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Clean Tech

Energy Prices: Is Volatility Here to Stay?

Skyrocketing energy prices in the wake of the post-pandemic economic recovery has been all over the news, and for good reason. The rising cost of energy feeds into the pricing of all goods, causing inflation globally. What is more, these market trends have tremendous geopolitical significance, since the price of oil and other hydrocarbon-based products has a big impact on the trade balances of resource-focused economies. It is enough to think about the far-reaching consequences of the First Oil Crisis in 1973, or the plummeting oil prices in 2011 which bankrupted countries like Venezuela and Angola.

For aspiring consultants, understanding the energy sector and its fluctuations is important not only for its generic economic implications, but also because petrochemical and energy companies are some of the biggest clients for consultancy firms. With six out of the top 20 firms by revenue globally being present in the energy sector, consulting firms naturally seek to tap into this gigantic market. McKinsey, BCG, Bain and the Big Four all have specific divisions to cater for clients from the energy industry. Will this segment of the consultancy industry grow even bigger in light of some of the most extreme fluctuations in oil prices in decades?

Oil and other hydrocarbons are, generally speaking, commodities with extreme price volatility. Between 1971 and 2011, oil prices increased by almost 900% in constant currency, while other basic commodity prices only rose by 68% on average. From a peak of $109 in 2012, the price of a barrel of crude dropped all the way to $40 in the span of just two years, a phenomenon that can be explained by the emergence of a new form of oil extraction, fracking. Even more extreme fluctuations in energy prices were witnessed during the pandemic. In the depths of the March 2020 economic recession oil was literally given away for free as producers ran out of storage capacity, but by September 2021 prices had climbed as high as $80 a barrel. Will these kinds of wild swings in oil prices persist in the future?

Some readers would be quick to label me as an alarmist, believing that the current energy crunch is the outcome of truly exceptional circumstances created by the pandemic, and the unforeseeably quick re-bound of the global economy. Energy providers simply did not expect the growth in demand that occurred, and meeting this increased demand is difficult for simple logistic reasons. Although this narrative is hard to call into question, this is only half of the story. The 2021 energy crisis is indicative of problems arising from the global green energy transition.

The crisis has shone a light on the pivotal weakness of renewable energy sources; renewable energy generation is dependent on weather conditions. One of the greatest contributors to the energy crunch was the lack of wind in the late summer over the North Sea. Wind power met more than a quarter of the UK’s energy demand in 2020, but this dropped to a meagre 7% by September 2021. Matching energy supply to demand is challenging enough with power-plants already, which can to some extent increase or decrease their production as necessary. Since renewable sources cannot accommodate fluctuations in demand, securing energy from 100% renewables is nearly impossible.

In a more realistic setup, renewables could be used to provide the base minimum of energy demand, and any fluctuations could be covered by traditional energy sources. This is ultimately what happened during this energy crisis, as most governments have returned to natural gas, oil, and coal to cover their excess energy consumption. Even so, the market could not fulfil global demand. This happened for two main reasons. Firstly, there are logistical barriers limiting production. Although China and Europe engage in outright bidding wars for liquified natural gas, producers like Qatar cannot profit from the situation since their LNG terminals are already running at full capacity. Secondly, hydrocarbon extraction requires relatively large upstream investments, which take many years to come online. Since investments into oil and gas exploration have more than halved since 2014, non-renewables are losing their ability to serve as back-up options.

In this article we have explored some of the difficulties facing the green energy transition, and highlighted why further energy crunches could be expected in the future due to structural weaknesses in the energy supply system. One promising solution is nuclear energy, but this option has been frowned upon by governments due to lingering fears among voters caused by the memory of disasters like Chernobyl. Politics adds an extra dimension of complexity to the energy industry in both the domestic and international arena, an issue that energy consultants need to keep in mind.

Bence Borbély is a Hungarian first-year History and Politics student at the University of Cambridge whose professional fields of interest are management consultancy, public policy-making, politics and international relations.

Image: Pexels

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