What's behind Europe's skyrocketing power prices
Europe's energy ambitions are clear: to shift to a low-carbon future by remaking its power generating and distribution systems. But the present situation is an expensive mess.
A global supply crunch for natural gas, bottlenecks for renewable energy and wind speeds in the North Sea among the slowest in 20 years, idling turbines, have contributed to soaring electricity prices. As winter approaches, governments are preparing to intervene if needed in volatile energy markets to keep homes warm and factories running.
1. What's the problem here?
Energy prices skyrocketed as economies emerge from the pandemic -- boosting demand just as supplies are falling short. Coal plants have been shuttered, gas stockpiles are low and the continent's increasing reliance on renewable sources of energy is exposing its vulnerability. Even with mild weather in September, gas and electricity prices were breaking records across the continent and in the U.K. Italy's Ecological Transition Minister Roberto Cingolani has said he expects power prices to increase by 40% in the third quarter.
2. Why is there a supply shortfall?
Late summer in Europe is usually when natural gas inventories are replenished for winter. This year, storage sites had their lowest levels in more than a decade for this time of year, following an unusually cold winter. Supplies from Russia were limited because it was rebuilding its own inventories, while Norwegian gas flows were lower than average during maintenance work at its giant fields and processing stations. Prices in Europe would need to rise more to attract cargoes of liquefied natural gas away from Asia, where China is stockpiling to power its economy and ensure it has enough reserves for winter.
3. What do gas prices have to do with electricity?
Some 23% of European Union electricity was generated from gas in 2019, just behind the 26% that came from nuclear plants. Electricity is very hard to store, which means that big swings in fuel costs translate quickly into price volatility. Large batteries exist, of course, and that technology is developing quickly, but it will be many years before they can offer serious storage capacity for renewable energy. Some European countries have become increasingly dependent on electricity exports from others with an abundance of power.
4. How are power prices set in Europe?
While short-term trading is increasing, utilities and big companies also buy and sell power years in advance. In those trades, views on the economy and long-term fuel cost forecasts play a bigger role. But the broader European power market has traditionally been focused on the price for the following day, with auctions supplying a day-ahead price functioning as the benchmark. Traders submit bids and offers for each hour based on their calculations of supply and demand, and then an average price is calculated by the exchange handling that market. U.S. markets are more regional. Most of the power is also sold a day in advance, with similar arrangements for trading for the same day as in Europe. Consumer prices are set by state regulators after utilities request rate changes based on how much they've paid for wholesale power, transmission investments and overall upkeep of their grids.
5. What's new in the system?
The explosion of renewable energy, which is more intermittent than fossil or nuclear fuel generators. Because weather patterns can create big price shifts, markets for shorter time periods later the same day have also become vital.
6. What's happening with wind power?
Northern, coastal countries including the U.K., Germany and Scandinavian nations have become leaders in wind generation and technology. Elsewhere, the picture is mixed. In Spain, the growth in wind and solar plants helped send its share of renewable energy to a record 44% of total power in 2020. France is also producing more power from wind, but its electricity generation is still dominated by nuclear plants.
7. Which countries are most at risk of running out of power?
Those with limited cables linking them with their neighbors, because in a crisis they are unable to benefit fully from Europe's interconnected market. That enables power to flow to where it's needed the most and where it fetches the highest price. Ireland's grid operator warned in September that there was a risk of blackouts due to lack of wind. While the U.K.'s supply is a mix of renewable energy, natural gas, nuclear and coal, many of its plants are old and break down from time to time. If big outages coincide with little wind or sun, the nation could be close to running out of electricity.
8. What does this mean for Europe's climate goals?
Renewable energy brings volatility and that's going to make it very costly for the continent to reach its targets. Germany is a prime example -- Chancellor Angela Merkel's energy policies have cost its citizens hundreds of billions of euros in subsidies. The EU is unperturbed though. Climate chief Frans Timmermans has said that higher prices mustn't undermine the bloc's resolve to expand renewable power and that the industry should speed up instead to make more cheap green energy available.