What is behind the soaring electricity prices in Europe
Smoke from a large fire at the National Grid’s IFA interconnection site in Sellindge, UK can be seen on September 15, 2021 (Edward Evans / Bloomberg)
Europe’s energy ambitions are clear: to move to a low-carbon future by overhauling its electricity production and distribution systems. But the current situation is a costly mess.
A global tightening of natural gas supplies, bottlenecks for renewables and some of the slowest North Sea wind speeds in 20 years, idling turbines, have contributed to the surge in prices of electricity. As winter approaches, governments are preparing to intervene if necessary in volatile energy markets to keep homes warm and factories running.
1. What is the problem here?
Energy prices have skyrocketed as economies emerge from the pandemic – increasing demand as well as insufficient supplies. Coal-fired power plants have been closed, gas stocks are low, and the continent’s growing dependence on renewable energy sources exposes its vulnerability. Even with mild weather in September, gas and electricity prices were breaking records across the continent and in the UK, Italy’s Green Transition Minister Roberto Cingolani said he expects a 40% increase in electricity prices in the third quarter.
2. Why is there a shortage of supplies?
The end of summer in Europe is usually the time when natural gas stocks are replenished for the winter. This year, storage sites have seen their lowest levels in more than a decade for this time of year, after an unusually cold winter. Russia’s supplies were limited as it replenished its own stocks, while Norwegian gas flows were below average during maintenance work on its giant fields and treatment stations. Prices in Europe are expected to rise further to draw cargoes of liquefied natural gas away from Asia, where China stores to fuel its economy and ensure it has enough reserves for the winter.
3. What is the relationship between gas and electricity prices?
Some 23% of the European Union’s electricity was produced from gas in 2019, just behind 26% from nuclear power plants. Electricity is very difficult to store, which means that large fluctuations in fuel costs quickly translate into price volatility. Big batteries do exist, of course, and this technology is developing rapidly, but it will be many years before they can offer serious storage capacity for renewables. Some European countries have become increasingly dependent on electricity exports from other electricity-rich countries.
4. How are electricity prices set in Europe?
As short-term trading grows, utilities and large corporations are also buying and selling electricity years in advance. In these trades, opinions on the economy and long-term forecasts of fuel costs play a more important role. But the wider European electricity market has traditionally focused on the next day’s price, with auctions providing a forward-looking day price serving as a benchmark. Traders submit bids and bids for each hour based on their supply and demand calculations, and then an average price is calculated by the exchange that operates that market. American markets are more regional. Most of the electricity is also sold a day in advance, with similar arrangements for same-day trading as in Europe. Consumer prices are set by state regulators after utilities request tariff changes based on the amount they paid for wholesale electricity, transportation investments, and maintenance general of their networks.
5. What’s new in the system?
The explosion of renewable energies, more intermittent than fossil or nuclear energies. Because weather conditions can create large price changes, markets for shorter periods later on the same day have also become vital.
6. What is happening with wind power?
The northern coastal countries, including the United Kingdom, Germany and the Scandinavian countries, have become leaders in wind power generation and technology. Elsewhere, the picture is mixed. In Spain, the growth of wind and solar power plants has brought its share of renewable energies to a record 44% of total power in 2020. France also produces more electricity from wind power, but its Electricity production is still dominated by nuclear power plants.
7. Which countries are most at risk of running out of electricity?
Those who have limited cables connecting them to their neighbors, because in times of crisis they cannot take full advantage of Europe’s interconnected market. This allows energy to flow to where it is needed most and where it is most expensive. The Irish grid operator warned in September that there was a risk of power outages due to lack of wind. While the UK’s supply is a mix of renewables, natural gas, nuclear and coal, many of its plants are old and fail from time to time. If large blackouts coincide with little wind or sun, the country could be on the verge of running out of power.
8. What does this mean for Europe’s climate goals?
Renewable energies bring volatility and this will make it very expensive for the continent to achieve its goals. Germany is a prime example: Chancellor Angela Merkel’s energy policies have cost its citizens hundreds of billions of euros in subsidies. The EU, however, is unfazed. Climate chief Frans Timmermans said higher prices should not undermine the bloc’s resolve to develop renewable energy and that industry should instead step up to make cheaper green energy available.