The news of halting Nordstream 1 natural gas pipeline for 3 days starting on August 31st has quaked the market with natural gas being Germany’s major energy source for industry accounting for 31.2% in 2020, and 13% of the electricity produced in Germany and fed into the grid in the Q1 2022 came from natural gas, and 95% of natural gas in Germany is imported. Gazprom says the reason for shutting down is for maintenance; however, the world fears the “maintenance” period would be extended to an unforeseen date. Germany is already in distress as it had to pay Euro 15 bn to Uniper, the country’s largest importer of Russian gas when Russia sharply reduced flows forcing the country to purchase gas from other suppliers at skyrocketing prices. The distress was seen significantly in Friday's producer price data, which showed the sharpest recorded rises in July, both year-over-year (y-o-y) and month-over-month (m-o-m), as energy costs surged. As seen in figure (1), the producer prices of industrial products (domestically) in July increased by 37.2% y-o-y and 5.3% m-o-m compared to a y-o-y increase of 32.7% in June and 33.6% in May, according to the Federal Statistical Office. Energy prices as a whole increased by 105% y-o-y due to the hike in the prices of natural gas and electricity which increased by 163.8% and 125.4% y-o-y, respectively. High costs have already caused the closure of almost half of Europe's zinc and aluminum smelting capacity in the last year, with more on the way. Germany, which has been hit the worst, is facing a mass industrial outflow as producers of auto components, chemicals, and steel struggle to handle rising energy prices.
Germany's gas storage facilities have reached 75% capacity, two weeks ahead of plan, according to the country's top authority, as Europe's largest economy attempts to shore up supplies curtailed by Russia. " The first stage goal has been reached." tweeted Klaus Mueller, president of the Federal Network Agency. "Gas storage facilities are 75.43% full, the next target is now 85% by Oct. 1."
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Figure (1): Germany’s Producer Price Indices| Source: Statistiches Bundesmat (Destatis), 2022
Gazprom, the state-owned energy giant, has already limited flows through the Nord Stream pipeline to around 20% of capacity, noting turbine difficulties. Additionally, shipments from two of Caspian Pipeline Consortium's three mooring points at a Black Sea terminal have been suspended, claiming a broken pipeline as the reason. Also, the severe drought induced by a dry summer that set heat records across Europe threatens to interrupt energy shipments down the Rhine River while reducing hydroelectric and nuclear power generation.
Natural gas futures linked to TTF, Europe's wholesale gas price, were trading at €280/ MWh as supply concerns lingered. Experts predict that EU natural gas will trade at €271.65 /MWh by the end of Q2 2022, and it is expected that it will further pass the €350 level in 12 months.
Also, German year-ahead power, a European benchmark, is on a nine-day winning run. The contract jumped 6.1% to a record €570 per megawatt-hour, while French futures rose up to 2.8% to €720. Year-ahead coal contracts in Europe touched an all-time high of $311.50 /ton, while carbon-emission permits traded at all-time highs. German electricity for next year increased by more than 23% this week and is already trading nearly 11 times higher than the historical average.
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Figure (2): Dutch Front-Month Natural Gas Futures| Source: Bloomberg, 2022
As a mitigation, German authorities acknowledged over the weekend that the country may face challenges to substitute diminishing Russian gas supply. The administration intends to cut gas use by 20%. The government has asked customers to reduce consumption and lowered gas sales tax on Thursday to alleviate the load. Germany will temporarily reduce the sales tax on natural gas from 19% to 7% to lessen the pressures on individuals and businesses struggling with rising energy prices and facing a new charge in October. According to Sebastian Dullien, head of the IMK economic research center, lowering sales tax might cost the government around 14 billion euros. It will also cut around 0.7 percentage points from Germany's inflation rate in the remaining three months of this year, according to Dullien's tweets.
Not only European countries are facing a shortage in natural gas, but also other major economies such as the US; the US gas inventories are 13% less than the levels typically seen this time of the year as the scorching sun has hiked the demand for electricity.
And the questions remain when will the Russian conflict ends for the world to get back to its pre-pandemic stability.
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