From moves by China and Russia to changes in UK regulation, these are the factors that created the perfect storm
The UK’s energy system has been plunged into chaos by a perfect storm of market forces which threatens to rip through the economy from home energy suppliers to heavy industry, and from factories to farmers.
This has stoked fears that a wave of energy suppliers will collapse, and that households will be saddled with unaffordable bills. As the colder weather draws in, these are the factors shaping the energy crisis.
China’s post-Covid bounce back
China’s appetite for energy is always a key driver of global market prices. In 2021 its post-Covid economic ramp-up has coincided with an uptick in demand across Asia and Europe too.
As economies begin to recover from the fallout of the pandemic, countries across the northern hemisphere, which experienced a long, cold winter in 2020-21 that depleted gas storage levels, have been left scrabbling to secure supplies.
Gas prices in the UK have more than quadrupled over the last year to highs of 180 pence per therm, from around 40p/th this time last year. In the last month alone, prices have climbed by 70%.
Market experts at S&P Global Platts said earlier this year that China’s demand for gas was likely to rise to 360 billion cubic metres (Bcm) this year, up 8.4% from an estimated 332 Bcm in 2020. To satisfy its record demand for gas, China’s imports of gas via super-chilled tankers was expected to surge by almost a fifth, meaning fewer shipments travelling to Europe from countries such as Qatar.
Russian gas games
As shipments of gas have turned from Europe towards China, flows of pipeline gas to Europe from Russia have failed to make up the shortfall.
On Monday gas prices across Europe surged by another 10% after Russia’s state-backed gas company, Gazprom, refused to increase its exports to Europe – despite record-high prices across the continent.
The company has met its contractual obligations for gas delivery over recent months but Gazprom has come under fierce criticism for appearing to send little extra to help meet the enormous demand in Europe.
EU lawmakers have called on the European Commission to investigate whether the company’s behaviour has been designed to keep market prices high, and put pressure on regulators to approve of its controversial plans to build the Nord Stream 2 pipeline, a major gas line which would double its capacity to send gas to Germany via the Baltic Sea.
Nord Stream 2 has faced US sanctions and provoked concern that the EU would increase its reliance on energy imports from Russia.
The global gas crunch is particularly bad news for the UK. Around half of the UK’s electricity is generated by burning fossil fuel in gas-fired power plants, a trend which has become more deeply entrenched over recent months after a string of problems in the UK electricity system.
Ageing nuclear power plants have been forced to undertake unplanned outages for maintenance, a main power cable used to import electricity from France has shut down after a fire, and the UK’s wind turbines have slowed during some of the least windy months since 1961.
The UK also relies heavily on gas for home heating and cooking. Yet despite the obvious reliance on fossil fuels for electricity, homes and in heavy industry, the UK has some of the lowest amounts of gas storage capabilities in Europe, leaving the market uniquely exposed to the supply crunch. Less than 1% of Europe’s stored gas is held by the UK.
Britain has been forced to temporarily fire up coal power stations, paying millions of pounds to the likes of Drax in North Yorkshire, to plug some of this power shortfall.
That fragile system faces further challenges in the years ahead, with most of the UK’s nuclear power plants, which supply up to 20% of electricity, to close by the end of the decade. Just one new nuclear power station, Hinkley Point C in Somerset, is being built to replace them.
Uncapped entry to a capped energy market
The UK can expect scores of suppliers to fold over the coming winter, leaving millions forced to switch to a new, more expensive supplier, as the government’s policy of tough regulation on prices collides with loose rules on which companies can join the market.
The energy price cap sets out a maximum level for default energy tariffs twice a year based on the cost of supplying energy. It is to rise by more than 12% from 1 October and is likely to rise again next April. But the hikes will not come fast enough for dozens of small energy suppliers which don’t have deep enough pockets to survive the wait until the next cap increase.
Many small suppliers joined the market after the regulator dropped the barriers to entry for the energy supply market in 2014 to make it easier for entrepreneurs to set up an energy company without strong links to big banks and investors. It was designed to increase competition for the legacy Big Six suppliers, and caused the market to swell from less than a dozen to about 70 at the beginning of the year.
The regulator has already backtracked on the scheme, setting tougher financial stress tests for companies which hope to become energy suppliers. But the energy crisis may rewind seven years of loose regulation over six months, which some fear may leave only 10 suppliers standing by spring.
Fossil-fuel heavy industry
The impact of the energy crisis will not be contained to rising energy bills and struggling suppliers. Large steelmakers, chemical factories and manufacturers are all vulnerable to the impact of energy costs and are already feeling the financial pain of the energy price shock.
The steel industry association UK Steel has warned that steelmakers are already halting work during the hours of peak power demand to avoid record high prices. The soaring cost of gas has caused two fertiliser companies in Teesside and Cheshire to shut for the winter, and another in Hull to reduce production by 40%.
This has knock-on effects for farming, meat production and the food and drinks industry. One of the byproducts of fertiliser factories is carbon dioxide which is used to make fizzy drinks and dry ice to keep food cold during transport. It is also used in abattoirs to stun animals before slaughter.
The government faces rising calls to tackle the problem of unaffordable energy before it erodes the UK’s post-Covid economic recovery. The UK may not run out of gas, but running out of affordable gas would be problematic too.
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