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Energy prices in Europe: (A costly) winter is coming

  • Pent-up demand, tight supply, green policy and bad timing are the recipe for skyrocketing energy prices, which could take three to six months to cool down. Europe is particularly at risk due to low stocks and its high dependence on natural gas. In recent weeks, energy prices and especially natural gas prices have surged sharply, prompting countries to reactivate coal-fired electricity generation. This has caused carbon prices to spike in turn. 
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  • The shock comes from a combination of demand and supply factors. From a demand perspective, the strong global recovery is pushing up demand for electricity and fuels. Moreover, after a quite severe winter 2020/2021 in the Northern hemisphere, inventories of liquefied natural gas (LNG) were left at low levels and now countries are rushing to restock in order to prepare for colder weather. To add to this, China has also decided to implement new environmental regulations that have further raised demand and encouraged firms to stock up on LNG. 
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  • On the supply side, in the US, about 40% of gas supply had been taken out in the aftermath of hurricanes. Although Russia has been fullfiling its contractual obligations on its long-term agreements, it has been keeping a lid on exports because it needs to restock massively for winter before increasing supply to global markets. And global trade remains constrained due to limited shipping and port capacities across the globe. 
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  • Compounding the problem are several adverse events occurring at the same time: 
  • • Some nuclear plants are under maintenance in the UK and Germany.
  • • Europe is seeing lower wind power generation, leaving countries such as the UK or Spain short of several GW of power. 
  • • In Brazil, rivers are at extremely low levels, which is a disaster for hydropower generation. 
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  • Europe is losing the bidding war and late to restocking. Surging natural gas prices are a particularly big challenge for Europe as the region depends heavily on imports. But Asian countries, which lack the EU’s pipeline supplies and are thus desperate to restock, have been winning the bidding war on LNG shipments. China in particular appears willing to stock up on gas “no matter the cost”. Consequently, while many non-EU countries have managed to recover stocks levels close to Q3 2020 or even higher in the case of UK, the EU is still 25pp below full storage capacity. 

Contact

Ano Kuhanathan
Euler Hermes