Why Europe’s energy prices are soaring and could get much worse

Europe is battling a record-breaking surge in energy prices that threatens to derail the post-pandemic economic recovery, strain household incomes and even tarnish the nascent green transition.

A series of market, geographic and political factors have coalesced into a perfect storm that shows no signs of abetting as the continent enters the autumn season, temperatures gradually decrease and heating becomes indispensable.

Analysts are already warning the crisis, which is exacerbated by a mixture of temporary and structural problems, will be prolonged and the worst may yet to come.

Prices of natural gas are skyrocketing: at the Dutch Title Transfer Facility, Europe’s leading benchmark, prices have risen from €16 megawatt per hour in early January to €75 by mid-September, a hike of more than 360% in less than one year.

Although the European Union is gradually cutting down on its long-time dependency on fossil fuels – renewables became the bloc’s main source of electricity for the first time in 2020 – the shift has not been fast and widespread enough to contain the fallout from the crunch.

Together, natural gas and coal still supply more than 35% of the EU’s total production, with gas representing over a fifth. The energy mix is vastly different across the bloc: fossil fuels have a marginal share in Sweden, France and Luxembourg, but take up more than 60% of total production in the Netherlands, Poland, Malta and Cyprus.

As coal, the most polluting fuel, is progressively phased out, many countries resort to natural gas as a transitional resource to act as a bridge before green alternatives, like wind turbines and solar panels, are rolled out. Moreover, gas is also used for residential heating and cooking, making the price surge even more noticeable in the final expenses of consumers.

Citizens in countries like Spain, Italy, France and Poland are now facing all-time-high energy bills that add to the economic woes caused by the pandemic. The popular discontent has put governments on high alert, with ministers scrambling to come up with emergency measures, even if they’re short-term and only partially effective to cushion the impact.

In Italy, Roberto Cingolani, minister for the ecological transitions, has already warned Italians to expect a 40% increase in their bills over the next months. France said it will send one-off €100 payments to over 5.8 million low-income households. In Spain, the government has promised to bring prices down to 2018 levels. Madrid also sent a letter to Brussels asking for EU-wide action. “We urgently need a European policy menu pre-designed to react immediately to dramatic price surges,” the letter said.

But as the crisis spills over the bloc and citizens express increasing concern, it’s unclear how much power the European Union can exert to rein in the excesses of a liberalised energy market whose primary source comes from outside its own borders.

Why are Europe’s energy prices soaring?

“This is about a surge in demand for energy as we come out of the restrictions imposed by the pandemic, combined with a reduced supply of gas on the global market,” Tim Gore, head of the Low Carbon and Circular Economy programme at the Institute for European Environmental Policy (IEEP), told Euronews

“Then there are other factors exacerbating the problem, particularly in Europe. We have succeeded in getting coal off the grid, and that happens to coincide with a period recently where wind power has been lower because of the weather.”

Trouble began brewing in the winter when colder-than-expected temperatures led to a higher-than-usual power demand to warm up buildings. This, in turn, induced a marked decrease in gas reserves, which reached a worrisome 30% by March. In spring, as the vaccination campaign gained traction around the continent, business activity began to intensify rapidly, with offices, restaurants and other venues reopening their doors and consumers pouring in, eager to spend their lockdown savings.

The economic recovery prompted a new wave of energy demand, which further increased during the summer when sweltering temperatures pushed people to use air conditioning and cooling systems. East Asian countries then joined Europe in the quest for energy to kick start their COVID-ravaged economies. However, the growing demand was not met with a growing offer.

“The pipeline supplies we get from countries like Russia, Norway and Algeria, despite this higher price, have not actually supplied more gas to Europe. They have kept their suppliers quite at the regular volumes. And that’s a bit strange because normally if the price goes up and you’re a supplier and you have spare capacity, you could use this opportunity to sell more gas at a higher price. That hasn’t happened yet,” Denis Hesseling, head of the gas department at Agency for the Cooperation of Energy Regulators (ACER), told Euronews.

With companies from all around the world trying to get their hands on energy sources, prices began steadily rising. By August, they were breaking records. Traditionally, gas is cheaper during summertime and companies seize the moment to store it in large volumes to be well prepared before winter arrives. But the ongoing price crisis disrupted the custom and current reserves are historically low for this time of the year, an ominous sign for the coming months.

“If we get a particularly cold winter again this year, that’s going to be a tough period and prices will continue to rise as a result,” added Gore.

“Governments should be preparing now and putting in place the measures to respond and help households through the period. There is still time.”

Is there a link between Europe’s energy crisis and the new Russia-Germany gas pipeline?

The surprising lack of new supplies from Russia, which is the EU’s leading gas exporter, is raising fears that Moscow wants to capitalise on the crisis to make the case in favour of the controversial Nord Stream 2 pipeline. The 1,230-kilometre conduct running under the Baltic Sea and directly linking Russia and Germany is now complete but hasn’t begun operations due to bureaucratic hurdles. The project has been heavily criticised inside and outside the EU for perpetuating the bloc’s dependence on fossil fuels and extending President Putin’s geopolitical influence.

Gazprom, the pipeline’s main backer, and the Russian government have denied any involvement in the energy crunch but insist the pipeline should be put to work “as soon as possible”. Critics, however, think the timing of the crisis seems too favourable for the Kremlin’s agenda.

“Having carried the authorisation for the Nord Stream 2 gas pipeline, a bilateral Russian-German vision which is not part of a shared vision of Europe and doesn’t respect the Ukrainian territory, has weakened Europe’s position as a guarantor of the common good in favour of mercantilism of some strong countries like Germany,” said Carlo Andrea Bollino, a professor at the University of Perugia.

“This can be attributed to Brussels. The EU didn’t have the courage to say no to Germany.”

A group of more than 40 Members of the European Parliament have sent a letter to the European Commission asking “to urgently open an investigation into possible deliberate market manipulation by Gazprom and potential violation of EU competition rules”.

The suspicions about the Kremlin’s deliberate interference have reached Washington, one of the most vocal critics against Nord Stream 2.

“We want to all have our eye on the issue of any manipulation of gas prices by hoarding or the failure to produce adequate supply,” US Energy Secretary Jennifer Granholm said during a visit to Warsaw.

Europe’s energy crisis brings the EU’s green transition under fresh scrutiny

The surge in energy prices has inevitably brought the EU’s climate policy under renewed scrutiny.

Power companies are obliged to take part in the EU’s Emissions Trading System (ETS), the world’s largest carbon market. Based on a “cap and trade” principle, the ETS currently covers over 10,000 powers plants and industrial installations across the bloc.

On the one hand, the EU sets a cap on the maximum amount of greenhouse gases that the installations can release. On the other hand, it creates permits for each unit of emitted carbon. Companies can buy these permits and trade them among each other to fulfil their annual needs. The cap is tightened over time and permit prices gradually increase. This trend creates an incentive for the energy sector to ditch fossil fuels and embrace sustainable alternatives.

But since the green transition is still in its early stages, companies under the ETS are bound to keep buying and trading carbon permits. The booming recovery and energy crunch have pushed the carbon price by about 80%, from €34 in mid-January to more than €60 in September. Consumers risk becoming the final recipients of that additional cost, particularly in coal-dependent countries.

Polish Prime Minister Mateusz Morawiecki recently said the energy price crisis was to blame on the EU climate policy. The European Commission, which is fiercely protective of the ETS, is trying to counter these attacks, arguing the dominant factors behind the price crisis are the global economic recovery and the strong demand from Asian countries. Brussels estimates permits under the ETS are contributing only to a small percentage (over 20%) of the overall surge.

“The irony is if we had had the green deal five years earlier we would not be in this position because then we would have less dependency on fossil fuel natural gas,” Frans Timmermans, the Commission’s Vice-President in charge of the European Green Deal, told the European Parliament.

A similar line was echoed by Kadri Simson, the European Commissioner for energy, after an informal meeting of transport and energy ministers in Slovenia. The main topic on the agenda: soaring prices.

“Electricity prices have increased across the EU. This is due to a combination of factors, but mostly high natural gas prices and the increasing post-crisis demand. This is a global development, with most countries affected, regardless of their location or market arrangements,” she said after the meeting.

Simson suggested the EU should have a “more structured toolbox” to tackle the situation at the national level but underlined domestic action should respect the EU’s overarching climate objectives.

“The solution to today’s conundrum is clear: we need more renewables and we need to improve our energy efficiency,” she added.

Gore, from the IEEP, said: “We’re sort of halfway in the energy transition, and this is kind of like growing pains from that low carbon transition. We’re having to grapple with the fact we’ve taken some of the coal out of the system, we’ve still got too much gas, renewables are coming onstream but not sufficiently yet to dampen that demand.”

As part of the Green Deal, Brussels is urging EU countries to step up renovation of buildings so they can be better prepared for extreme weather, such as cold snaps and heatwaves, and therefore lessen the intensive use of heating and cooling systems.

The energy crisis arrives at a delicate moment for the Commission: in July, the executive unveiled a far-reaching set of legislative proposals to cut down the EU’s greenhouse gas emissions by at least 55% before the end of the decade. Among the draft laws is the creation of a new, standalone Emissions Trade System to cover the polluting fuel used for heating buildings and road transport.

The idea received a mixed response, with some legislators immediately coming forward to reject it for its potential damage to the middle class. The Commission, which continues to underline that all carbon must be taxed no matter the source or reason behind it, is now preparing to enter negotiations on the legislative files with the European Parliament and the EU Council, a debate that is already being influenced by the worsening price crisis.

For Dimitri Vergne, a sustainability policy officer at the European Consumer Organisation (BEUC), the energy crunch doesn’t undermine the EU’s green push but actually reinforces its whole point.

“It’s a clear call for us to accelerate the shift to a more renewables-based energy system. It’s actually our dependence on fossil fuels, like petrol and natural gas, which makes our energy bills much more expensive,” he told Euronews.

“If you look at the figures, wind and solar-based electricity, the prices have remained stable. The problem [is the] peaks of natural gas and petrol. This is where the increase in electricity prices come from. And there is a simple or technical reason for this: in times of high demand for electricity, coal and gas power plants need to be switched on to feed into the system. And gas and coal come at a much higher price than renewables to produce electricity.”

Volatility and vulnerability

The EU’s exposure to volatile energy prices is poised to remain a risk in the coming years before the green shift brings the anticipated stability to the market. In the meantime, governments will have to come up with interim solutions, such as lowering the tax rates and extra levies applied to energy bills, which in some countries can make up half of the final price. The Spanish government has temporarily cut the special electricity tax from 5.1% to 0.5% – the minimum under EU law.

Other measures can include social programmes to protect vulnerable households and small businesses, alleviate energy poverty and prevent families from having their electricity supplies cut off. In 2018, about 34 million Europeans said they were unable to keep their homes adequately warm.

Governments can also offer direct injections of cash, like France’s “chèque énergie”, to offer immediate relief for those struggling to pay the bills, although such an instrument could quickly run over budget if the prices continue to swell, as they are forecast to do.

Renegotiating the contract with electricity providers can give consumers a lifeline. Fixed-price contracts help ensure a consistent and predictable price, even if the price doesn’t fully reflect the market’s reality or the client’s actual consumption.

Consumers that have a variable-price contract are much more exposed to fluctuations: when energy prices go down — as happened last year when the coronavirus outbreak brought the whole economy to a standstill — their bills turn considerably cheaper, but when the prices go up, as they presently do, consumers lose control over their expenses.

“You can choose a contract with more risk or with less risk. If you don’t want to run the risk, you sign a contract with a fixed price, which is normally a bit more expensive, at least in the beginning,” Denis Hesseling says.

“If we look at the forward prices, the prices that the traders are paying for delivery in the next month for gas, it is expected to remain high for the next half-year or so.”

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