Sunday, September 30, 2007

The Sustainable Economy and Economies of Scale

In much of the discussion on sustainable economy has been focused around energy and carbon. One aspect I find missing from the debate is how the wider shift to sustainable development will effect the fundamentals of economic development that have been the guiding forces since the time of the industrial revolution.

One key economic concept is Economies of Scale. Essentially, building lots of things in one place in order to produce each individual thing cheaper. One of the key determinates of economies of scale is transport costs. The shift to sustainable economy is going to bring in what is currently an externality (carbon) to the equation that determines the economies of scale. As carbon is priced into transport (and to the price of energy) building widgets in massive factory in China (for example) and shipping it to the rest of the world is going to loose economy.

The reduction in the economies of scale will see two major effects. The first is a shift to more factories building the same product as opposed to one big factory shipping to the world. These smaller factories will serve a particular region. The size of the region that the factory supplies will be determined by transport costs. The second shift is that many economies will see a broadening of the manufacturing base. There is likely to be a growth in both the number of jobs in manufacturing and also the diversity of manufacturing operations.

Not only will carbon transport costs effect the location of factories but so will access to low carbon energy. In effect, countries with good internal and regional transport links that are not carbon intensive and have ready access to low carbon energy will greatly benefit from the shift to a sustainable economy. Which leads to the conclusion that China is likely to see its global dominance of manufacturing eroded if it is unable to reduce the carbon intensiveness of is energy and transport. It is China's self interest to reduce the carbon intensiveness of its economy now.