape the competitive dynamics of a range of sectors in the two decades ahead. Many companies need to pay greater attention to resource-related issues in their business strategies and adopt a more joined-up approach toward understanding how resources might shape their profits, produce new growth and disruptive innovation opportunities, create new risks to the supply of resources, generate competitive asymmetries, and change the regulatory context.
This article was reproduced with permission from the McKinsey Global Institute, McKinsey Sustainability & Resource Productivity Practice.
By : McKinsey Global Institute