The Energy situation in Europe is dire. Europe’s energy crisis has left few businesses untouched, including steel, aluminum, automobile, glass, ceramics, sugar, and toilet paper makers. Some industries, such as the energy-intensive metals sector, are shutting factories that may never reopen, resulting in thousands of job losses. The growing energy crisis created originally by the underperformance of renewable energy was exacerbated by the Russian invasion of Ukraine resulting in Russia’s closure of the Nord Stream 1 pipeline due to sanctions imposed by the West. Europe is struggling to have enough energy to get through this winter and if sufficient conservation does not occur, the continent may have to ration energy supplies. Most European governments prefer to slow and/or shut factories now to cutting off power to hospitals and schools over the winter by targeting demand reductions of 15 percent. Meanwhile, Europe is facing skyrocketing energy costs.
European Union
To help consumers from skyrocketing energy prices, the European Union plans to obtain over 140 billion euros ($140 billion) by taxing revenues from low-cost electricity generators and profits of fossil fuel companies. The Commission proposal would impose a cap of 180 euros ($180) per megawatt hour on the revenue that wind, solar, nuclear, biomass, lignite coal and some hydroelectric plants receive for generating electricity through March, which would cap generators’ revenues at less than half of current market prices. The limit would be applied after power transactions are settled, so it would not directly affect prices in Europe’s exchange-traded electricity market. EU power prices are typically set by natural gas, whose prices have soared. Germany’s front-year electricity price was recently trading at just below 500 euros per megawatt hour. The situation in Germany has gotten so desperate the government is reportedly considering the nationalization of its energy companies. The European Union is also planning to overhaul its electricity market pricing to decouple power prices from the cost of natural gas generation.
Further, oil, natural gas, coal and refining companies would be taxed 33 percent of their surplus profit in fiscal year 2022. Surplus profits are defined as those 20 percent above a company’s average taxable profits in the last three years. Some countries including Italy have already introduced a windfall profit tax on energy firms. The EU would put in place a minimum rate for all EU countries, but governments could choose to go higher.
The EU is also proposing a mandatory target for countries to cut electricity by 5 percent during the 10 percent of hours with the highest electricity demand each month. National governments would be responsible for designing measures to lower demand.
Despite EU’s gas storage caverns being 84 percent full, without more Russian natural gas being supplied via Nord Stream 1, the EU is unlikely to avoid shortages.
United Kingdom
In the UK, Prime Minister Liz Truss is freezing utility bills, rather than allow the 80 percent increase proposed by the energy regulator to take place in October. Average prices for British households, which are set under a cap, increased by 54 percent in April to 1,971 pounds ($2261) and are due to increase 80 percent to 3,549 pounds ($4,071) in October. Average household energy bills would be kept at around 2,500 pounds ($2,868) a year for two years, costing the country upwards of 100 billion pounds ($115 billion). The government would pay energy suppliers the difference between the new cap and the price suppliers would have charged customers were the cap not in place.
Businesses will also be given support, with details as yet to be ironed out. Deutsche Bank estimated that the energy price offset plus tax cuts that Truss has promised could together cost 179 billion pounds ($205 billion)—about half the amount that Britain spent on the COVID-19 pandemic.
Truss is also introducing new energy supply by dropping a moratorium on hydraulic fracturing and issuing a hundred or so new oil and gas exploration licenses for the North Sea. Prior to that announcement, British lawmakers approved a 25 percent windfall tax on oil and gas producers’ profits in the British North Sea, which the government believes will raise 5 billion pounds ($5.75 billion) in one year to help people deal with higher energy bills. It will be phased out when commodity prices return to more normal levels, according to British lawmakers. The windfall profits tax, however, may limit the number of licenses that oil and gas companies apply for and how much investing they will do to develop those fields.
Replacing Market Forces
By replacing market forces in determining supply and demand, policymakers are not letting price determine the balancing point between demand and supply. If revenues are capped, there may be insufficient funds for an entity to continue to invest. If rationing occurs, policymakers will have to decide who gets what energy, and when, which can be a difficult undertaking fraught with political considerations. Multiple industry lobbies will insist that others should shoulder the burden of rationing. From steelmakers to fertilizer producers, each business will consider theirs essential.
Conclusion
With winter approaching, European countries are struggling to contain a growing energy crisis that could lead to rolling blackouts, shuttered factories and a deep recession. Russia cut natural gas exports partially or entirely to Europe, using natural gas as a weapon against the West for imposing sanctions for its invasion of Ukraine. The EU has asked for countries to cut demand by 15 percent and are taxing electric generators that produce electricity for less than a pre-determined price cap to pay a tax on the surplus. Along with that, fossil fuel companies are taxed 33 percent of their surplus profits. Interfering with markets can be dangerous and backfire if there are not enough profits for future investment or if demand is not reduced sufficiently through voluntary cuts to balance supply and demand without rationing.
