Impacting Policy: Analysing the energy consumption economic growth link

In today’s world, sustainability is high on the political agenda. Governments are taking up the global fight against climate change by working out ways of cutting carbon emissions and making the world a greener, more environmentally friendly place to live.

In doing so, they also have to make sure their economies are in good shape – and therein lies the crux of the problem. Does the amount of energy we use have any effect on economic growth, or does a booming economy mean we’re consuming vast quantities of energy? Is there even a link between the two?

That’s the key question explored in new research by Atanu Ghoshray, Yurena Mendoza, Mercedes Monfort and Javier Ordonez which examines the relationship between economic growth and energy consumption. The findings have implications for policymakers who want to strike a balance between creating a vibrant economy and reducing the carbon footprint of individuals and businesses.

Professor Atanu Ghoshray of Newcastle University Business School says: “It has been argued that economic growth may exhaust resources and cause environmental degradation, compromising future growth. The fear that today’s growth can cause other significant economic problems, especially for future generations, has propelled sustainable growth to the top of the political agenda for the vast majority of developed countries.

“The energy consumption-economic growth relationship has important policy implications. If increased consumption causes growth, sustainability can only be achieved by ensuring access to a cheap, safe, environmentally friendly energy supply. Alternatively, if economic growth causes increased energy demand, the challenge is to reduce energy demand through market-oriented policies and regulation.”

The authors of the study measured the dynamic relationship between consumption and growth in the US using a nonlinear econometric model found to be appropriate given the underlying nature of the data. The model was applied to data from 1949 to 2014 and the analysis covered a range of variables including public spending and the oil price, as well as economic growth and energy consumption.

The results indicate that the amount of energy consumed has a direct impact on economic growth. This stands in stark contrast to a linear model which suggests that there is no causal link from one to the other.

Professor Ghoshray says: “The conclusions from our study show the reliance of economic growth in the USA on energy consumption. The results imply that in this country, restrictions on consumption may adversely affect growth, while increases in consumption are likely to contribute to growth. Every government in the world will want to implement policies that stimulate the economy because this will create wealth and jobs, but if energy consumption has to be increased to achieve this, it will have an adverse effect on the environment. A rise in consumption may be necessary to increase production at a manufacturing firm, for example.

“In this scenario, the challenge for policymakers is not to reduce energy consumption, as this could reduce economic growth, but instead to incentivise organisations to use more energy from renewable sources. Using electricity derived from wind and solar farms, for example, is much more environmentally friendly than using fossil fuels. This is a far better strategy than raising taxes on energy or adopting other policies that lead to a reduction in energy use, as this is likely to result in lower production rates and have a negative effect on the economy.

“Based on the historical data that we analyse in our study, we do see the USA’s dependence on fossil fuels for economic growth. It therefore becomes more difficult to implement energy-reducing policies. This is going to be a challenge for any country that relies on oil to generate growth, although it does not necessarily have to imply that countries are forced to depend on fossil fuels. Alternative, cleaner forms of energy can be utilised instead.

“The conclusions of our study provide some interesting insights for policymakers, although more research is needed to convince governments to change their macro-economic and energy policies.

It has been argued that economic growth may exhaust resources and cause environmental degradation, compromising future growth."

Professor Atanu Ghoshray

Professor of Economics