But the damage is being done. John Kemp leads us off:
Europe’s gas and electricity prices are setting record highs on a daily basis and rising at an accelerating rate as the market tries to destroy enough demand to protect depleted inventories ahead of the winter. Gas storage sites in the European Union and United Kingdom are currently just under 76% full, compared with a ten-year seasonal average of almost 90%, according to data compiled by Gas Infrastructure Europe.
In the last decade, storage has emptied by an average of 57 percentage points over winter, but depletion is highly variable, ranging from a minimum of 38 points in 2013/14 to a maximum of 71 points in 2017/18.
If this winter sees an average drawdown, storage sites would be reduced to just 19% full by next spring, the second lowest for a decade, leaving the region with a persistent gas shortage next year.
If the winter sees a moderately strong draw, in the 75th percentile, storage would be reduced by 68 percentage points to a record low of just 8% next spring, increasing the probability supply will actually run out in some areas.
If the winter sees a maximum draw, similar to 2017/18, storage would be almost exhausted by next spring, making local shortages almost inevitable.
Futures prices are rising to avert this threat by rationing demand now to conserve inventories and reduce the risk of running out later in the winter.
Sharply rising prices are the reason wholesale markets (such as European gas) rarely run into physical shortages, unlike retail markets (U.K. gasoline and diesel) where price rises are typically more limited for commercial and political reasons.
Europe’s gas and electricity prices are likely to remain elevated until there is clear evidence that they have begun to reduce demand and conserve inventories.
There are tentative signs the inventory situation has already improved slightly since late August in response to much higher prices, but the market may need a much stronger signal of conservation before prices fall.
The most likely early signs of conservation are temporary factory closures (especially energy-intensive users); reductions in central and local government energy consumption (street lighting and building temperatures); and reductions in commercial and residential consumption (building temperatures).
Until there is a clear signal consumers have begun to respond by reducing gas use, prices are likely to remain exceptionally high to avert a much worse situation early next year.
I think that is right, for now. But how high we go to destroy that demand is already being tested in Asia:
Asia liquefied natural gas (LNG) spot prices surged by 40% to a record high of over $56 per million British thermal units (mmBtu) on Wednesday, amid a global energy crunch, low gas inventories and mounting supply concerns.
Price agency S&P Global Platts’ Japan-Korea-Marker (JKM), which is widely used as a spot benchmark in the region, climbed to $56.326 per mmBtu on Wednesday for a cargo delivered into North Asia in November, recording the largest single-day price increase of $16.65 from Tuesday, its data showed.
If iron ore at $200 was crazy then LNG at $56 is outright lunacy. The market still has an underlying glut!
Not that that matters right now. The apparent market balance is in outright panic. Why? John Authors sums it well:
Finally, there is the issue of Russia’s role as a gas exporter to Europe. This could be held to involve malign or Machiavellian behavior by a country keen to isolate Ukraine and supply Germany through the controversial Nord Stream 2 pipeline. But as Helm pointed out, the problem runs deeper, and involves policy mistakes in western Europe. As Helm put it:
Russia is the first immediate cause of the current gas crisis. Russia claims that it is fulfilling all its gas contracts. Presumably it could add some spot gas too, and especially at these prices… Did nobody see what was going on, as storage in Europe remained unfilled, the German election approached, and Biden engaged with the Ukrainian government? The Russian motivations surrounding NordStream 2 have always been in plain daylight for all to see. There have been repeated attempts to manipulate supplies through Ukraine since Putin came to power, and the Nord Stream pipelines have all the hallmarks of a Russian–German project bypassing the Baltic States and Poland, and deliberately isolating Ukraine. The EU failed to centralise its buyer bargaining power, as DonaldTusk once proposed, and allowed Russia to divide up the market and exploit its market power. Nothing unpredictable about all this.
For further evidence that this crisis is above all about Russia, Wednesday’s market turn and the sudden fall in gas futures came after Vladimir Putin voiced some willingness to help. This is what he said, as translated by the Financial Times:
“Let’s think through possibly increasing supply in the market, only we need to do it carefully. Settle with Gazprom and talk it over,” Putin said. “This speculative craze doesn’t do us any good. ”That’s true, but he could have done this a while ago, and he is offering no specifics. The strength of the market reaction showed both that the previous rise had become extreme, and that traders genuinely feared Russia would do nothing to ease the crisis. There is a decent chance that Putin has marked the top, but prices remain extreme, and more progress is needed.
That energy prices are already at their peak is debatable. That they are high enough to derail production is not. China ism panic buying energy commosities while slashing the output of anything remotely energy-intensive. This has led to the bizarre situation of skyrocketing Baltic Dry:
The cost of shipping goods from China to the US has finally slumped. The chart below shows the spot rate (that is, the rate it costs to take a shipment half-way round the world ASAP) for taking a 40ft container from China to the US West Coast halved between September and October:
It is, industry bods note, largely the result of Covid-19 outbreaks and power shortages in China. So will prices remain this low? Shabsie Levy, founder and CEO of Shifl, thinks so, arguing that agents who took advantage of price increases and congestion by buying up capacity are now (perhaps sensing the market has peaked) looking to unload it fast.
“For shippers [somewhat confusingly, a term that refers to exporters and not the shipping lines] with inventory still in China, access to capacity at rates is great news,” Levy says. “But the big question now is whether or not there will be products to fill these containers.” Levy adds: “These rates could go even lower. We’re already seeing long-term rates for shipping 40-foot containers from China to the U.S. go below $5,000.” This is still considerably more than pre-pandemic rates.
Still, lower prices than we’ve seen over the past 12 months would indeed be good news for the world’s makers. Especially for those smaller firms that have found themselves priced out of a market that has favoured the world’s manufacturing and retail behemoths.
We are not quite as optimistic we’ve seen the end of it, though. Congestion in the US’s busiest port complex, LA and Long Beach, is likely to remain dire for some time yet. And then there’s the demand surge from Christmas to consider. Rates may edge a little higher than current levels in the coming weeks as retailers in the US and Europe continue their preparations for the holiday season. Though September 2021 may have marked the peak of what has been a spectacular rise in the cost of shipping.
At a certain point, the slowing global economy will combine with demand destruction to crash the energy panic. Probably right about the time that supply adjusts as well so I do expect a crash in the energy complex.
However, the northern winter combined with low inventories that will need to be restocked means that we are not there yet.
David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal.
He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.
