After reaching astronomical heights in the summer of 2022, European gas prices fell sharply in the autumn of that year. And following a brief spike in the summer of 2023, they then fell again. By February of 2024, they were not far from their pre-war average. Was the crisis finally over?
Alas, no. For the past twelve months, prices have been steadily rising and are now more than three times higher than their pre-war average. On 10 February, they surged above €58 per megawatt-hour, the natural gas equivalent of paying $100 per barrel of oil. “Absolutely destructive for energy-intensive manufacturing,” was the comment from Javier Blas, Bloomberg’s energy man.
Why are prices rising? Two reasons. The first is that, having been relatively lucky with the weather in 2022 and 2023, Europe faced a much colder and less windy winter in 2024: frigid temperatures have pushed up gas demand, while the lack of gusts has reduced supply from wind generation.
The second reason is that a transit agreement allowing Russia to supply gas to Europe through Ukraine – via its ironically named “Brotherhood” pipeline – came to an end in December. Despite the two countries being literally at war, Russia was still paying Ukraine transit fees for gas, and Ukraine was still allowing gas to pass through its territory, until just a month ago. Understandably, Ukraine chose not to renew the agreement this time.
Rising gas prices are having predictable effects on manufacturing output, as the quote above from Blas makes clear. The chart below plots a production index for energy-intensive industry in Germany since 2015. (That’s the sector most affected by high energy prices).
As you can see, the index remained stable from 2015 to 2020, and then quickly recovered after the pandemic. Yet it fell more or less continuously from late 2021 to late 2023. (Recall that Russia began reducing gas flows to Europe in late 2021, as a kind of intimidation tactic.) After a brief recovery at the start of 2024, when gas prices came close to their pre-war average, it has fallen again over the last six months.
Energy-intensive production is now substantially lower than it was even at the height of lockdown. And the data here only go up to December: since there’s a lag between prices and production, and prices have risen further since December, it’s likely that production is now even lower than indicated on the chart.
As you might expect, cratering energy-intensive production is dragging down industrial production more broadly, and largely explains why the country’s GDP hasn’t risen at all since 2019. With population increasing, this means that German living standards are now lower than they were five years ago.
One option for European policymakers would be to sign new LNG contracts with countries like the US and Qatar. The problem is that LNG is much more expensive than pipeline gas (owing to the inherent costs of transportation and “regasification”) and the only way to secure lower prices from suppliers is to sign long-term contracts. Yet nobody’s quite sure whether Russian pipeline gas will start flowing again once the Ukraine war ends, so parties on all sides are wary of entering into such contracts.
Europe’s present strategy, of hoping things just kind of work out, doesn’t seem very promising.
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