Fuel shortages, energy price rises, a worldwide pandemic, all following Brexit. Each of these could be described as “black swan” events; but is the current spike in wholesale gas prices really a one-off event?
The well-reported rise in wholesale gas prices and their impact on wholesale electricity prices, whilst unprecedented in magnitude, is actually nothing new. A similar situation occurred in 2018, which precipitated the failure of a raft of challenger energy suppliers.
The situation now, as it was then, highlights the UK’s reliance on external sources to meet its energy demand and how factors completely outside the control of energy users and the Government influence the availability of gas and electricity and therefore its cost.
The current and short-term demand for gas is greater than supply, as the world economy recovers from the pandemic. This is particularly the case in the far east, where consignments of liquified natural gas (LNG) are ending up.
Whilst the UK receives no gas directly from Russia, the restricted flow of gas into Europe to put pressure on Germany to consent to a new Russian gas pipeline has a knock-on effect on the UK’s gas supply.
The UK has made great strides in recent years to decarbonise the generation of electricity, but whilst there is very little electricity generated by coal-fired power stations, the uncomfortable fact is that burning gas still makes up a large proportion of the electricity generation mix (35.6% in 2020).
The level of grid-connected renewable energy generation, particularly wind, has doubled in output since 2016 to 24.2% of electricity generation; however, this source of electricity generation is intermittent. Wind speeds are 20% lower than average, which has contributed to leaving the system short and thus placing extra demand for gas and coal-fired generation.
The UK can also import electricity from France, but unfortunately, a 2GW connection was shut down this month due to a fire, further squeezing electricity supply margins.
Is it fair to label failed energy suppliers as badly run?
Retail energy supply companies have taken a lot of stick recently from the press and even from the Secretary of State for Business Energy and Industrial Strategy, suggesting those that have failed are badly run. These comments and reporting are very unfair, verging on libellous. I have little sympathy for those that have essentially gambled by not buying expected energy volumes on forward contracts.
However, many well-run “small” energy suppliers (the largest to fail so far had over 0.5M customers) had risk management strategies in place to avoid undue exposure to the massive spike in wholesale energy prices. These suppliers have called in the administrators because the institutions that provided their hedging facility (banking institutions and larges gas producers) unilaterally cancelled those contracts, leaving the energy retailers completely exposed to the spot market.
Most retail energy suppliers had already been running at a loss for the last few years. A major problem is the UK Government imposed a price cap that protects domestic consumers in the short-term and wins positive headlines but is too crude to reflect the complexity of how wholesale energy markets operate — either nationalise the energy industry or don’t. This halfway house is broken and will cost domestic customers, particularly the most vulnerable in society, more money.
Black Swan or Poor Planning?
There is also the fact that the UK has some of the lowest gas storage capacity across Europe, with a little more than 2% of demand compared to 25% in Germany. Due to factors such as a cold winter last year, those reserves are over 20% less than in September 2020 ahead of this winter.
It was announced in 2017 that Centrica would close the UK’s largest gas storage depot at Rough. It was widely reported at the time that this would increase the UK’s reliance on LNG imports from the Middle East and inevitably increase the volatility of wholesale gas prices.
This isn’t hindsight, it is simply very poor planning to ensure the UK’s energy resilience.
The danger during this current crisis is that we focus on potential short-term solutions to the gas supply issue such as fracking. It’s absolutely right to focus on ensuring the UK is energy self-sufficient but burning more fossil fuels is not the answer.
Energy consumers can take immediate action now to understand how they can use less energy through energy efficiency measures and generate their own energy (electricity and heat) onsite through the deployment of a range of technologies.
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