The Gas War

Vladimir Putin weaponized energy, but the record-breaking high temperatures this winter helped Europeans go through the season comfortably. However, the gas war is not over yet.

After Russia invaded Ukraine on February 24, 2022, the European Union set itself the task of reducing the consumption of Russian gas by two-thirds, that is, by 100 billion cubic meters per year.

The idea seemed utopian because every third cubic meter of gas in the EU was Russian. To make matters worse, Russia reduced the natural gas supply, trying to cause an economic crisis in Europe.

But Europe didn't suffer as much as Putin expected. Warm and windy weather helped Europeans pass two months of winter. Europe did not freeze.

The European Union has survived Russia's first blow in the energy battle, but many challenges remain. The war for energy independence has just begun.

Throughout 2022, Russia began reducing its natural gas supply to the EU in small steps. Since March, the daily volume of gas pumped into the European Union has fallen by 80% to 63 million cubic meters.

Why did Russia act this way? By reducing the natural gas supply, Moscow sought to destabilize the energy system of the European Union and make it unprofitable to support Ukraine. Almost every headline about a decrease in Russian gas supply provoked another jump in the prices of natural gas in the EU.

Moscow's antics threatened a severe deficit, so European leaders decided to prepare thoroughly for the cold and reduce their dependence on the Kremlin. The countries agreed to fill gas storage facilities by at least 80%. They pumped gas from Norway, the USA, and Algeria. They also bought additional Russian gas while it was still available on the market. EU countries even found gas in China, which sold surplus liquefied gas after closing for quarantine.

However, it came at a price. As a result, gas prices on the world market escalated five to seven times higher than in 2021.

Not to shock domestic consumers too much, EU countries compensated for high prices from state budgets. According to the Belgian think tank Bruegel, since September 2021, subsidizing the prices of gas, electricity, and gasoline has cost the EU 600 billion euros. Germany alone spent 246 billion euros on consumer support, which is 7% of the GDP of the largest EU economy.

Expensive gas makes electricity more costly, also. Therefore, to saturate the electricity market, countries reopened coal-fired power plants, which were previously closed, extended the service life of nuclear power units, and invested in renewable resources. Also, the European Union had to start actively building gas infrastructure to obtain more gas from different countries: large pipelines, interconnectors, and LNG terminals.

These measures were insufficient to compensate for the loss of Russian fuel, so the EU decided to reduce gas consumption. Many countries had to stop large enterprises from producing metals and fertilizers. In Germany, so-called price brakes were installed, forcing households and small and medium-sized businesses to cut gas and electricity consumption by 20% compared to 2021.

Consumers had to buy more energy at unstable market prices - four to five times more expensive than in 2021.

However, these measures did not guarantee that the EU would pass the heating season without problems. In the worst-case scenario, the European Union could face a severe deficit by the end of winter, and the most significant economies risked plunging into recession.

Warm weather came to help

All the worst scenarios were canceled when the weather anomalies started on the European continent. In January, forecasters reported numerous record-breaking high temperatures. For example, 24 degrees Celsius was recorded in Verdun in France, 16 in Berlin, Germany, and 19 in Warsaw, Poland. Extremely high temperatures have passed, and the cold has not set in. January and February showed moderate temperatures with short-term drops in almost all of Europe, and gas consumption was not even close to usual winter levels during this period.

Additionally, renewable sources and wind energy investments have made it possible to obtain more electricity from windmills. Germany and Great Britain set records for wind power generation and reduced gas needs in January.

The Europeans were also fortunate that the Chinese industry was quarantined in 2022. This inhibited the consumption of liquefied gas in Asia, and tankers turned towards Europe. In 2022, the European Union became the world's largest buyer of LNG, overtaking China and Japan for the first time.

Amid these events, gas prices decreased to the level of August 2021 - to $700 per thousand cubic meters. The decreased consumption allowed the EU countries to maintain stocks at the highest level in recent years. Since the beginning of winter, the gas storage capacity has not changed much and is now about 80%, more than 90 billion cubic meters.

This winter's most significant risks were associated with Germany, the most dependent on Russian gas. The head of the German energy regulator, Klaus Müller, warned in the summer that without Russian gas, even with total reserves, the country would have enough for a maximum of 2.5 months of cold weather.

German gas storage has been about 90% full in January and February, so we can confidently say that Germany successfully went through the winter season energy-wise, even if there is a sharp cold snap in March.

Due to high energy prices, the German government expected a recession in 2023. Still, the favorable situation in the energy sector forced the local Ministry of Economy to adjust the forecast to a 0.2% increase in GDP instead of a projected drop of 0.4%.

In general, the EU economy shows signs of life. The annual growth of energy prices in December decreased from 34.9% to 25.5%. Because of this, the general level of inflation falls and reduces the pressure on consumers and the central bank. The business activity index (PMI) in the eurozone in January will be 50.2. Business activity is considered to increase when this index exceeds 50, which is a positive signal for Ukraine's allies. In addition, EU services and manufacturing PMIs have been steadily rising since October.

Russia is still trying to exert pressure by cutting gas supplies even further. In January 2023, Gazprom reduced the pumping of blue fuel into the European Union by another 22%. However, it had no impact - the prices almost did not change. Perhaps the Kremlin is losing its monopoly on the European market.

The Gas war is just Beginning

The warm and windy weather allowed the European Union to buy time, but the energy crisis is still far from over. Europe won the battle, but not the war, and many challenges await the countries of the union.

First, China is reopening after lockdowns. The demand for liquefied gas from Chinese companies is growing, and tankers are gradually returning to China. At the same time, Japan plans to create a strategic LNG reserve, so the price competition between Europe and Asia may intensify again, as it did last winter. In this case, prices will go up. If the prices reach $2,000 per thousand cubic meters, the European Union will not be able to accept LNG tankers due to the price limit for natural gas, which it established in December.

Second, energy independence is already expensive for the EU, as bloc countries are forced to subsidize high prices to soften the blow to businesses and citizens. Gas prices are still abnormally high and are unlikely to decrease in the coming years. In 2023, hundreds of billions of euros will again go to subsidies. Because of this, the deficit and debt burden on state budgets will grow.

At the same time, large energy-intensive enterprises of the EU still need to work at total capacity and are forced to save, earn fewer profits, and pay fewer taxes.

A reduction in production is almost inevitable, as countries receive less gas than in previous years. For example, Germany alone lost 12% of volumes in 2022. It will be difficult for businesses and governments to plan new projects and restore production because the situation will remain unstable during the restructuring of the energy system.

Additionally, storms near gasification terminals in the US, repairs at French nuclear power units, and changes in wind speed are already causing electricity prices to fluctuate.

Third, next season, the supply of Russian gas will be significantly less because the Nord Stream gas pipeline was blown up on September 26, and Russia wants to avoid pumping fuel through other pipelines.

In addition, the Netherlands plans to close its largest gas field in Groningen in October, which is currently pumping 2.8 billion cubic meters annually. To be able to buy more gas, the EU is building additional LNG regasification capacity. New and expanded old terminals will allow more than 50 billion cubic meters of gas to be imported in 2022.

However, more is needed if Russia continues to cut supply. Previously, the aggressor country pumped 155 billion cubic meters of gas yearly, and finding a replacement for that will be challenging. The head of the European Commission, Ursula von der Leyen, said that if Russia stops supplying gas, the European Union may have a 30 billion cubic meters deficit in 2023.

The  EU  is not helpless and can create economic problems for  Russia. Sanctions are just beginning to take effect, and the Kremlin will be forced to sell gas to cover deficits in the budget.

Four, natural gas prices for the population in the EU remain high compared to previous years and will quickly deplete family budgets. Even subsidies will not bring utility rates back down to 2021 levels.

For example, in Germany, where gas heats 50% of German apartments, rising, gas cost 13 euro cents per kilowatt-hour in 2022, while in 2021, the price was less than half. The situation is similar to fuel oil, used to heat a quarter of German apartments. Where a family’s annual usage is  3,000 liters, the cost average will be 4,500 euros per year. In 2021, for the same family, the cost was 2,000 euros, and in 2020 - 1,.500. Prices for transport and gasoline are rising, also. All of this hits low- and middle-income families very hard.

As we can see, the EU will face many challenges yet to win its energy independence from Russia.