Energy Pricing

This episode is dedicated to energy in a week when the British government announced its revised energy price cap.

First indications are that energy prices in the UK will rise by 54%. I’m going to look in detail at what the energy price cap actually is, explore the reasons for the dramatic increase in energy costs and look at what governments can do to soften the blow for consumers.

Rising Trend

The global oil price has been on a rising trend since this time last year. In February 2021 a barrel of Brent crude was priced at just under $60 and in the last couple of weeks that price has exceeded $90. It remains in the high $80s as I write. The price of natural gas spiked between October and December 2021. According to Ofgem, the UK’s energy regulator, wholesale gas prices quadrupled in the last year.

Among other things, natural gas prices are influenced by politics and at the moment Russia and the situation in Ukraine are in the spotlight. Prices were rising before Russia started its troop deployments to the Ukraine border, so there are other factors at work as well. For example, we had a long winter over 2020/21 so countries had to rebuild reserves over the year. The UK, which uses more gas than many European countries, has very little storage capacity and so does not have significant stocks bought at cheaper summer prices to fulfil winter demand. Natural gas is widely used for domestic heating but is also a major part of the electricity generation mix, accounting for around 50%, followed by nuclear and wind. This morning, for example, on a dull day in February Gridwatch indicates that wind is currently producing 29%, nuclear 13% and gas 36%. The rest comes from solar, hydro, interconnectors from Europe and a very small amount of coal. Nuclear runs at a constant, steady rate, supplying the base load. Wind fluctuates according to the weather and as we have no major electricity storage facilities yet that leaves gas to make up the difference. Last year we had periods with no wind and there was a fire which closed an interconnector from France. All this increased the electricity generators’ demand for gas.

LNG

About 33% of the UK’s gas comes by sea as LNG (Liquefied Natural Gas). Most of it comes from Qatar in the Gulf, but some comes, or has come, from the US and Russia in the past. In 2021 China increased its LNG imports by 27% in the first half of the year. Brazil and Argentina also increased LNG imports, making it more difficult and more expensive for the UK to obtain supplies.

From Russia with Gas

Russia is important to Europe because it supplies about 40% of Europe's gas. Europe is important to Russia because it buys 40% of its gas from Russia which makes a major contribution to that country’s export earnings. Germany has long been an important customer for Russian gas. Back in the 1980s when pipelines were being expanded to bring Russian gas to Germany President Ronald Reagan warned against it. Germany's reliance on gas has increased since its rapid denuclearisation following the Fukushima disaster. As Reagan pointed out, if Russia wants to put pressure on Western Europe it simply has to turn off the gas. It is no surprise that Germany's reaction to Russia's troop buildup on the Ukrainian border has been very low key and limited to providing things like field hospitals rather than armaments.

Much gas comes to Europe via Ukraine and the fees which Ukraine charges for allowing the gas to pass through the country are a significant part of its national income. Russia could therefore put pressure on both Ukraine and Western Europe by cutting off the gas. The UK buys very little gas from Russia but if there is a general shortage in Europe the UK will be affected in the same way as other European countries. In fact a shortage could be more serious for the UK because it has a much smaller storage facility for buffer stocks than other countries, although this is offset to an extent by access to gas from the North Sea.

Nord Stream 2

A major gas pipeline from Russia to Germany passing under the Baltic, Nord Stream 2, was completed at the end of 2021 but is not yet open. This will provide even more Russian gas to Germany and make Germany even more dependent on Russia. It will also allow Russia to bypass Ukraine as a gas route to Europe, enabling it to put pressure on Ukraine by cutting the off gas without affecting Western Europe. For the moment the fact that Nord Stream 2 remains unused looks like a political stand-off.

Price Cap

The effect of all this is that the price of energy for the average consumer is going up dramatically. Today, Thursday, 3rd February, Ofgem, the U.K.'s energy regulator, has published its revised price cap and announced that it will rise by 54%. It will be reviewed and revised, almost certainly upwards, later in the year.

What actually is an energy price cap? First of all, you are only affected by it if you are on a variable tariff, which is generally the most expensive tariff which an energy supplier will offer. If you are on a special deal or on a tariff for a fixed period you will pay that tariff rate until the deal expires. You may be offered a new deal after that, but it will certainly be more expensive than what you are already paying. It might be less than the price cap, but it may well increase by as much as the price cap.

Failed Suppliers

In recent weeks a significant number of energy suppliers have gone out of business. This is because they have offered deals to consumers which are now far cheaper than the current cost of energy and they do not have the financial reserves to cover the losses.

Customers of these failed companies have been transferred to the larger energy suppliers which have no obligation to offer the same terms as they had before. Instead these customers will be on variable tariffs and the price cap determines the maximum amount that they can be charged.

Ofgem

In today’s press release Ofgem says, “Those on default tariffs paying by direct debit will see an increase of £693…” while for those on prepayment meters - generally the poorer sections of society - they quote an increase of £708.

I think these figures are rather unhelpful as this clip from an explainer elsewhere on the Ofgem site makes clear.

“ Price caps don't set your monthly energy bills, they only set the price for each unit of energy you use. So if you use more units of energy you will still pay more.”

How Much More?

So how much will each unit cost after this latest uplift to the price cap?

“How much your capped tariff is depends on many things: how you pay, where you live and what type of meter you have.”

They go on to suggest that you ask your supplier for the figures in your particular case. Granted that energy companies exist to make a profit (we’ll leave any political debate on that aside for the moment) and they will offer competing tariffs to attract customers, but surely the price cap, the maximum anyone can pay per unit, should be the same for all.

New Deals

Following Ofgem’s announcement we can expect new domestic energy deals to be 54% more expensive in line with this increase to the price cap. This is a dramatic increase and inevitably will lead to increased fuel poverty.

Insulate Britain

This week five Insulate Britain protesters have been sent to prison for obstruction. Their aim is to urge the government to insulate the nation's housing stock in order to reduce the energy used for heating and therefore reduce the related emissions. The UK after all, has the draughtiest and coldest houses in Europe. Insulating our homes will not only reduce emissions but it will reduce the amount that people have to spend on energy. While insulation will save money and save energy year after year, if it is not built into properties as they are constructed it is very expensive to retrofit. Nevertheless, retrofitting is possible and the government launched the Green Homes Grant scheme last year to do just that. Sadly it got off to a bad start, not least because the government outsourced the management to an American organisation which worked on New York time. Just as it was beginning to work successfully the government pulled the plug.

Chancellor’s Solution

As I have been writing today’s episode the chancellor has been announcing his measures to soften the blow to consumers. At the time of Brexit the Prime Minister said that we would be able to cut the VAT from heating bills once we had left the EU. Since then he has quite rightly said that doing so would benefit the well off more than those struggling to make ends meet. And 5% is not a huge saving. It's also been suggested that the green levy which is rolled into the energy price to subsidise renewables and nuclear power should be removed. However if we cut VAT and we drop green levies we either have to cut spending or raise taxes elsewhere.

The chancellor’s solution today is to give a £200 discount on each domestic electricity consumer’s bill next October. Local authorities are instructed to pay a £150 council tax rebate to all apart from those living in the most expensive properties - to about 80% of all households. This £150 will not be repayable, but the £200 electricity discount will be recovered through electricity bills at £40 per year over 5 years. It is not clear whether local authorities will get funding from the Treasury to cover the £150 rebate, although they will get £150m to help them assist the poorest and those most at risk of fuel poverty.

The Future

And what of the future?

Insulation would deliver savings next year and every year for no further investment. If energy prices continue to go up, must the chancellor spend more next year to keep fuel poverty under control? Deliver more loans while we’re still paying off this year’s? How will he raise the money? What will he cut instead?

Watch this space and I’ll let you know the answers this time next year!

The End

That brings me to the end of this episode of the Sustainable Futures Report.

Thank you for listening. I'm grateful both to you for listening and also to my patrons who listen and subscribe on a monthly basis to support this podcast, allowing it to be completely independent and totally ad-free. For the price of a couple of cups of coffee each month you’re getting up to eight episodes. That’s four Wednesday Interviews and four Friday Magazines. As a patron you’ll usually get them a day or so before everyone else, you’ll get a shout-out when you join and Silver Supporters and above get a unique enamel badge. Your ideas for future episodes are particularly welcome and I’m working on developing and upgrading patron benefits. More details soon. In the meantime make your way to patreon.com/sfr . It’s all there.

There will be another Wednesday Interview next week, and your regular Sustainable Futures Report on Friday.

That’s it for this time.

That was the Sustainable Futures Report.

I’m Anthony Day.

Bye for now.

Sources

Energy Price Cap Defined

https://www.ofgem.gov.uk/check-if-energy-price-cap-affects-you

https://www.ofgem.gov.uk/sites/default/files/docs/2020/12/ofg2042_energy_price_caps_explained_large_print.pdf

Gridwatch

https://gridwatch.co.uk

Government Action

https://www.bbc.co.uk/news/business-60245696

Chancellor’s Statement

https://www.gov.uk/government/speeches/chancellors-statement-to-the-house-energy-price-cap

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