A year on from the energy crisis, where does Europe stand?

18 September 2023

Just over a year ago Europe was on the verge of a looming energy crisis. Natural gas prices had spiked at more than 15 times the levels seen before the invasion of Ukraine. The risk of power cuts and recession were all too real.

In the event Europe avoided major gas shortages and the damage caused by the decoupling from Russian gas was less than feared. This was a remarkable feat, achieved through reduced gas demand and sourcing alternative energy supplies, particularly liquified natural gas (LNG).

Although Europe is in a stronger position than a year ago, major gas shortages remain a possibility over the winter. The three biggest risks are from severe weather, shifts in global LNG supply and demand, and Russia closing off remaining supplies of gas to Europe.

Temperatures are a significant driver of natural gas demand with, for instance, a 1°C fall in daily temperature estimated to result in a 3%-4% increase in UK gas demand. Last year’s unseasonably warm autumn and winter helped to reduce energy consumption. Futures markets are pricing a roughly 50% increase in gas prices by December as demand rises during the colder months, though this would still be roughly half the level seen last winter. Severe weather, or disruption to LNG supply, could push prices much higher.

In the last 18 months Europe has largely replaced Russian pipeline gas with more expensive LNG. Unlike pipeline gas, LNG is traded globally and its price is subject to shifts in world supply and demand. European gas prices have jumped in recent weeks on concerns that a pay dispute in an Australian LNG plant may disrupt supply. Australia typically serves the Asian market, but traders are concerned that disruption to Australian supply would increase Asian demand for gas that would otherwise go to Europe.

China is the obvious source of marginal demand for gas, accounting for more than one-fifth of global LNG imports in 2021. The lingering effects of China’s COVID lockdown dampened Chinese energy demand last year and helped European countries to build up winter gas stocks. This year China’s lacklustre recovery and muted demand in other Asian markets have continued to suppress global demand for LNG.

On the supply side Russia could yet turn off its remaining supply of gas to Europe. Russian supply has fallen from about 40% of all European gas imports to 10% since the invasion of Ukraine. Cutting off these supplies would reduce Russian state revenues but would also be disruptive for Europe.

The message is, whatever the source, even moderate disruption to supply or demand could cause large swings in the LNG price.

Europe is in a stronger position than it was a year ago, having switched away from Russian gas, added wind and solar capacity, increased energy efficiency, reduced energy consumption and rebuilt gas storage levels. The EU has also extended last year’s target of a 15% reduction in natural gas usage for 12 months. It is a measure of its success that European gas storage capacity is currently about 94% full, far above the 80% seen this time last year.

On balance Europe seems likely to get through winter without major disruption to energy supply.

Leaving aside such risks, there is still the problem of elevated energy prices. Gas prices have fallen but are still way above what were regarded as normal levels before the pandemic. The Brent crude oil price has risen by more than 25% over the summer on resilient demand and the announcement of prolonged production cuts by Saudi Arabia and Russia. Higher gasoline prices have led to an unexpectedly strong pickup in America’s inflation rate in August.

Elevated energy prices seem likely to be here to stay. That will dampen growth in consuming nations – and will help drive the shift to renewables. Last week, Fatih Birol, the head of the International Energy Agency (IEA), heralded “the beginning of the end” of the fossil fuel era with a forecast that demand for oil, natural gas and coal will peak before 2030. The IEA says that Europe’s energy crisis, along with new technologies and China’s shift away from energy-intensive industries, are behind the new forecast. This is the silver lining in Europe’s energy crisis.

For the latest charts and data on health and economics, visit our Economics Monitor:
https://www2.deloitte.com/uk/en/pages/finance/articles/covid-19-economics-monitor.html

OUR REVIEW OF LAST WEEK’S NEWS
The UK FTSE 100 equity index closed the week up 3.1% at 7,711. UK equities gained ground last week on expectations that the Bank of England and the European Central Bank are near the end of their hiking cycles.

Economics

The European Central Bank raised interest rates by 25bp to 4%, the highest ever level
The Federal Reserve will meet for its rate-setting meeting on Wednesday and is widely expected to keep rates on hold. On Thursday the Bank of England is expected to raise rates by 25bp to 5.5%
The UK economy contracted by a greater-than-expected 0.5% in July, as consumption and production were hit by the wet weather and strikes
UK wage growth remained at 7.8% in the three months to July, the fastest pace since records began. But in a sign that the labour market is cooling the unemployment rate rose to 4.3% in the same period
The Office for National Statistics found that “the pass-through of wage rises” could explain the bulk of inflation in the services industries since 2019
The Bank of England MPC member Catherine Mann said that she would “err on the side of over-tightening” to avoid inflation becoming more embedded
The total value of mortgage arrears in the UK rose in Q2 this year to the highest level in seven years
US inflation rose above expectations to 3.7% in August due to higher petrol prices. However, core inflation fell to 4.3%
Crude oil prices hit $90 a barrel for the first time in 12 months as the impact of tighter supply and low US strategic oil reserves feed through to the market
Goldman Sachs’s CEO David Solomon said that the chances of a soft landing in the US are now “materially higher” compared to a year ago, but inflation may prove stickier than anticipated
Child poverty in the US more than doubled in 2022 to 12.4% due to the increase in the cost of living and the expiration of pandemic-era support
Wage growth in the euro area stabilised at 4.5% in the three months to June
Industrial production in the euro area fell more than expected in July, increasing the chances of a recession in the region
Russia’s central bank raised interest rates by 100bp to 13% to halt the devaluation of the rouble and curb its rising inflation
In a reversal of a recent trend of weak data Chinese retail sales and industrial production grew more than expected in August
The UK manufacturing sector has overtaken France to reach eighth place in the global manufacturing rankings, according to industry body Make UK

Business

German carmaker BMW announced a £600m investment to build two new electric Mini models in Oxford, after securing a £75m government support package
The FT reported that new SEC regulations are likely to increase compliance and legal costs for US private equity, venture capital and hedge funds by over $2bn
Assets in the world’s 300 biggest pension funds declined for the first time in five years as “inflation and higher interest rates disrupted equity and bond markets worldwide”, according to WTW’s Thinking Ahead Institute
TotalEnergies announced that it would extend the current petrol price cap at pumps to next year, following pressure from France’s finance minister Bruno Le Maire
French supermarket Carrefour has put stickers on shelves warning shoppers of ‘shrinkflation’ on products with smaller contents but unchanged or rising prices. Carrefour said it wanted to put pressure on food producers to keep prices down
Citigroup announced plans for the biggest reorganisation of its activities in 15 years, entailing significant job cuts
Apple unveiled four new iPhone models and two updated watches. Prices for the new iPhone 15 Pro Max will start at $1,199
The UK government unveiled plans to invest more than £500m to salvage Britain’s biggest steelworks at Port Talbot in Wales
European Commission president Ursula von der Leyen confirmed that Brussels will investigate Chinese state subsidies for electric vehicles that are “distorting” the EU market
Price cuts and higher wage bills pushed the UK arm of supermarket Lidl into a £75.9m loss in the 12 months to March
UK pub chain Stonegate, owner of the Slug and Lettuce brand, announced plans to raise beer prices by about 20p more per pint during peak hours due to cost increases
James Timpson, CEO of UK high street repair chain Timpson, wrote in The Daily Telegraph that the rents paid by his company had fallen by 32% over the last six months

Global and political developments

A catastrophic flood hit the Libyan city of Derna, killing at least 11,300 people after the collapse of two dams, with casualties expected to reach 20,000
North Korean leader Kim Jong Un offered his full support to Russia’s Vladimir Putin in the “sacred fight” against the West
US regulators approved new COVID-19 boosters from Moderna and Pfizer, after a sharp rise in new cases in the last month
The UK Labour Party announced that it would “strengthen and increase statutory sick pay” by removing the lower earnings limit and removing the waiting period
Pat McFadden, Labour’s shadow Cabinet Office minister and election co-ordinator, refused to commit a future Labour government to building the northern section of the HS2 railway line to Manchester just days after ministers voiced similar uncertainties
England’s environmental watchdog found that the government and regulators may have failed to monitor and enforce water companies’ handling of sewage spills
Republicans in the US House of Representatives launched an impeachment inquiry into US president Joe Biden’s family business dealings

And finally… a luxury hotel in Pulford, Cheshire, fell victim to an unusual thief. An otter managed to steal 30 koi carps worth about £100,000 – you otter see it to believe it

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