Almost Winter
On July 17 we wrote a blog post titled running-out-of-energy . In there, we discussed the brewing energy crisis in Europe. Then, we said we suspect the energy crisis will become front and center in the news as soon as the weather turns cold.
With winter just around the corner, we thought we’d take a look to see how the energy situation is developing in Europe. Unfortunately, things have not gotten better. The landscape is rapidly changing on almost a daily basis.
Russia's Gazprom reduced the flow of NG through the Nordstream pipeline to zero the week before last. That in turn caused a 30% upward spike in the price of NG in Europe in a single day before retreating to a still high level as of this writing.
With the flow of gas from Russia to Europe halted, Europe could be in for a dark and cold winter. That might sound like fear mongering, but last year, Russia supplied 40% of the EU’s natural gas. Even more alarming, a full 55% of Germany’s natural gas came from Russia!
As recently as May of this year, Nordstream 1 was operating near capacity. Then in June, the flow was reduced until it temporarily halted completely in July. During that time, Russia blamed technical difficulties related to obtaining necessary components while under strict sanctions. Still, they maintained the intent to keep natural gas flowing once the maintenance was complete. In fact, for a brief time, gas flowed again in August, but only at a fraction of capacity.
Finally, Russia stopped the flow of natural gas altogether, and basically said they aren’t going to reopen it as long as the sanctions remain in place.
If lack of supply of Nat Gas wasn't enough of a problem, it seems OPEC is set on keeping the price of oil north of the $90 mark. They announced a 100K barrel /day production cut, and made it clear that more would come if the market continued to slide. With high oil prices and extremely high natural gas prices in Europe, we don't think this problem is going to go away. More likely, it will become front and center on the news, and the market will have to adjust for the decline in output from blackouts and power rationing.
Despite the rapidly approaching crisis, Germany is moving forward with its plan to close the country's three remaining nuclear reactors at the end of this year. However, in what seems a minor concession, two of them are expected to remain available on standby until April of next year. Once the nuclear plants are shut, the lost nuclear power will most likely be replaced with coal-fueled power.
In all probability, Europe will get through the coming winter with its reduced Nat Gas supply. But the economic cost is likely to be enormous. The cost will come in different ways. One, there will be a high cost to transport Nat Gas from alternative sources. Two, there will likely be a cost to shut down businesses due to lack of electricity. These costs will hit the economy at the same time that the ECB is tightening the monetary screws.
Remember when Biden was warning the world that Russia was planning to invade Ukraine? We aren't seeing the same type of awareness when it comes to the coming energy crises. That means the problem is probably not yet fully priced into the market.
In July, we said this:
Absent some real solutions, our energy needs might be met via demand destruction through an economic contraction rather than through an increase in production. We suspect the energy crisis will become front and center in the news as soon as the weather turns cold.
When we spoke of real solutions, we specifically did NOT mean the UK's Liz Truss's proposal to cap energy costs at 2,500£ for the next two years. Think about this for a moment. At a time when demand destruction is most needed, she proposes a flat rate fee below the market rate. Who is going to take a fast shower when the price is the same regardless of how long you run the hot water? This proposal is akin to trying to get someone to conserve data on their cellphone by offering a low, flat-rate unlimited plan... Literally everybody knows that data usage would rise under such a scenario, but high energy prices aren't good for politics, so expect more ridiculous proposals that do nothing to address the underlying problem.
In closing, we have not seen many real-world solutions being proposed to a rapidly approaching crises. This is a change for the developed world. For years, energy has been plentiful. Developed nations are not accustomed to operating with unreliable electricity, yet that is a very real possibility this winter. How citizens will react isn't yet known, but conflict is almost always born from discomfort. When life is great and our bellies are full, we don't feel like taking up arms and living in trenches. But when we are cold and miserable, it's easy to look elsewhere for the source of the problem. Politicians often become scapegoats, so we wouldn't be surprised if there are changes in leadership in Europe this winter.
Europe is likely going to be severely tested this winter. We don't look forward to seeing if they pass the test.
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