The week of October 24, 2022: The (in)significance of lower natural gas prices in Europe, taxation, antitrust, and much, much, more.
The week of October 24, 2022: The (in)significance of lower natural gas prices in Europe, taxation, antitrust, and much, much, more.
T he price mechanism works.
CNN:
Europe has more natural gas than it knows what to do with. So much, in fact, that spot prices briefly went negative earlier this week.
For months, officials have warned of an energy crisis this winter as Russia — once the region’s biggest supplier of natural gas — slashed supplies in retaliation for sanctions Europe imposed over its invasion of Ukraine.
Now, EU gas storage facilities are close to full [around 94 percent, comfortably above initial targets of 80 percent], tankers carrying liquefied natural gas (LNG) are lining up at ports, unable to unload their cargoes, and prices are tumbling.
The price of benchmark European natural gas futures has dropped 20% since last Thursday, and by more than 70% since hitting a record high in late August. On Monday, Dutch gas spot prices for delivery within an hour — which reflect real time European market conditions — dipped below €0, according to data from the Intercontinental Exchange.
Prices turned negative because of an “oversupplied grid,” Tomas Marzec-Manser, head of gas analytics at the Independent Commodity Intelligence Services (ICIS), told CNN Business.
On the rare occasion that (spot) prices for a commodity turn negative (on this occasion, only for about an hour), it’s typically a sign of temporary market dysfunction. For example, West Texas also saw negative gas prices last week when production outstripped what pipelines could cope with. In these situations, negative prices simply mean that holders of the gas pay “buyers” to take it from them.
But, that blip aside, Europe’s energy crunch has not gone away. Today’s unseasonably warm weather and good levels of wind power will not last forever, and gas is still trading at around €108 ($108) per megawatt hour (based on the Dutch TTF benchmark). That’s slightly more than twice where it was at the beginning of October, 2021— a time when prices had already been surging thanks in part to post-pandemic disruptions and some early Russian game-playing.
CNN:
Prices could rise sharply again in December and January as the weather turns colder, providing an incentive for some of those tankers to wait offshore a while longer before coming into port to unload, said Booth.
Another CNN report makes the point that there could be a spike in demand for LNG from China when it emerges from its Covid isolation. And to that end, it’s worth adding that China has recently banned its importers of LNG from reselling it to buyers outside the country, a reminder that Beijing understands that the underlying LNG supply position remains tight. Indeed, the January 2023 gas price is currently around €141/MWh. That compares with a range of €70-€92 in January 2022.
And then there’s the winter of 2023/24 to think about. The ability to fill this year’s storage facilities rested in no small part on Russian gas. But there won’t be much Russian gas to refill them next year. To get an idea of the scale of the challenge, Russia had accounted for around 40 percent of Europe’s gas imports, but that figure now stands at 9 percent and will probably fall further. At best, LNG can only replace about half the missing Russian gas. That’s why prices next winter are forecast to be in the €150–200 range, somewhat above what the futures now indicate.
Qatar’s energy minister has already expressed his concerns about the winter of 2023/24, and he’s in a good position to know. Qatar is the world’s second largest exporter of LNG after the U.S., and it wants to export more. But adding capacity takes time, and has to make economic sense. It takes more than two cold winters to justify the investment. What ‘economic sense’ may mean will not be the same in Qatar as in the U.S., but building a new LNG export terminal in the latter will take 3–5 years. And it costs billions. That would be risky enough even without the potential intervention of climate policymakers.
Global Energy Monitor, April 2022:
Once deployed, export projects could take decades of LNG shipments to recover returns on investment—far beyond the resolution of Europe’s current crisis, and in direct contradiction with international climate goals. For the world to remain on an emissions pathway consistent with the Paris Agreement, the Intergovernmental Panel on Climate Change (IPCC) has called for global methane emissions to decrease 35% by 2030 and the International Energy Agency (IEA) has found that the LNG trade must peak in the middle of this decade.
Must: Something somewhere is going to have to give.
Meanwhile, at least two major projects in the U.S. are — in the words of a Bloomberg report — “inching forward.” But inching forward is not going to do the trick.
Europe also faces fierce competition from Asian buyers for LNG. However, it is adding much-needed import capacity. Turning to floating import terminals (FSRUs – Floating Storage and Regasification Units) rather than onshore installations is speeding things up. These terminals can, to grossly oversimplify, be “parked” offshore. And if one is available for charter, it can be ready to operate within the year. Germany has now chartered five.
But there are currently only around 50 FSRUs in operation worldwide, although another 19 were reportedly under construction at the end of 2021. It says something about European preparedness for this crisis that there were only four active FSRUs in service there at the end of 2021 — and that one of those was moored off Russia’s Kaliningrad exclave. It also says something that one of the others, subtly named Independence, was based in Lithuania.
The quickest way to add to the FSRU fleet is by converting an existing LNG tanker. This takes 18–24 months and costs $100–$150 million. The equivalent figures for a new FSRU are up to three years, and $300 million. Needless to say, there are capacity constraints for both newbuilds and conversions.
The Financial Times’s Chris Giles looks at lower European gas prices and takes a broadly optimistic view. His article is a hymn of praise to the way that people adapt to price changes.
The gas-hungry process of producing ammonia for fertiliser — a low value added business — ceased until a couple of days ago, with the bulk chemical imported from the US. Dirty coal and clean renewables have been used to substitute for gas in electricity generation. Analysis by Ember, a consultancy, has found that there was a record year-on-year increase in solar and wind electricity generation across the EU between March and September.
Ember, it should be added (although Giles doesn’t), describes itself as “an energy think-tank that uses data-driven insights to shift the world from coal to clean electricity.” As part of the “sustainability” eco-system, Ember certainly has an agenda, but there’s no reason to think that its numbers are incorrect. That said, given the amount invested (and still being invested) in wind and solar, it would be disappointing if there had not been an increase in the power they generate. Moreover, given that the problem arising out of wind and solar’s intermittency (the sun doesn’t always shine, the wind doesn’t always blow) has yet to be resolved, it’s fair to ask whether some of those billions would have been better spent elsewhere, not least on nuclear. Answer: They would.
Giles, I think it’s reasonable to believe, is a glass half-full man:
Most impressive of all has been the reduction in consumption of gas by both industrial and domestic consumers, not merely related to the mild weather. In recent weeks, Germany’s industrial use of gas has been around 20 to 25 per cent down on a year ago while its production in the sector was 2.1 per cent higher in August year on year. German household gas consumption is down similar amounts as families compete to see how far into autumn they can go without turning on the heating.
The statistic comparing industrial use with production is impressive on its face, but it would be interesting to see more like-for-like comparisons across countries. The message contained in this report from the Financial Times, for example, was published just a few days before Giles wrote his piece and is rather less upbeat:
On the surface, European industrial companies are putting a brave face on it — talking about the energy-saving measures they are implementing and the other costs they are finding to cut. While some are looking to coal and other fossil fuels to get them through the winter, others talk optimistically about the green revolution that the crisis is spurring.
But there is already evidence that major companies are reducing production in some sectors because of the energy shortage, even before the winter kicks in. And executives from chemicals to fertilisers to ceramics businesses warn that they risk losing permanent market share and could be forced to move some of their production to parts of the world that can offer cheaper and more reliable energy.
The alarm bells are ringing among Europe’s politicians. “We are risking a massive deindustrialisation of the European continent,” says Alexander De Croo, Belgium’s prime minister.
This earlier report includes examples of how some companies have responded to the challenge of higher gas prices with impressive displays of ingenuity, of which, doubtless there will be more to come. But that’s unlikely to be enough to head off trouble:
Gas is the single most important source of energy for Europe’s industrial companies. But gas is also an important feedstock, used in the chemicals and fertiliser industries. In total, industry consumes about 27-28 per cent of the bloc’s total supply, according to Anouk Honoré, deputy director of the gas research programme at the Oxford Institute for Energy Studies.
And:
[I]t is not that easy to cut the fuel out of many industrial processes. Roughly 60 per cent of industrial gas consumption is used for high-temperature processes of 500C and above, such as glassmaking, cement or ceramics.
Similarly, in a good number of cases temporary shutdowns are unfeasible because of the damage they do to machinery. Rather than closing their doors, other firms, as mentioned above, are moving production to facilities outside Europe where energy costs are lower. In many cases, such transfers will not be reversed. Still others are saying that future expansion will be located outside Europe, including in the U.S., where energy costs are (for now) cheaper. But if the Biden administration and its successors move on with decarbonization as currently envisaged, that is an advantage that will be thrown away in this country — something to bear in mind amid all the talk about the jobs that will be created by the energy transition.
The Financial Times, always on message when it comes to climate policy, ends the report on an optimistic note.
But there are those who believe the result of the crisis will be a stronger, greener industrial base. Companies such as Saint-Gobain, Solvay and Smurfit Kappa told the Financial Times they were all accelerating energy-transition plans that were in place before Russia’s invasion. Tony Smurfit, chief executive of Smurfit Kappa, says his company is “spending three times what we would have spent” under previous plans. So there are reasons to be optimistic. “This will accelerate the green revolution. Fifty years ago there were no options for green energy and now there are. I think this will make Europe very green.”
As green, perhaps, as a field where only grass grows.
The FT’s Giles concludes in a similar vein:
The price signal will encourage more investment in liquefied natural gas terminals and in interconnectors across Europe to create a single gas market. But most important, higher prices will lower demand for gas, both by encouraging the development and use of other means of generating electricity and, directly, by crushing the amount consumed.
No one should feel delighted they are paying more for energy this winter, but the price signal has done its job. It has forced Europe to adapt. Advanced capitalist economies are remarkably successful in this regard.
Setting aside the fact that “crushing” demand for gas —whether by the price mechanism or mandated decarbonization — is unlikely to encourage investment in LNG terminals, particularly for exporters, Giles is missing something else. Short-term adaptation has been impressive so far — although considerably more painful than he seems to imply — but over the long term many energy-intensive companies will adapt by moving more and more of their operations elsewhere. Investors who provide the capital that any enterprise requires may feel the same way about where their money should go.
Meanwhile, via the Financial Times:
BASF has said it will have to downsize “permanently” in Europe, with high energy costs making the region increasingly uncompetitive….
“The European chemical market has been growing only weakly for about a decade [and] the significant increase in natural gas and power prices over the course of this year is putting pressure on chemical value chains,” chief executive Martin Brudermüller said on Wednesday.
BASF, which produces products from basic petrochemicals to fertilisers and glues, spent €2.2bn more on natural gas at its European sites in the first nine months of 2022, compared with the same period last year.
Brudermüller said the European gas crisis, coupled with stricter industry regulations in the EU, was forcing the company to cut costs in the region “as quickly as possible and also permanently”.
The Capital Record
We released the latest of our series of podcasts, the Capital Record. Follow the link to see how to subscribe (it’s free!). The Capital Record, which appears weekly, is designed to make use of another medium to deliver Capital Matters’ defense of free markets. Financier and NRI trustee David L. Bahnsen hosts discussions on economics and finance in this National Review Capital Matters podcast, sponsored by the National Review Institute. Episodes feature interviews with the nation’s top business leaders, entrepreneurs, investment professionals, and financial commentators.
In the 90th episode David is joined by Vivek Ramaswamy, the author of the best-selling book, Woke Inc., to talk about a moral defense of markets. They go all around the horn in looking at where the Business Roundtable got it all wrong, where so-called “stakeholder” capitalism is an exercise in futility, and what market solutions exist to the so-called “Larry Fink problem.” An absolute premium episode.
You can read the transcript here.
The Capital Matters week that was . . .
International
The way that Germany allowed itself to become dependent on Russian (natural) gas is now widely seen as a massive geopolitical blunder.
What is sometimes forgotten is that Germany (or, in this case, its export sector) is also unhealthily dependent on another country that is, to say the least, no friend of the West….
National self-sufficiency does not mean that everything has to be made, grown, or mined in China, but it does mean that China wants secure supply lines for the resources it needs. One giant step towards achieving this goal has been made possible by Russia’s increasing economic isolation since its invasion of Ukraine. This has forced it to turn to China for an outlet to its goods, a turn that China has exploited — at a favorable price, naturally…
While many tried to portray the turmoil in the markets as a reaction to the planned tax cuts, it should not be forgotten that energy-price relief promised by Truss and her chancellor of the exchequer Kwasi Kwarteng amounted to £150 billion, which is three times as much as the tax cuts they planned to implement. Those lower taxes, by the way, would only reduce the overall tax burden in the U.K. to 35 percent of GDP, which is still higher than the 33 percent level dating from when Tony Blair became prime minister…
Regulation
“Regulatory capture” is the term that describes when an administrative agency works for the benefit of the industry it is supposed to regulate. Rarely is there such a clear case of regulatory capture as in U.S. water transportation.
Documents obtained by the Cato Institute through the Freedom of Information Act show the Maritime Administration (MARAD), a Department of Transportation agency, working with the water-transportation industry to try to thwart Jones Act waivers for liquefied natural gas (LNG) shipments…
When the U.S. federal administrative state began its march from novelty to leviathan over a century ago, few likely imagined the tangle of rules it would produce and how those would envelop society. Rules and programs have accumulated, decade after decade, with little retrenchment.
During former president Trump’s four years, there were some unique reversals, with an unprecedented attempt to make federal agencies streamline unneeded regulations and take steps like accelerating permitting for large-scale, private energy-infrastructure projects. The Biden administration immediately reversed even modest liberalizations such as Trump’s “one-in/two-out” directive along with a requirement that agencies publish their multitudes of sub-regulatory guidance documents online…
Healthcare
The new CDC/ACIP-approved schedules will place pressure on the remaining 28 states to mandate (or allow their localities to mandate) Covid vaccines, whether the shots have been approved or just authorized. This will likely create unnecessary strife and outrage among parents who, over the course of the pandemic, have come to doubt the reliability and clarity of CDC pronouncements. The vote and announcement were premature and counterproductive. But, unfortunately, that is what we have come to expect from the agency.
Financial Markets
AEP is not famous for his calm, and I don’t agree with one or two parts of the article, but he is right to cast a nervous eye over the Treasuries market…
The Fed
Central-bank independence is a good thing, and it ought to be preserved. But economic research supports independence as an effective way to control inflation. It does not support independence as an effective way to alleviate racial inequality or reduce the temperature of the planet. When the Fed tries to do things it can’t do, we shouldn’t be a surprise that the thing it can actually do — control inflation — gets pushed aside…
Energy
It was by no means certain (to put it mildly) that fracking could make a significant contribution to reducing the energy shortfall faced by the U.K. in the next few years, but the decision by Liz Truss to reverse Britain’s blanket ban on fracking was a sign that, unlike Boris Johnson, a climate fundamentalist, she took the country’s energy needs seriously…
Tristan Abbey, a former senior staffer on the Senate energy committee and at the National Security Council, has written a letter to Senators Joe Manchin (D., W.Va.) and John Barrasso (R., Wyo.) calling for a bipartisan investigation into President Biden’s releases of oil from the Strategic Petroleum Reserve.
Republicans have been criticizing the SPR releases for a while now on policy grounds, but Abbey is raising a different issue. “I am gravely concerned that the current administration’s ongoing series of sales from the Strategic Petroleum Reserve (SPR) threatens its operational viability,” he wrote in his letter, republished in the New Atlantis. “Never before has the SPR released so much oil, at such a rate, and over such a long period of time.”.
Antitrust:
Kroger and Albertsons’s recent decision to merge is a potential $24.6 billion deal that will likely interest the Federal Trade Commission. Antitrust hawks should be aware of two things about this proposed deal: the relevant-market fallacy, and how the deal fits into the grocery market’s century-long tradition of continuous change, disruption, and innovation…
There’s a bill called the American Innovation and Choice Online Act, introduced by Senator Amy Klobuchar (D., Minn.), which was designed to target Big Tech companies by stipulating that it applies to publicly traded companies with market caps over $550 billion and over 50 million monthly users in the U.S.
Meta’s market cap is now around $270 billion. It would no longer be subject to this bill that lawmakers designed to target it.
Free Markets:
Bono is nobody’s idea of a conservative. But this line from a recent interview should get conservatives’ attention: “I’m for different T-shirts these days. I still don’t like Che Guevara T-shirts. [Expletive] Che Guevara.”
Couldn’t have said it better myself…
Taxation:
In an earlier comment, Dominic Pino notes that the slump in Meta’s share price could make something of a mockery of the absurd (my word, not Dominic’s) American Innovation and Choice Online bill, a piece of legislation that, if passed, will improve innovation and choice online by about as much as the Inflation Reduction Act will reduce inflation.
But there’s something else to think about. President Biden and congressional Democrats have been pushing the idea of a tax (for the very richest Americans) on unrealized capital gains. It’s a bad idea for any number of reasons, but consider what it would have meant for Mark Zuckerberg had that tax been in force in 2021. He would have had to pay a large bill on paper “gains,” many of which were to evaporate within months….
In the post-pandemic world of remote work, many people can live anywhere and still take advantage of vibrant job markets such as Greater Boston’s. Recognizing this, 13 states are pursuing tax cuts, and ten more have already cut their taxes. Count New Hampshire among the latter category; it recently moved to phase out its interest and dividends tax by 2027.
All this to say, going back to the bad old days of Taxachusetts would be an almost unfathomable mistake. Between the $3 billion bombshell that upended the recent legislative session, the ambiguity about how the tax revenue will actually be spent, and the contrasting examples of neighboring New Hampshire and Connecticut, Bay State voters have plenty of reasons to come back to reality and reject the ill-conceived proposal to amend the Massachusetts constitution this November.
On October 5, Missouri governor Mike Parson signed Senate Bills 3 and 5, which will take Missouri’s top income-tax rate below 5 percent starting next year. Over time, that rate will ratchet down in mostly 0.1 percent increments to 4.5 percent, assuming general revenue targets are hit, which is likely. When the cuts are fully implemented, that 4.5 percent top rate will be the lowest Missouri has seen since 1970, and all signs point to even further cuts — including cuts to the state’s corporate-income tax — in the near future.
The goal of this process has been simple and explicit from the start: to abolish the state’s income tax entirely.
Why do that? Well, the research on economic growth is pretty clear…
Housing:
In the most recent Capital Letter, I noted how housing should be included in the list of sectors where stress was emerging as we adjust from the dangerously deceptive world of ultra-low interest rates (a phenomenon that was always going to lead to trouble) to a more “normal” environment — in nominal terms anyway. There have been plenty of negative data points already, but now we can add the latest: pending home sales…
Transportation:
On September 15, President Biden stood in the Rose Garden and spoke about the labor agreement his administration had brokered to avert a freight-rail strike. “This agreement is a big win for America,” he said. “And this is a win for tens of thousands of rail workers and for their dignity and the dignity of their work.”
But we could still see a strike. The unions don’t seem to agree with Biden’s assessment of the deal.
On October 10, the members of the third-largest rail union, the BMWED, rejected the deal the Biden administration celebrated…
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