Alchemy

Part I · The Hidden Variable

I.A — The Ledger and the Law

11 min read · 2,098 words

You cannot permanently pit an absurd human convention, such as the spontaneous increment of debt, against the natural law of the spontaneous decrement of wealth.

— Frederick Soddy, Wealth, Virtual Wealth and Debt (1926)

Frederick Soddy arrived at money from the wrong direction, which is to say the right one. He was trained to think in balances and transformations, in processes where something is conserved while something else degrades, and where irreversibility is not a metaphor but an accounting identity. In 1921 he received the Nobel Prize in Chemistry for work on radioactive substances and isotopes, and the mental habits of that work stayed with him when he turned, afterward, to banking and credit.1 He read monetary systems the way a physicist reads a machine: by asking what must be paid, what must be maintained, and which constraints cannot be negotiated away.

The economic writings that followed were treated as an eccentric detour. His suspicion of compound interest, his discomfort with fractional-reserve banking, his preference for tighter monetary anchoring—these invited dismissal as crankish purity, especially from economists whose professional instinct was to treat institutional design as flexible and scarcity as largely a matter of preferences and prices.2 The durable part of his intervention is not a reform program but a category distinction that financial sophistication does not dissolve: wealth is a physical state of affairs; debt is a numerical relation. Systems get into trouble when they behave as if the two belong to the same species of thing.

The Physics of Wealth

Wealth, in Soddy’s usage, is not primarily an entry in a ledger or a number in a national account. It is the stock of usable arrangements that sustain life and extend capability: food that has not spoiled, shelter that keeps weather out, machines that still work on Monday, fuel that can be burned, infrastructure that conducts power, logistics that deliver parts, institutions that enforce routine promises.1

All of this degrades unless it is maintained. Food rots, buildings weather, metal corrodes, bearings wear, and energy used for work disperses as heat and does not return in the same usable form.3 The Second Law does not arrive as philosophy; it arrives as the continuous maintenance bill for keeping order from sliding back toward disorder.

Debt behaves differently because it is not made of perishable goods. A claim on future payment can be written and rewritten without any corresponding change in the material world. Under compound interest it can expand by rule at a pace set by contracts and custom; the physical substrate does not automatically veto the arithmetic.1 The paper can remain the same; the warehouse can remain the same; the number can grow. This difference—between objects that decay and claims that do not—sounds almost banal when stated plainly. It becomes nontrivial the moment a society builds large systems of interlocking promises expected to clear against future production.

The Divergence Problem

The trouble begins when claims on wealth grow faster than the wealth that must eventually honor them. Physical stocks grow, if they grow at all, within bounds set by throughput: the rate at which fields can yield, machines can be built, power can be generated and distributed, mines can be operated, labor can be trained, inventories can be replenished, and complex systems can be coordinated without breaking.4

Debt claims grow at whatever rate borrowers and lenders accept. Modern institutions make it easy for those claims to be created, layered, sold, and rehypothecated at scale.5 Two series governed by different constraints do not remain aligned indefinitely. The divergence is not a scandal; it is a predictable mechanical outcome of the rules chosen for claims and the laws not chosen for matter.

That divergence can persist longer than common sense expects because modern finance validates claims by trading claims against claims. A bond is valuable because it can be sold for cash; cash is valuable because it can be exchanged for goods; the goods need not be present at the moment the bond is traded.6 The promise is enough—until the end of the chain is tested by a scarcity that is not itself financial: an energy shock, a supply interruption, a productivity shortfall, a collapse in coordination, or any other event that forces the question of convertibility.

When that test arrives, reconciliation is unavoidable, though its form is optional. Defaults, inflations, restructurings, and repressions are different costumes for the same act of re-anchoring claims to capacity.7

The Clearance Event

What does reconciliation actually look like when the ledger finally meets the law?

Weimar Germany in 1923 offers the starkest modern example. The imperial government had financed the war largely through debt, expecting victory reparations that never arrived. After defeat, reparations flowed the other way: gold-denominated obligations that could not be met from a production base already strained by territorial losses and occupation of the Ruhr coalfields—the industrial heartland where coal was mined, steel was forged, and the physical capacity to pay resided.

The central bank printed marks to buy the foreign exchange needed for reparations; the marks flooded domestic circulation; prices doubled, then doubled again, then doubled weekly.8 By November 1923, a loaf of bread cost 200 billion marks. Bakers had not become wealthier. Workers pushing wheelbarrows of banknotes had not gained purchasing power. The claims had been stretched so far beyond the underlying productive capacity that the only exit was to extinguish the currency altogether.

The re-anchoring came through the Rentenmark: a new unit backed, at least symbolically, by a mortgage on German land and industrial assets—a claim on physical capacity rather than on an infinite regression of paper promises. The episode is often told as a story about monetary mismanagement, and there was plenty. But beneath the policy failures lay a simpler structural fact: claims on future German output had grown so far beyond what German output could deliver that the ledger had to be zeroed and restarted.

This was the law of decay and throughput reasserting itself in the language of wheelbarrows, loaves, and eventually a new currency backed not by promises but by the soil and smokestacks of a diminished industrial base. Every clearance event speaks that language eventually. The question is only how long the divergence is permitted to run, and how costly the reconciliation becomes.

The Marginalist Shift

Soddy’s critique has an older lineage. The physiocrats privileged agriculture because it visibly converted solar energy into storable surplus; later classical political economy retained a respect for production—land, labor, tools—even as theories of value became more abstract.9 The decisive shift came with the marginalist revolution: value became legible primarily in prices and utility, and production functions were written in terms of abstract inputs—capital, labor, and a residual named “technology”—with little insistence on what those inputs physically were or what constraints they obeyed.10

The framework explained allocation inside a price system remarkably well. But it trained attention on the monetary envelope and away from the biophysical substrate that the envelope was meant to represent. Standard models assign energy an output elasticity of roughly 0.03 based on its cost share. Empirical work by Ayres, Warr, and Kümmel suggests the figure may be an order of magnitude higher—on the order of 0.2 to 0.3—when measured by output elasticity rather than factor payments.411 The discrepancy matters: it implies that energy conversion efficiency is doing far more explanatory work in growth than its price tag suggests, and that burying it in a residual labeled “technology” obscures the physical engine of the process.12

The Open System

The economy is not a closed loop.

Standard theory treats production as a circular flow—income becomes expenditure becomes income, and the diagram closes neatly. The abstraction is elegant, but left unqualified, dangerous.3 Nicholas Georgescu-Roegen, trained in statistical mechanics before he came to economics, saw the omission clearly: the textbook diagram shows money and goods circulating between households and firms as if the whole arrangement were self-sustaining. It omits both ends of the actual process.

At one end: mine mouths, wellheads, photosynthetic capture—low-entropy energy and concentrated materials drawn from sources that took geological time to accumulate. At the other end: smokestacks, exhaust pipes, landfills, warm water discharge—high-entropy waste returned to a biosphere that can absorb only so much before the sinks fill. Between those endpoints runs a one-way transformation of order into disorder: the same transformation that powers every engine and sets the maintenance bill for every machine.

Mainstream economics acknowledged this at the margins without integrating it at the core.13 Some of the reasons are sociological, some methodological, and some simply the historical luck of an era when energy throughput rose cheaply enough that constraints looked soft rather than binding. The consequence was a professional culture able to model prices, rates, and portfolios with great sophistication while remaining imprecise about the physical basis of the wealth those prices were supposed to measure.

“Productivity” was computed entirely inside the monetary envelope: output measured in value terms over inputs measured in cost terms, with the discussion staying inside numbers that can rise even when the underlying physical system is strained.14

Virtual Wealth

Once the unit of account becomes institutionally elastic, this asymmetry is not a minor technical quirk. If monetary aggregates can be expanded by central banks, by commercial lending, and by financial innovation, then measured “wealth” can grow without any corresponding increase in the physical goods and energy services that wealth denotes.1 The divergence persists because financial claims are exchangeable for other claims, and because the system often settles transactions by netting promises against promises rather than by demanding immediate delivery of goods.

The gap is real even when no one is cheating. It is a property of a claims system that compounds faster than the substrate can expand.

Soddy called this gap “virtual wealth”—the portion of recorded claims that exceeds what the physical world can deliver.1 The phrase remains useful because it describes structure rather than scandal. In earlier economies the correspondence between ledger and barn was enforced by tangibility: a bushel was a bushel; a herd was a herd; a granary could be opened and inspected. Modern finance lengthens the chain between entry and thing.

A mortgage-backed security is a claim on loan cash flows; the loans are claims on household income; income depends on employment; employment depends on productive capacity; productive capacity depends, ultimately, on energy and materials and functioning coordination.15 Each link can be priced, traded, and levered even when the physical endpoint is delayed, uncertain, and constrained by throughput. The longer the chain, the more fragile the correspondence—not as a moral judgment, but as a matter of system design.

None of this is an argument against credit. Credit is one of the most powerful coordination technologies ever invented; it funds durable capital, smooths time, spreads risk, and enables scale. The point is narrower and harder: a claims system is stable only insofar as the real economy can deliver the resources implied by its promises. When promises drift far enough ahead, the correction arrives as a clearance event—through some combination of write-downs, inflation, and institutional reorganization.

The ledger-and-law distinction opens onto a different kind of economic history. Once growth is treated not merely as a monetary statistic but as a story about throughput—energy captured, converted, and directed into useful work; materials transformed; infrastructures maintained; coordination extended—patterns that otherwise look like financial mood swings start to appear as periodic re-anchoring of claims to capacity.

The chapters that follow will trace energy conversion as an explanatory variable often treated as background but doing a great deal of work, both historically and now. To see it clearly, the categories must be clean. Otherwise we will keep mistaking the expansion of claims for the creation of wealth—and we will keep discovering, as Soddy warned, that you cannot permanently pit an absurd human convention against a natural law.