**2. The debate on economic growth within a context of energy paradigm change**

All economic growth has a unique framework and, as such, it must be considered as a result of a whole. As far as the relationship between primary energy sources and economic growth is concerned, the literature assesses four main hypotheses. First, when there is a unidirectional causality running from energy to economic growth, we are in the presence of the growth hypothesis. This implies that economic growth requires energy, and as a consequence, a fall in primary energy consumption is likely to hamper economic growth. Second, once a unidirectional causality running from economic growth to energy is established, then the conservation hypothesis is verified. This means that economic growth is not totally dependent on energy consumption and therefore few or negligible effects on economic growth are expected from energy conservation policies. Third, the bidirectional causality between energy and economic growth is known as the feedback hypothesis. In other words, the rise in primary energy demand provokes economic growth and vice versa. Finally, the neutrality hypothesis sustains that policies on energy consumption have no consequences on economic growth, due to the neutral effect with respect to each other.

Indeed, economic growth could be influenced by several factors that ultimately determine its performance. The energy it uses as input, the energy dependence in relation to the outside and the volatility of its own process of evolution are driving forces in this economic growth path. Energy is traditionally identified as a key driver of economic growth but, in fact, it is unlikely that all sources of energy produce the same impact. Their different characteristics, such as the cost /benefits balance, environmental consequences, state of maturation of the technology and even their scale of production can determine the effect of each of these sources in the dynamics of the economic growth process.

#### **2.1 Energy sources, external dependency and economic growth**

The literature focusing on the relationship between energy consumption and economic growth is vast and diverse. Some studies focus on the reality of particular countries (Lee & Chang, 2007; and Wolde-Rufael, 2009), while others centre on groups of countries (Akinlo, 2008; and Chiou-Wei *et al*., 2008). Most of them are engaged in the study of the direction of causality, both in the short and long run. The recent papers of Odhiambo (2010), Ozturk (2010), and Payne (2010) are good surveys. The empirical literature on causality between RE and economic growth has achieved mixed results. For twenty OECD countries, Apergis & Payne (2010) estimated a panel vector error correction model, and found bidirectional causality between RE and economic growth, both in the short and long run. A bidirectional causality between RE and economic growth was also detected by Apergis *et al*. (2010), for a group of 19 developed and developing countries. For the US, Menyah & Wolde-Rufael (2010) found only a unidirectional causality running from GDP to RE. Conversely, when it comes to analysing the relationship between RE and economic growth, the empirical literature is thin. Menegaki (2011) is one of the exceptions, studying the situation in Europe. Indeed, focused on 27 EU Members, using panel error correction, the author did not confirm the presence of Granger causality running from RE to economic growth, either in the short or long run. These results lead the author to conclude that the consumption of RE makes a minor contribution to GDP. In fact, it seems that the nature of the relationship between RE and economic growth still has a long way to go before consensus is achieved.

The literature on the empirical link between restraining emissions of carbon dioxide (CO2) and economic growth has shown some unexpected results. Menyah & Wolde-Rufael (2010) only found unidirectional causality running from CO2 to RE. In the same way, Apergis *et al*. (2010) conclude that the consumption of RE does not contribute to reducing CO2 emissions. Their explanation is grounded in the well-known problem of storing energy, as well as the intermittency characteristic of renewables. The failure to store energy, for example from wind or solar sources, requires the simultaneous use of established sources of energy, such as natural gas or even the highly polluting coal. This scenario leads to two effects on the installed capacity and on energy dependency. On the one hand, it implies the maintenance and even the enlargement of productive capacity that becomes idle for long periods, which generates economic inefficiencies. On the other hand, the intermittency may not even contribute to the reduction of a country's energy dependence goal, such as documented by Frondel *et al*. (2010).

The root of the lack of consensus in literature, with regard to the relationship between RE and economic growth, could come from different theoretical and practical perspectives. On the one hand, it is admissible that the effect of RE on economic growth could vary largely according to both the geographical area and the time span analysed. On the other hand, there could be a variable omission bias problem. In fact, the research may be disregarding the importance of other variables, such as the simultaneous consumption of oil, coal, nuclear or natural gas. These variable omissions could lead to wrong conclusions on causality between each energy source and economic growth, when analysed separately. The cost of this is that inconsistent and erroneous results may be achieved.

Under the well-known premise that energy plays a crucial role in the economic growth process, the question that arises is what will the particular role of renewable sources of energy be on economic growth? To find the answer to this question, as stated before, possible bias resulting from the omission of variables must be avoided, and it is necessary to assess the simultaneous explanatory power of the main sources of energy driving economic growth.

#### **2.2 Volatility and economic growth**

The problem of GDP growth analysis has a long path in economic literature. The mainstream does not sustain any relationship between economic growth and its volatility. Nevertheless, the relationship between economic growth volatility and the trend in growth has been the object of increasing attention in literature. Indeed, macroeconomists have long focused on business cycles and economic growth. The material progress of humankind is a central issue. As an economic problem, however, it has been a very complex matter. Although the core literature does not advance any reason for volatility exerting a specific effect on economic growth, this statement is not true for all authors. Some authors advance that volatility might have a reducing effect on economic growth, while others suggest that a positive effect may be observed on economic growth. In short, the literature indicates that the relationship between volatility and economic growth may be: 1) independent – the mainstream; 2) negative - e.g. Bernanke (1983), Pindyck (1991), Ramey & Ramey (1995), Miller (1996), Martin & Rogers (1997 and 2000), and Kneller & Young (2001); or 3) positive e.g. Mirman (1971), Kormendi & Meguire (1985), Black (1987), Grier & Tullock (1989), Bean (1990), Saint-Paul (1993), Blackburn, (1999), and Fountas & Karanasos (2006). A good survey on this relationship was undertaken by Fang & Miller (2008).

Several explanations have been advanced to support this controversial link. The negative relationship could come from several paths. Volatility limits investment, which limits demand and therefore constrains economic growth (Bernanke, 1983; and Pindyck, 1991). At the same time, volatility can be harmful to human capital accumulation, which diminishes economic growth (Martin & Rogers, 1997).

A positive association between economic growth and volatility could result from diversified sources. The volatility of economic growth generates high precautionary savings (Mirman, 1971). Further specialisation tends to coexist with further economic growth volatility, as highly specialised technologies only generate investment if their expected returns are high enough to compensate for the risk (Black, 1987). This latter assumption suggests that bursts in volatility tend to be related to high economic growth. The cost of opportunity related to productivity-improving processes tends to drop in recessions resulting in a positive relationship between economic growth volatility and economic growth (Bean, 1990; and Saint-Paul, 1993). Labour market institutions, the technology of production, and the source of shocks are characteristics that increase the pace of knowledge accumulation, lowering economic growth (Blackburn, 1999; and Blackburn & Pelloni, 2004). Higher economic growth leads to higher inflation, in the short run, according to the Phillips curve approach (Fountas & Karanasos, 2006).

The explanations for economic growth volatility point out that on the one hand, monetary shocks generate economic growth fluctuations around its natural rate that reflect price misperceptions. On the other hand, technology and other real factors influence the long-run economic growth rate of potential economic growth. These two approaches consubstantiate the misperception theory of Friedman (1968), Phelps (1968), and Lucas (1972). The expectations about economic growth volatility could exert an impact on economic growth (Rafferty, 2005). In sum, the mix of results strongly suggests that theoretical and empirical developments are required to establish the nexus between economic growth and volatility growth.
