The winter electric shock is approaching

By Javier Blas

An oil crisis hits the economy like a big wave crashing on the beach: the impact is immediate and dramatic as the peak of the wave sinks to shore. An electric shock is another kind of shock: it looks like a rising tide, it is slow but relentless and then – surprise! – you are flooded.

This difference explains why policymakers and investors are focusing on oil and tending to ignore electricity. This is a big mistake because we are facing another crisis in electricity prices, no different from the one that hit Europe late last year.

Silent ejection

Almost silently, futures contracts for the whole of the Old Continent at the end of 2022 and especially in 2023 have increased significantly in recent weeks, announcing further increases in utility bills.

In some cases, futures have hit record highs, rising by about 40% in the last two months.

Electricity prices soared in December and again in late February for a few days. Since then, current prices have fallen. Their fall is misleading. In electricity, what matters is the cumulative averages. These monthly averages give a worrying picture.

So far in May, Germany’s one-year forward electricity contract was hovering at an average of 222 euros per megawatt-hour, moving to its highest monthly level in history, above the previous record set last December, at 207 euros per megawatt-hour. . Prior to 2021, the highest average for the same reference contract was € 83 in July 2008.

War and “nuclear” France

The war in Ukraine, which has pushed up gas and coal prices, is the main source of this crisis.

The latter is also exacerbated by low nuclear power generation in France: the state-owned Electricite de France (EDF) recently reduced its 2022 nuclear production outlook to less than 300 terawatt hours, or more than 30% produced a decade ago.

European utilities buy electricity months before the wholesale market to set costs for their customers. Thus, the current price increases in futures contracts essentially announce significant retail price increases for the next year.

The increase will be similar to that of last autumn, when electricity bills became a hot political potato from Spain to the United Kingdom.

Subsidies and dissatisfaction

Once again, the increases could force governments to spend billions of euros to mitigate the impact, through subsidies and tax breaks. The problem now is that increases in utility bills will add to the widespread discomfort of increased living costs, further burdening family budgets.

This is a bigger problem for the European Central Bank (ECB) and the Bank of the United Kingdom (BoE), which have been battling higher inflation for decades. If the oil shock caused a wave of inflation, the “electric” shock will further raise the inflation tide.

With oil, spot prices in the market cause pump prices to fluctuate on a daily basis. With electricity, the changes are revealed on a monthly basis – and will be particularly dramatic in the future.

In the United Kingdom, for example, the maximum price that utilities can charge households for their electricity – commonly known as the maximum price ceiling – is calculated and adjusted twice a year. As prices in late 2022 and early 2023 have been trading at high levels for several weeks now, the ceiling is expected to rise significantly.

Cornwall Insight estimates that the combined limit for electricity and gas bills is likely to rise to 95 2,595 a year by October, up more than 30% from 1. 1,971 today. Earlier this year, the same limit was raised by 54% before the British government intervened to mitigate the blow to consumers.

The trends are similar in other countries. German utilities and major buyers of electricity are now trading electricity for delivery throughout 2023 at more than 200 euros per megawatt-hour, up from that year. To understand what this means comparatively, the futures prices in 2019 were around 50 euros.

French futures prices for 2023 rose last week to more than 300 euros per megawatt-hour, a record high for the contract. In January, the same contract was traded under 130 euros per megawatt hour.

The impact of these increases will not be apparent on retail prices until later in the year. But when the electricity market reaches the tide in late 2022 and early 2023, the impact on households and small businesses will be the same: many of them will “drown”.