German energy prices hard to tame

Shortly before the end of the year, many natural gas customers in Germany received letters from their providers announcing hefty price increases for the next year. For the lucky ones, heating their homes will be only 10% more expensive. Those less fortunate or with unfavorable contracts will have to pay 20% or even 30% more to keep their homes warm during this winter season. 

A recovery of the global economy after an economic downturn has seldom been linked so clearly to rising energy prices. As the world's two largest economies, the United States and China, began to recover, prices for oil and gas climbed higher and higher.

And it is, above all, energy prices that are driving inflation rates to record heights in the US and Europe. Inflation has been hitting new highs for months, a phenomenon not seen since the 1970s and 1980s. In November, inflation in America hit 6.8%, the highest since June 1982.

Gas supplies down

The price increase for natural gas was particularly steep in 2021. Since March 2020, when the coronavirus pandemic started to travel around the globe, the price for natural gas on futures markets multiplied.

The long-term average price for a single megawatt-hour used to be between €15 and €20 (about $17 to $23). But a look at the quotations for delivery dates after the winter heating season indicates such figures may be a thing of the past.

With prices at more than €60 for deliveries at the end of June, natural gas will remain three times as expensive in the summer of 2022 than its long-term average.

Investment backlog pushes oil production

Crude oil also became significantly more expensive over the course of the year. At the end of 2020, a barrel of North Sea Brent cost just under $52. A year later, on December 9, it hit $75. Despite this sharp increase in price, it's still more affordable than at the end of October, when it hit a three-year high of over $86 a barrel.

The International Energy Forum (IEF), based in Riyadh, Saudi Arabia, assumes that the global demand for crude oil will return to pre-pandemic levels in the second half of 2022. This is based on the assumption that no new coronavirus variants will cause major lockdowns in China, which would lead to a decline in demand for fossil fuels and another price collapse.

After all, China is still pursuing a zero-COVID strategy and has quarantined huge container ports, factories and entire regions, sending them into lockdown without hesitation.

Nobody knows where the price of oil will settle in the coming year. But it is not likely to be as cheap as it was in 2020. At one point, the oil price temporarily plummeted to around $20 a barrel.

At the end of April 2020, unprecedented events took place on futures markets due to collapse in demand based on industrial lockdowns in China and Europe. On April 20, the price of West Texas Intermediate crude oil turned negative for the first time in history. In other words, buyers practically got extra if they took oil from the dealers — because they no longer knew where to put it.

For industry and consumers, this means that 2022 will remain just as expensive for car drivers at gas stations, as well as for companies that have to transport their goods from A to B.

There is one consolation though: Prices are still a long way from the all-time high of July 2008. At that time, a barrel of North Sea Brent crude oil cost more than $147.

Blame VAT and CO2 pricing

According to data from Germany's Federal Statistical Office (Destatis), the cost of energy has risen more than 18% within a year to the end of October. Two factors play a key role in this price surge.

There was a temporary reduction in value added tax (VAT) from 19% to 16% in the second half of 2020. On January 1, 2021, that went back up to its previous rate.

In addition, the CO2 tax introduced by the previous government resulted in higher energy prices. Every ton of greenhouse gas produced when heating with gas or oil, like every ton of CO2 that gasoline and diesel cars emit, has cost €25 since the beginning of 2021.

The AvD automobile club calculated that this CO2 tax had made every liter of gasoline more expensive by around 7 cents, and a liter of diesel more expensive by almost 8 cents in the past year.

Electricity will also cost more rather than less, because the energy crunch in Europe is continuing. European utilities have to burn more gas, coal and oil in winter because of the cold weather, as renewables fail to fill the gap.

A look at the futures markets doesn't seem to reveal any easing of this trend. Most recently, the prices for electricity to be delivered next year climbed almost 11% in Germany, and 7.7% in France, an all-time high. And the high prices this month are already affecting futures contracts for years to come. 

Cold winter would sustain price increases

"Winter is far from over," warned Arne Bergvik, chief analyst at the Swedish energy company Jamtkraft. Speaking to Bloomberg, he said a cold start to winter would lead to "high energy prices for the rest of the season," because that means less and less stored gas or hydropower to go around.

The world has been grappling with energy shortages since the big economies started to recover from the pandemic and demand skyrocketed compared with the global economic slump in 2020. At the same time, supply is limited because less money is being invested in fossil fuels for years.

At the beginning of December, the International Energy Forum said investments in oil and natural gas production would have to be increased to $523 billion per year by the end of this decade in order to stop further sharp rises in energy prices.

The fact that the Organization of Petroleum Exporting Countries (OPEC) has been limiting its production for years in tandem with other producers such as Russia has also ensured that supply is scarce and prices stay high.

No help from German government

The fact that fossil fuel energy is becoming an expensive commodity is no surprise to the German government. In fact, it is a tool they are using to help make the economy climate-neutral more quickly. Indeed, the price for every ton of CO2 is set to increase by a further €10 every year.

This should make it ever less attractive for drivers and companies to use gasoline or diesel cars.

All things considered, it seems unlikely that there will be cheap energy in abundance again at any point in the foreseeable future. Energy will only really become cheap again if global demand collapses, as it did with the outbreak of the COVID-19 pandemic in spring 2020. 

This article has been translated from German.