Energy Markets in Crisis
Wholesale energy prices rarely make the mainstream news, so when they do, it’s usually at the point of reaching some kind of crisis point. Over the weekend of the 18th and 19th of September 2021, we reached one of those crisis points, and to levels previously unseen.
In the past, we have had suppliers fail because of their exposure to volatile markets, lack of cash reserves, tight margins, and questionable hedging strategies, but this time we are seeing something that is in a different stratesphere, with prices reaching levels that have now made many business models unviable, and left multiple energy suppliers exposed including some of the biggest domestic suppliers in the UK with millions of customers watching closely to see how this will play out.
But while it may seem like this has happened overnight, this is a scenario that has been playing out in slow motion over the course of 2021 and for those that have been tracking it, this has only been a matter of time until the cracks began to show – a question of when, not if.
The cost of wholesale energy has been steadily increasing since the beginning of 2021 in anticipation of the UK economy opening back up. From March 2021 we have seen an acceleration on an exponential scale, leading to prices for some seasons 4 times higher than we would usually expect.
UK NBP GAS – SEASONAL FUTURE DEVELOPMENT
There are going to be many direct and indirect impacts of the current crisis:
Among those that will be directly impacted by the current crisis will be Energy Intensive businesses and energy suppliers.
- For energy-intensive businesses, how big of an impact the current crisis will have is mainly down to how their buying strategy has performed. For those that are following a day ahead strategy, which would normally see significant gains against a forward buying strategy, the current conditions are firmly against them, leaving some with no option but to stop manufacturing until it is financially viable to do so.
- Energy suppliers will be left exposed to the current market highs mainly due to the cap on domestic energy unit rates. This means that the maximum unit rate they can charge customers will be much lower than the rate they will need to pay generators.
The indirect implications of this crisis could be huge, ranging from impacts on the fresh food and drink industry supply chain, how domestic energy bills might see increases, domestic customers finding themselves without an energy provider, and how government levies on energy are recovered from failed suppliers.
- The CO2 shortage caused by the shutdown of some manufacturing plants last week is the first indirect impact we are seeing in this crisis. Without CO2, the fresh food industry cannot operate. The only way to fix this would be to make those energy intensive businesses models viable again, through some form of financial package. But will Government be able to support this or will they see this as the first in a long line of issues that will result from this crisis that they can ill afford to fix?
- For domestic energy customers, the issues actually stem from the price cap which was designed to protect households. Whilst it has provided the required cover on this front, it is the suppliers in this scenario who will end up paying the price. The government will have to look at how they can raise the cap to allow suppliers to recover more of the exposure from consumers, but this will need to be balanced to avoid a policy that could effectively put many household energy bills up by 100-150% overnight.
- If suppliers aren’t able to recover this exposure then we will likely see supplier failure on a scale never witnessed, causing hundreds of thousands if not millions of households to find themselves going into the Supplier of Last Resort (SoLR) process. This is a process that sees domestic customers transferred from one supplier to another, where agreed unit rates can be altered and customers unable to switch to preferred suppliers until the lengthy process has been completed.
- Another knock on effect of supplier failures is how any unpaid Renewable Obligation (RO) is recovered. RO is a levy applied to domestic and business energy rates which equates to around 20%. This is collected by the supplier to be passed through to the Government to support subsidies for renewable energy generation as part of the UK commitment to clean growth. These monies will have to be recovered from other suppliers meaning retrospective charges for mainly business customers.
So we’re expecting this story to continue to run in the mainstream media until the knock-on impacts have been solved, mainly the shortage of C02 impacting the fresh food supply industry and the likelihood of some of the largest domestics energy suppliers going into administration.
The possibility of support packages for both issues seems likely, although they would only address the symptom of the current wholesale energy markets and not the underlying issues. Our energy system is in transition, towards a cleaner, greener future, but it needs to find the right balance between sustainability, security of supply and affordability. Until it does, future events like this will become more likely and more frequent.
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