Why are energy prices so high?
While it seems like the energy crisis hit out of nowhere, there are longstanding reasons for the situation, and they mainly stem from the collapse of oil prices in 2014.
At the start of the 2010s, strong growth in the price of commodities created an oil industry boom, with prices sitting around $100 per barrel. The boom encouraged greater investment in the sector, significantly increasing supply. Similarly, developments in energy efficiency reduced worldwide demand, thereby creating an oil glut. However, major oil-selling countries failed to respond by lowering supply, and as a result, oil prices fell by 70% from 2014 to 2016.
One implication of this collapse was that investors lost appetite for new fossil fuel investment. Second, abundant oil also created a natural gas glut, making gas cheaper and a viable alternative for coal. Due to this, gas-fired plants gained ground, and the electricity systems worldwide began to rely more on gas instead of coal.
By the time COVID came around, the pause in fossil fuel investments was already several years old, and as Bloomberg reports, supply was already falling behind demand. COVID-19 tanked energy production globally due to lockdowns, the rampaging pandemic, and health regulations. While demand rebounded faster and stronger than expected, supply quickly fell further behind due to unexpected outages, a sizable maintenance backlog, and supply chain inefficiencies. Households and power plants began to compete for limited gas supply, which helped increase prices even more.
Currently, OPEC and Russia seem unwilling to intervene and help stabilize prices with increased supply. At the same time, the EU and other countries in the Northern Hemisphere have all but depleted their reserves in response to unseasonal weather, thereby leaving them unable to ease the supply hardships within their territories.
That said, I should note that climate policy is not exactly blameless in the overall operation of forces leading to this crisis. For example, increasingly stringent emissions targets in Europe, North America, and China have contributed to policies favoring gas (which is cleaner) over coal. But in the general scheme of things, climate policy has had a negligible effect on the crisis.
What will the new year bring?
The causes behind the current energy crisis are myriad, so it’s uncertain how things will develop within 2022. While major oil producers will likely open up their stores and help provide stability at some point during the year, other factors such as maintenance difficulties and destructive weather events are less certain.
I believe one potential solution could be to increase investment in renewable energy sources to help make the global system less vulnerable to wild swings in commodity prices. With decentralized energy production and renewable sources enjoying more production capacity, the world can recover from these commodity cycles quicker and suffer less damage as a result.