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Why Europe’s Electricity Prices Are Soaring

The effects of the conflict that raged in Ukraine are “distorted” the market for natural gas, causing the price of energy to go up.

Energy traders across Europe are seeing price hikes which are difficult to understand. Natural gas is the fuel utilized to create heat and electricity, costs 10 times what it did just a year ago. The prices for electricity, which are tied to the cost of gas and heating, are also a lot more expensive than what used to be considered to be normal.

As Russia is tightening the screws on gas flows and oil, the markets for energy are trapped in a continuous upswing. This week when the market benchmark European energy prices for natural gas surpassed an array of records following Gazprom the Russian gas giant, announced it will temporarily close an important pipeline that connects Germany in the month of August. This move that has further increased the market’s fears.

Prices for electricity have been highly fluctuating. In Britain the wholesale cost of a megawatt-hour electricity (enough to power about 22,000 homes in an hour) set the record for a daily average of around 500 pounds which is $590, in the early part of this week. This is about five times higher than the price of August last year According to Rajiv Gogna, a partner at LCP Consulting.

In certain countries, there’s not much buffer between wholesale prices and the amount consumers pay for the form of monthly charges. On Friday it is expected that the British energy regulators will re-set the price cap on energy that is widely anticipated to nearly triple the amount an average British household could be paying in the next few months for gas and electricity up to around PS3,500 per year. The rise is due to the steady increase in cost of electricity and gas.

The price of food and other items will continue to rise in Britain and across the world are expected that will increase the burden on families and strengthening the case for intervention by government.

What is the reason why the prices of electricity and natural gas continue to rise?

Inflicting the price is an indication that Europe will run out gasoline this winter. Russia has cut gas flow to Germany as well as other countries. Even prior to the upcoming three-day shut down, Nord Stream 1, one of the main conduits for gas to Germany has been operating at a mere 20% of its capacity. The cuts are forcing gas companies to purchase gasoline on the spot market for greater and more volatile costs that they would pay under longer-term Gazprom contracts.

In several countries, gas prices and electricity prices are tightly linked which has contributed to Europe’s troubles. There are many ways to produce electricity — including hydroelectric, nuclear, coal solar, wind and solarthe price of gas has been incredibly important in determining the price of electricity because gas-burning generators frequently paid to enter service when a power grid such as Britain’s requires more power.

“Natural gas is the driver for the European electricity price,” said Iain Conn, a former chief executive at Centrica which is a major British utility.

This creates Europe more susceptible to Russia’s weapon of energy. Contrary to Europe, and unlike the United States, which has an abundance of natural gas that it can export, due to the shale drilling process, Europe needs to import the majority of its gas as Russia typically supplying about one-third. Before the Russian incursion into Ukraine during February European power and gas power prices soared due to concerns about supply.

“When natural gas supplies get tight, the electricity market gets extremely exercised,” said Mr. Conn, who is also a former top executive at BP the giant in energy.

Other factors are driving higher prices for power, such as low river levels which hinder the transportation of coal-fired power plants with fuel which Germany and other governments would like to start in order to substitute gas.

What are the governments doing to stop the crisis?

The answer is simple, lots. European Union countries like Germany and the Netherlands are trying to fill up storage tanks for gas as a safeguard against a potential complete shutoff of Russian gas in the winter. The governments have also taken steps to obtain more sources of LNG in and around the United States and elsewhere and have pushed enterprises in energy to construct new terminals to receive this chilled gas usually using state-funded financing.

Britain as well as other countries provide financial assistance to consumers, but it is not enough to offset the enormous increase in expenses that householders are facing.

A broad range of consumer advocates, politicians and even executives from the energy industry are calling on governments to do more.

“What’s increasingly clear is these tough conditions for U.K. households are going to get much, much worse before they get better,” said Keith Anderson, the chief of executive for Scottish Power, a British utility in an public letter. The letter from Mr. Anderson suggested that the government take action to address the increasing cost of gas and electricity, a plan that could cost billions of pounds over the next two years.

Are the markets for energy functioning?

Government mandates already force the markets to operate in a manner which would be strange in other contexts.

In a normal marketplace, for example high prices could cause gas to be sold and not storing it. However, the pressure to stock up on gas storage facilities and storage facilities, which is backed by government’s directives which have forced energy firms to purchase and keep buying gas that is expensive which has driven prices higher.

In one way the program for storage has been extremely successful. Salt caverns as well as other sites in Germany are now more than 80 percent filled, and in line to reach the 95 percent goal in November. 1.

However, the desire to purchase winter protection has pushed up prices and is causing certain economic harm that it was designed to avoid experts say.

“The market is totally debased and distorted now,” Henning Gloystein, director at Eurasia Group, said. “If you were a semi-sensible trader, you would sell all the gas you have in storage now out into the spot market and make an absolute killing,” Gloystein said. The governments of Germany and across the world, however insist on different priority issues.

Indeed, pressure is increasing for more government intervention.

Already, a number of small British energy companies have declared bankruptcy, leading to increased costs for the consumer and the government. France is in complete control over EDF which is the largest company that builds nuclear power plants.

On August. 17 Uniper was one of Germany’s most important gas utilities, announced an operating loss of over twelve billion euros ($12 billion) for the first six months of the year. The company attributed large portions of the loss to the cost of having to buy back gas purchased by Gazprom but not at a higher price than market prices. The company accepted a bailout in the last month, with the government taking an enormous share of the equity in the firm.

“We at Uniper have de facto become a pawn in this conflict,” declared Klaus-Dieter Maubach, the company’s chief executive officer, speaking of the conflict in Ukraine.

Why isn’t wind and solar power helping reduce prices?

Analysts have said that to date these technologies only contribute little in reducing prices because in wholesale electricity markets , natural gas remains the main factor in the price of power. Chris Matson of LCP estimated that by 2021, Britain’s electricity prices were affected by gas for more than 90% times, when the fuel was only responsible for around 40 percent of the total generation.

Some experts believe that it’s time to revamp power markets to reflect the increasing quantity of solar and wind energy that is generating electricity on European electricity grids. In contrast to coal and gas generators, which are mostly determined by fuel prices, renewable energy sources have extremely low and stable operating cost. The fuel they use is almost free.

“What we need is a better market design that is less reliant on natural gas power plants to set the prices,” said Rahmat Poudineh who is a senior researcher in Oxford Institute for Energy Studies. Oxford Institute for Energy Studies. “It is likely that we can have a situation where electricity prices are lower than this,” said the researcher.

Britain along with other nations considering overhauling the energy market in their countries. However, it is unlikely that radical changes could be made before the end of this winter.


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