The risk of energy shortages: a case of fake news?

Markets that defy all forecasts

As 2023 gets underway, natural gas and electricity prices have even fallen below where they were before the Russia-Ukraine conflict broke out last year. On 10 January 2023, natural gas in Europe (according to the Title Transfer Facility or TTF index – a Dutch index that serves as the benchmark for the European gas market) was priced at €67 per megawatt hour (MWh), while electricity in France was priced at €102 per MWh, compared with €309 and €710 per MWh respectively on 25 August 2022. There have been no partial power cuts in France and the signal generated by the Ecowatt forecasting system has remained green, even during the first – and, for the time being, only – cold snap in early December. Against all expectations, natural gas reserves were exceptionally high at the end of December. France’s natural gas reserves are 25% higher than the average of the last six years, even though France has no longer been receiving any Russian gas for several months now. Were all the alerts and recommendations about saving energy really necessary? Or were they deliberately exaggerated by certain operators with the aim of boosting their margins at consumers’ expense?

Mild weather

In winter, demand for natural gas and electricity is highly sensitive to weather conditions. Temperatures across most of France have been well above seasonal norms since last October, helping significantly reduce energy requirements over the early part of winter. No doubt the authorities did not foresee such mild weather when they called on France’s citizens to restrict their energy use. While the weather has undeniably eased the strain on energy markets since October, reduced consumption by economically constrained consumers or on a volunteer basis, has also played a part in avoiding shortages and alleviating market tensions. 

More energy-conscious consumers

Demand for natural gas and electricity is lower than during previous periods with similar weather to that seen in France since last November. The average temperature over the last two months of 2022 was quite close to that seen over the last two months of 2020, when France was in its second lockdown. On average, consumption of electricity and natural gas between November and December 2022 was 6.5% and 10% respectively below consumption between November and December 2020. These lower consumption levels are mainly down to households, the service sector, public authorities, very small businesses and SMEs being more frugal in their energy use. Lower energy consumption by large industrial users accounts for only between 13% and 16% of the total reduction over the last two months of 2022. The biggest reductions in demand for natural gas were among companies operating in the chemicals, metals and urban heating sectors. Reduced demand for natural gas over November and December 2022 made up for the loss of piped Russian gas imports relative to previous years. Power grid operator RTE had to cope with an average reduction of 10 GW in France’s nuclear power output between November and December 2022; reduced electricity consumption combined with lower electricity exports from France to Italy and Switzerland helped offset this reduction. This lower demand for electricity also limited the need to rely on natural gas-fired power stations. This meant that, despite the reduced availability of nuclear power, output from natural gas-fired power stations over November and December 2022 was lower than it had been a year earlier. 

This improvement in market conditions is not necessarily good for all consumers

Yet the relatively favourable conditions in energy markets are not automatically filtering through to consumers and, in particular, businesses, some of which have seen their energy bills spike. Since regulated prices for businesses were withdrawn, suppliers have been offering businesses fixed-rate tariffs over a predetermined period (usually one, two or three years). The pre-tax prices on offer depend on wholesale market prices at the time a contract is concluded or renewed; for electricity, they also depend on the price set under the ARENH scheme (which allows alternative energy suppliers to access historical nuclear energy at regulated prices). Only a few large industrial customers buy some or all of their energy in the spot markets. 

As an example, consider two small businesses who each take out a three-year fixed-price natural gas supply contract with the same supplier. Let’s assume the first business’ contract starts on 1 September 2019 and is renewed on 30 August 2022, while the second business’ starts on 1 January 2020 and is renewed on 30 December 2022. The natural gas supply price (excluding taxes and the transport component) under both contracts, based on futures, is around €17.2/MWh for the first business and €16.3/MWh for the second. When his contract is renewed on 30 August 2022, the first business is penalised by the sharp rise in natural gas prices. The natural gas supply component fixed for the next 36 months is now €163/MWh, some 9.5 times higher. Meanwhile, when the second business’ contract is renewed on 30 December 2022, he benefits from lower prices, with a fixed supply price of €93.1/MWh, 40% cheaper than the price charged to the first business. 

So businesses without access to regulated tariffs are not equal in the eyes of their natural gas and electricity suppliers: prevailing market conditions when contracts are renewed can benefit some and penalise others. The current drop in prices is good for businesses looking to renew or potentially renegotiate their contracts, assuming their suppliers are open to renegotiating prices. But renegotiating a big chunk of their portfolios could leave natural gas and electricity suppliers financially weakened. Terminating contracts already signed and in force for new contracts that are more favourable to consumers forces suppliers to unwind their positions in derivative markets, with the risk of incurring substantial losses.

Winter is not over yet

Up to now, the weather has been favourable for the electricity and natural gas markets. However, energy systems face another three critical months before spring comes, which means they remain exposed to the risk of cold snaps like the one that hit France between 11 and 18 December 2022. If demand had not been lower than normal, it would have taken the full capacity of France’s thermal power stations to balance the system. And when consumption peaked at 7:30 p.m. on 12 December, there would not have been sufficient thermal power capacity to meet demand. If electricity consumption had not been lower than normal, grid operator RTE would probably have had to resort to power rationing. Fears of shortages were real and it’s only thanks to reduced demand that rationing was avoided. While the commissioning of new nuclear reactors by EDF is good news for France’s electricity system, frugal energy use and energy-saving efforts remain necessary over the next three months.