Welcome to the energy price shock of 2022 created by so many policy errors

by Shaun Richards

This morning there must be some disappointment and maybe a little confusion at the Bank of England. Having voted last night and after all the hints presumably voted to increase Bank Rate by 0.25% to 0.5% or if you prefer what was the emergency level post credit crunch they find that they have been rather sidelined. Their plans for a grand flourish to capture the news have been neutered somewhat This is because the UK energy regulator Ofgem announced this yesterday.

On Thursday 3 February at 11 am, Ofgem will be announcing the level of the energy price cap from 1 April 2022.

This brings a lot of things into play and let us start with the fact that after 11 am we will know by precisely how much domestic energy bills will rise rather than just estimating it at around 50%. That of course links into the Bank of England move which has been driven ( kicking and screaming ) by higher inflation to begin to respond. But more fundamentally there has been a complete failure of energy policy over years and indeed decades.

UK Energy Policy

The push for renewables ignored the reality that they are unreliable and rather than planning crossed fingers and hoped for the best. As it happens 2021 was a bad year for wind power and we have so far failed to make much progress in the fact that solar only works for some of the day and does not work at all at night. So storage is needed if we wish 24 hour power and the truth is that little progress has been made. I was assailed on social media for a while by those who claimed that their car batteries could be used although this never really explained how they would then use their cars? Anyway they have gone quiet, so maybe that occurred to them eventually.

Even before that there was the failure to invest in nuclear power which goes back to the Blair government. This has got worse as we see that the lead times for new nuclear power stations have got longer partly no doubt due to the fact that they were out of favour. Next comes the issue of gas and coal which as greenhouse gases were incredibly out of favour and then as panic hit suddenly in demand.

We are collaborating with governments and market operators on supply of additional volumes of natural gas to Europe from diverse sources across the globe.

That is from the European Commission and highlights the next part of the problem which was that government’s pretty much worldwide were doing the same thing. So should things change there would be a mob going for the exits and thus price rises would hardly be a surprise. There are of course nuances for example in an act of breathtaking stupidity the UK closed its gas reserves whereas Europe kept some. Also the UK has gas but has chosen not to develop new fields, so looking ahead the problem looks worse which is an issue when we get to the planned response.

The issue over coal and the UK is even more longstanding as it was the Thatcher government which started closing coal mines. We have lots of it butt have chosen not to use it. How is that going? Most days this winter we have been burning coal and as I type this we are burning 1 GW of it. That is on a mild winter day when we have 11 GW of wind. What would happen on a cold still day does not bear thinking about. Also we were told it is over whereas reality is this.

CHART OF THE DAY: Benchmark coal price in Asia has surged to a ***record high*** of $261.4 per tonne, according to the weekly IHS Markit / Argus index. ( @JavierBlas )

Now readers will have different views on different parts of this but I would oint out we have had loads of promises about improvements to “green energy but apparently other types cannot improve. Regardless of your view the situation is that it has driven energy prices much higher and could yet get worse as the same problems may even get worse.

A Cunning Plan

Her Majesty’s Treasury will have been burning the midnight oil for some time now thinking about what to do? They have managed to find themselves in a self-inflicted situation where the large energy price rise will come just before they raise National Insurance rates. So they will be withdrawing aggregate demand as they see inflation which of course will also reduce aggregate demand once we exclude energy. The April 1st date is appropriate as their policy has been that of an April Fool.

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So what do they plan to do? From the Financial Times.

The chancellor is expected to cut £200 from all household energy bills, according to those briefed on his plans, with money loaned to power companies which will be passed directly to consumers.

So we are going to go into debt to reduce our bills now? Or if you prefer that poor battered can is going to receive a kick into the future.

Sunak will attempt to claw back that money later, when wholesale energy prices fall, through a levy on future bills, according to people briefed on the plan.

What happens if prices do not fall? We will be left with higher bills and more debt. That thought has occurred to the suppliers who will be left with the problem.

Energy industry executives are warning that measures taken now to ease the pain of April’s price increase could prolong the energy price crisis for years, as loans to suppliers to fund the £200-per-home rebate will have to be recouped via bills for years to come.

Also the Treasury itself will be a winner.

Meanwhile, the Treasury should benefit from a corresponding reduction in retail price inflation by lowering the cost of servicing its inflation-linked gilts, which are based on the RPI.

Reducing the RPI figure by around 0.4 percentage points would save the Treasury about £2bn a year on almost £500bn of outstanding index-linked gilts.

 

Comment

This is going to be a bad day especially for those who are struggling to pay their energy bills as it is. Let me add in another policy failure which is the issue of Smart Meters which have often turned out to be anything but and last time I checked had cost something like £15 billion. That seemed fine to some when energy prices were low but now?

Also if we look at taxes we seem to be raising one ( National Insurance) so we can loan ourselves money whilst apparently now also cutting taxes. From Politico.

Council tax cut: It appears Sunak will be taking a dual approach to help save households money. The Times’ Steve Swinford and Emily Gosden say there will be council tax rebates for millions of people in bands A to C, with the poorest households getting the biggest cut.

The problem of the can kicking approach is that the future for energy prices is presently looking anything but bright.

Energy companies have also questioned whether the measures will have to be repeated in October, when analysts anticipate a further sharp increase in the price cap to as much as £2,450 per year, based on forward energy prices.

So we borrow even more in October? I would point out that we seem to have waited until borrowing is more expensive. The cunning plan looks like one from Baldrick in the comedy series Blackadder.

If we now return to the Bank of England on what should be a “Super Thursday” for it I have two thoughts for you. If it really believed in inflation targeting it would have done this at least 6 months ago. Secondly whilst it is responsible for some of the inflation we are seeing and indeed the impending cost of living crisis. Some if it has been caused by the disaster which is energy policy both in the UK and abroad.

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