Power prices: causes, consequences & solutions

Europe is facing a major energy crisis driven by a natural gas supply crunch following Russia’s invasion of Ukraine and decision to limit supply to Europe. The rate of this cost increase has seen power prices hit new records this year, the results have shaken the wholesale market for months and are now appearing on retail customer bills, forcing Europe to once more grapple with inflation.

What got us into the crisis?

Demand for natural gas began to outstrip supply in late 2021 as the post-COVID economy recovered. The watershed moment however was Russia’s invasion of Ukraine and its decision to limit gas supplies to Europe. Coupled with specific difficulties in nuclear, hydro, and wind electric generation over the past months, this gas crunch has brought power prices up, with average day-ahead prices reaching as high as €405/MWh in August. Concerns have naturally also increased about the impact this has on households and businesses.

“The internal electricity market is not the heart of today’s crisis. The heart is a demand-supply gap” - Ditte Juul Jørgensen, Director-General DG ENER

High electricity prices mostly fuelled by gas

What the experts have to say

Since the beginning of the power price crisis, Eurelectric has gathered expertise from across the power sectory to cut through the noise behind the headlines. The centrepiece of this effort will be our flagship study into Europe’s long-term electricity market design needs, due out March 2023. See what the study’s issue manager, Endesa’s Juan Jose Alba, and knowledge partner, Compass Lexecon’s Fabien Roques, already have to say on gas-electricity price connection:

How Europe must respond

This crisis has one very straightforward answer. Europe must learn to wean itself off imported natural gas, oil and coal and regain its energy independence. The power system will be central to this effort which means ensuring a faster-than-ever expansion of clean and renewable power capacity. Everything must be put in place to ensure a full-speed rollout, and alongside it, the deployment of electric technologies like heat pumps and charging stations for electric vehicles. In the short-term, direct support to customers and energy-saving measures are the most effective means to ease the pressure.

When unveiling the World Energy Outlook 2022, Fatih Birol, Executive Director of the International Energy Agency said: “This energy crisis could be a turning point by accelerating the clean energy transition”. The crisis could kill two birds with one stone by lowering electricity prices and advancing the green transition through accelerated electrification.

For this, policymakers must keep six essential factors in mind:

  1. Decarbonise faster
  • Adopt an electrification strategy 
  • Address permitting barriers 
  • Tackle critical materials supply chain issues 
  • Anticipate workers’ skill gaps 
  1. Electrify now
  • Deploy electric solutions such as heat pumps, electrolysers and smart chargers in buildings, transport and industry to reduce dependence on fossil fuels and unlock demand-side flexibility 
  1. Strengthen grids
  • Boost investments
  • Modernise pricing tariffs
  • Ensure access to EU funds
  • Reinforce grid infrastructure to integrate decentralised power sources
  1. Secure investment
  • Deepen the EU competitive electricity market 
  • Ensure long-term investment signals in the power sector 
  • Tackle gas prices and avoid distortive market interventions 
  1. Protect customers
  • Adopt energy vouchers, VAT reductions and efficiency incentives to mitigate the price surge’s impact
  • Ensure sufficient gas storage and diversify supply
  1. Save energy
  • Incentivise business to reduce energy demand through tenders, interruptible contracts and demand-side flexibility
  • Raise awareness for citizens to save energy via retailers

Government distraction will be counterproductive

Rightfully, governments across Europe have sought to protect customers, especially vulnerable citizens and small businesses, from the rise in power prices. But they should not become distracted by treating the symptoms of high power prices over the causes. In fact, some national efforts are already counterproductive, at their worst they risk fracturing the Internal Energy Market and undoing decades of progress that have benefited European consumers to the tune of €34bn. National and European leaders must pursue solutions at the Europe level.

Meanwhile, overzealous market intervention also risks undermining long-term investment signals and the confidence essential to driving the green transition of the power system. Now more than ever, we must safeguard, and even deepen, Europe’s competitive, integrated electricity markets, as a cornerstone of our security of supply.