Energy costs - Europe faces a difficult winter

21st of October 2022
Energy costs - Europe faces a difficult winter

Business owners know all too well about the impacts of soaring energy costs over the past year. But how much longer will those eye-watering bills continue to roll in? Hartley Milner looks at the background to this current situation and seeks some answers.

As a business owner, you need no telling about the impacts of soaring energy costs over the past year. The question that will be nagging away in your head as those eye-watering bills continue to roll in is … how much longer will the craziness last? Hartley Milner seeks some answers.

On any night down the pub, you will likely catch an earful of some wag mouthing off about Putin being to blame for the cost of living crisis hitting them in the pocket. Politicians have been pushing that line since Russian troops first stormed Ukraine on February 20, so it is not surprising the public has picked up on it.

The truth is that while there is no denying the war in Ukraine is an important driver of spiralling living costs – especially the price for energy – it is still only one element in a perfect storm of crises to hit the world’s interdependent economies in recent years.

Some of the biggest impacts have been due to extreme climate events. An unusually cold winter in 2020/21, especially in parts of Asia, saw demand for energy rocket on international wholesale markets, which had an impact on supply and therefore on prices.

Last winter, global oil supplies took a hit from two hurricanes passing through the Gulf of Mexico and damaging refineries, then six months later problems meeting demand for microchips were worsened after a fierce storm closed major factories in Texas.

But the prime cause of unprecedented hikes in energy prices has its roots in the Coronavirus pandemic, according to Dr Roman Sidortsov, senior research fellow in energy justice at the University of Sussex Business School. “When Covid-19 hit, companies curtailed energy production and almost overnight the world didn’t need as much natural gas and oil,” he explained. “And without the capacity to store extra, energy companies had to shut down production, costing huge amounts of money and time.

“Then there was a huge spike in demand when life restarted. Energy suppliers had to reverse the curtailment of production. This was one of the huge reasons for the quick jump in prices. There was suddenly a spike in demand and production had to quickly be reinstated. Energy prices would have jumped regardless of the Russian invasion of Ukraine, but the war exacerbated the situation.”

Surge in demand

Manufacturers and suppliers across many sectors were caught out by the post-pandemic surge in demand, leading to acute shortages of materials such as plastic, concrete, steal and timber. Vital components for cars and electrical goods were also in short supply. And global shipping and air freight companies were overwhelmed, causing sharp rises in the cost of moving goods around the world, which for the most part were passed on to consumers.

What all this lays bare is a lack of energy resilience in the face of threats to supplies and the pressing need to step up the transition to renewable energy, according to Rebeca Grynspan, secretary-general of the UN Conference on Trade and Development. She said: “Renewable energy is often the cheapest and most quick-to-deploy source of electricity for many countries.

"But this is only true if we ensure that supply chains work well and without bottlenecks, that the workforce has the right skills and that enough funds will be made available for the initial investments. To meet these conditions, we have to scale up financing and technology transfer for developing countries and the energy poor of the world.”

Reliant on Russian imports

Meanwhile Putin’s war continues to wreak havoc, particularly in Europe, which has made itself heavily reliant on energy imports from Russia and is now struggling to break free from his merciless grip. Moscow supplies 40 per cent of the European Union’s gas and 27 per cent of its imported crude oil. In June, the EU announced a €210 billion (£177.62 billion) package to end its dependency on Russian fossil fuels by 2027 and speed up the transition to green energy.

EU leaders agreed to halt 90 per cent of Russian oil imports by the end of this year, allowing exemptions for Hungary and two other landlocked central European states for the pipeline imports they rely on. Plus they reached agreement on “trying to” reduce demand for Russian gas by two-thirds to the same timeline. An embargo on Russian coal came into force in August.

Towards these aims and to boost energy security, the European Commission announced in the spring that it was ramping up targets for transitioning to alternative fuels. It now says 45 per cent of the EU’s energy mix should come from renewables by 2030, against 40 per cent suggested less than a year earlier. Officials also want to cut energy consumption by 13 per cent by 2030 (compared with 2020), revising up a previous proposal for a nine per cent saving.

However, until all these measures take effect, Europe remains at the whim of the Russian leader, who has begun cutting gas supplies to the continent, triggering fears of acute energy shortages over the coming winter months … and still higher prices.

So must we wait for an end to the Ukraine conflict for sanity to return to the markets? Most observers agree that peace, or a sustained ceasefire, will likely cause energy prices to cool and inflation to moderate, but then after the initial euphoria wears off people will discover countless other structural inflationary forces remain to push up living costs.

And anyway, NATO secretary-general Jens Stoltenberg told German daily newspaper Bild recently: “We must be prepared for this to last for years. We must not weaken in our support of Ukraine, even if the costs are high.”

Fatih Birol, executive director of the International Energy Agency, warned: “This winter in Europe will be very, very difficult and this may have implications for the global economy. The world has never witnessed such a major energy crisis in terms of its depth and complexity.” And he added, ominously: “We might not have seen the worst of it yet.”

A no less pessimistic view has come from the energy sector itself. Dietmar Siersdorfer, managing director of Siemens Energy Middle East, said: “I believe that we will see for some time that this [energy crisis] is staying. I don’t see at the moment an easy fix that we say ‘if we do this now, then tomorrow everything is back to normal’. I don’t see that this is happening, because of the crisis we see with Russia.

"I don’t think that Moscow will walk away, and even if the war stops tomorrow, to build trust again, to re-fix that what we had before, it will take quite some time. At the moment, I see more increasing pressure than decreasing pressure. So we have to learn to live with this change that we have just seen a few months back.”

However, the EU is looking for new fuel markets and has signed agreements to import more liquefied natural gas. Electricity exchange between countries in the region and beyond will likely to also become an increasingly important source of power for Europe, according to Siersdorfer. But he stressed: “In the meantime, investments will need to continue into the hydrocarbons sector to support rising demand and address inflationary pressures in the market.”

No end in sight

The UK has committed to end imports of Russian oil (nine per cent of its needs) and coal (27 per cent) by the end of the year and gas imports (four per cent) “as soon as possible thereafter”. While less reliant on Russian energy than many other European countries, it is still exposed to disruptions in energy markets. Economists say the UK’s annual inflation rate could hit 15 per cent by the start of 2023, meaning a typical household is now likely to pay the equivalent of £4,266 a year for the three months to March 2023.

And energy bills for businesses are rising proportionately higher than for families under the UK government’s default tariff cap (price cap), according to research firm Cornwall Insight. Those that negotiated two-year fixed price contracts in summer 2020 are facing a fivefold rise this October, with others on annual deals due to pay twice as much as they did this year.

“Logic dictates there can only be so long that so many businesses can pay so much more for their energy without knock-on consequences for themselves, their suppliers and the wider economy,” said head of relationship development Robert Buckley. “And if we at Cornwall Insight are correct, there will be no return to 2020-21 wholesale prices before 2030. Despite this, in contrast to households, there has been strikingly little said about the affordability of business energy bills. We must think much harder about what this energy crisis is doing to business.”

So, it seems there is no more satisfactory answer to the question “how much longer will the craziness last?” than there is to the riddle of how long is a piece of string? And the best answer I can find to that is … “twice as long as half its length.” Sorry!


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