The Energy Crisis

Companies Struggle with High Energy Prices

The ifo surveys illustrate the impact of the energy crisis on companies. Business expectations recovered due to the abatement of the coronavirus pandemic, but in some sectors they are now more pessimistic than ever before. Material bottlenecks and high energy prices are leading to rising price expectations. Orders in the construction sector are being canceled. The energy-intensive chemical industry is cutting back production and the current situation is in decline. Business expectations for manufacturers of glass, ceramics, stone, and other nonmetallic minerals have fallen to their lowest level since 1991. Germany is sliding into a recession.

How Are Natural Gas and Electricity Prices Related?

In recent months, gas prices have risen due to a shortage of supply coupled with high demand to fill gas storage facilities. But why do natural gas prices make electricity prices so expensive, even though natural gas accounts for a relatively small share of the electricity mix? A normal electricity price in Germany was 50 euros/MWh up until the coronavirus pandemic. Then as now, however, it fluctuates strongly over time. If the feed-in from wind, solar, and hydropower together is high, then the price tends toward 0 euros/MWh, because these generators have no or negligible variable (or marginal) costs. Even negative prices are possible, reflecting the inflexibility of nuclear, lignite, or older coal-fired steam power plants. For these it is sometimes too expensive, too risky, or not even possible to shut down quickly and then ramp up again in the next hour. In the past, if the wind did not blow or the sun did not shine, the electricity price could well rise to 100 euros/MWh or more, because more expensive gas-fired power plants had to be added during this time. However, electricity generation in these power plants has now become massively more expensive. The upshot is that the price of electricity is always as high as the marginal cost of the most expensive power plant in operation (the marginal power plant). This principle of marginal pricing is the only efficient pricing system for electricity known to date, especially with high shares of fluctuating solar and wind power, and yet it is repeatedly called into question.

Acting in a Coordinated Manner in the EU to Increase the Energy Supply

Against the backdrop of rising energy prices, domestic political pressure is growing on Europe’s national governments to take action to reduce prices directly. The negative consequences for Europe as a whole are often ignored in the mostly national debates. Cross-border effects interfere with other measures that are actually urgently needed. One effective step to relieve the gas and electricity markets is to reactivate decommissioned coal- and oil-fired power plants and to extend the operating lives of nuclear power plants. This allows less gas to be used for electricity production. There is an incentive problem here in that a greater supply of electricity and reduced gas demand benefits all of Europe, not just the country acting in each case. Effective crisis management in this energy crisis requires European coordination.