Cheng Shi, Chief Economist of ICBC International and Director of China Chief Economist Forum
Zhang Hongyan, senior economist of ICBC International
"There is no energy crisis, only a crisis of ignorance - R. Buckminster Fuller". Recently, there have been many explanations for the soaring global energy prices in the market. This paper further explores the impact of rising energy prices on global markets based on several mainstream explanations of the current energy price spikes. We believe that fluctuations in energy prices will undoubtedly have a negative impact on the recovery of the global economy. Taking China as an example, we used the Computable Equilibrium Model (CGE) fit to find that the current round of coal shortage and power curtailment will have a certain drag on China's economic growth as a whole, but considering the strong resilience of China's economy and the hedging effect of macro policy regulation on the negative impact of electricity prices, we believe that the actual energy shortage will be less dragged down china's GDP growth than the model fit result. Based on the model benchmark assumption, we finally estimate that when the electricity price increases by 10-15%, China's annual GDP growth rate will decline by 0.2-0.25%. In the long run, due to the impact of extreme weather, energy security and energy market restructuring, we believe that the global energy market may usher in greater volatility and uncertainty in the next 5 years. How to deal with the uncertain risk of economic activities in the process of green energy transition will be a major problem that needs to be solved globally.
1) The main reasons for this global energy shortage: supply shock and demand stimulus
The root cause of the current round of global energy shortage stems from the continuous supply-side shock. First of all, the global supply chain under the impact of the epidemic has been unable to recover. Supply chain bottlenecks have led to shortages of commodity capacity and soaring prices. The recurrence of the epidemic has made it impossible for the capacity gap to fully recover. Taking the Chinese market as an example, one of the main reasons for the lack of coal supply in winter this year is that Mongolia and Indonesia have been greatly affected by the epidemic and have restricted the export of raw materials, which has made the winter coal in short supply, which further affected the rise in electricity prices. On the other hand, the inadequate recovery of the labor market gap and the continued distortion of commodity prices due to the repeated impacts of the epidemic have pushed up the cost of transportation, combined with geopolitical shocks and a slowdown in the expansion of financial credit, further hampering the repair of global supply chains.
Secondly, the outbreak of the epidemic last year caused countries to reduce production capacity inventories in advance, resulting in an overall shortage of energy inventories. For example, in 2021, the supply of LNG is half below the average annual growth level before the epidemic (10% in 2019). This is because in the face of the impact of the epidemic, most LNG exporters have cut their production capacity ahead of schedule. LNG exports, for example, have fallen 93 percent this year, while Nigeria's exports have fallen 19 percent. The decline in energy supply in these major natural gas exporters will undoubtedly hit the consumption structure of major economies. As the world's largest natural gas consumer, a quarter of the eurozone's energy mix comes from natural gas, and with gas supply tightening, Europe is undoubtedly the hardest-hit economy.
Finally, energy shortages are also accompanied by historical factors. For example, in 2014, crude oil overcapacity led to a sharp decline in prices, which led investors to significantly reduce infrastructure investment in the new energy sector between 2014 and 2016. Investment in basic supply projects such as LNG fell sharply between 2015 and 2017, while the completion cycle of natural gas supply projects happened to be about 5 years. That is to say, due to historical factors, the supply level of LNG has shrunk in the past 5 years. The contraction of natural gas will further affect transportation and power supply, ultimately laying the foundation for this round of energy shortages.
From the demand side, extreme weather and natural disasters exacerbate demand growth. Since entering 2021, the global extreme climate and natural disasters have occurred frequently, the blizzard in the United States at the beginning of the year, the drought in southwest China and the abnormal precipitation in the Central Plains in the middle of the year, the floods in Europe, the drought of the century in Brazil in South America and the disappearance of the British monsoon, a series of climatic anomalies and natural disasters are the rapid increase in global energy demand.
Another reason is the recovery of the global economy. Although the global economy has been repeatedly hit by the epidemic, in general, the world's major economies have entered a sustained economic recovery channel. In the recovery channel of the national economy, the demand for the sustainability of the means of production by economic activities has further increased. There are significant differences in the rate of national economic recovery, so that countries that recover faster tend to have more energy imports. We take China as an example, due to the first recovery of the Chinese economy, coupled with China's implementation of strict carbon emission policies, China's imports of natural gas continue to rise, and by August 2021, China's total demand for liquefied natural gas accounts for 80% of the total global supply of liquefied natural gas. In the case of liquid natural gas shortages, this makes it impossible for the supply of natural gas to meet the energy needs of other countries in the process of economic recovery.
In addition, environmental protection policies have exacerbated the imbalance between supply and demand. In recent years, global green industries and new energy transitions have led to a continuous decline in inventories of biofuel energy sources such as coal. However, in the face of extreme climate impacts and the impact of the epidemic, the instability of intermittent energy is increasing. For example, falling precipitation and decreasing monsoon days will affect hydro and wind power generation. Under the constraint of the dual control policy of environmental protection, coal-based thermal power generation is restricted, which makes the environmental protection policy aggravate the imbalance between supply and demand.
2) The impact of energy shortage on the economy: Take the impact of power shortage and production limitation on China's economy as an example
In the process of green energy transition, major economies are increasingly relying on power supply systems with intermittent energy sources (such as wind, hydro, tidal) as the core. However, we tend to overlook that intermittent energy sources will not be able to guarantee the stability of the power supply under the condition of climate anomalies or exogenous shocks. This kind of instability superimposed on administrative environmental protection regulation and control means can easily lead to increased tension in energy supply in the short term.
The impact of unsmooth power supply on the economy is undoubtedly significant. This is because electricity prices tend to fluctuate more volatilely in the short term than fuel prices. The impact of a global gas shortage and oil shortage in an hour and a global power outage in an hour is completely different from the impact of world economic activity. Human economic activity is now more dependent on electricity than ever before. The specific impact of power curtailment and blackout on economic activities is usually manifested as the rise in industrial electricity prices affecting the total PPI, the total PPI rise further to the CPI of the means of production, and the final overall rise in production and living prices, which will mainly lead to a decline in industrial production investment, and ultimately drag down the GDP growth rate.
In this paper, taking the Chinese market as an example, we use the CGE model to study the transmission effects of electricity price changes and economic growth. The values for the model variables in this article are taken from the use of the 2019 National Input-Output (I-O) table. Equation resolution programming uses GTAP software. We refer to the impact assumptions of endogenous variables in He (2010) and, based on 32 industries, fit the impact transmission on GDP when electricity prices rise by 5% (lower scenario), 10% (baseline scenario 1), 15% (baseline scenario 2) and 20% (upper limit scenario), respectively. According to our calculations, when the electricity price rises by 5%, the GDP growth rate will fall by 0.18%; when the electricity price rises by 10%, the GDP growth rate will fall by 0.29%; when the electricity price rises by 15%, the GDP growth rate will fall by 0.38%; when the GDP electricity price rises by 20%, the GDP growth rate will fall by 0.47% (Table 1). From an industrial point of view, electricity accounts for 9% of total industrial inputs, so the impact of electricity on the secondary industry (such as fossil fuels, chemicals, steel, non-ferrous metals, metal products, machinery and equipment, other manufacturing industries) is significantly higher than other industries.
However, given the hedging of the negative impact of macro-policy regulation on electricity prices, we believe that the actual energy shortage will be less of a drag on China's GDP growth than the model results. Therefore, under the benchmark assumption, we finally estimate that when the electricity price increases by 10-15%, China's annual GDP growth rate will decline by 0.2-0.25%.
3) The future of energy shortages: In the next 5 years, the volatility of the global energy market will increase
There are three main reasons for the increased volatility of the energy market in the future. First, extreme climate change may stay with us for a long time. While global warming is broadly in line with what climate models predicted decades ago, the increase in extreme weather events has exceeded forecasts. Chris Rapley, a climatologist at University College London, believes that the frequency with which extreme weather occurs is changing radically. Specifically, Earth's jet stream is starting to slow down and the volatility is increasing. When high-speed airflow is slow and unstable, the number of high-pressure and low-pressure systems increases. This will lead to both high-temperature drought (related to high-pressure systems) and floods (related to low-pressure systems) becoming more persistent. :
The second is the impact of geopolitics on energy security. Affected by the current round of energy shortages, the requirements for energy security in major economies will be further increased in the future. Around energy security, will the rise of regional energy protectionism among the world's major economies be further exacerbated? Historically, the rise in protectionism has often been accompanied by increased frictions over energy security. Looking back at the era of great inflation in 1970, the oil crisis is actually the fierce evolution of geopolitical contradictions.
Third, the energy structure is bound to usher in a new round of cyclical adjustment. The energy crisis may have led major economies around the world to re-recognize the important role of traditional energy sources (oil and gas) in their respective green energy transitions. In the future, LNG investment may accelerate, but another question is whether this will cause global LNG capacity or other traditional energy overcapacity in the next 3-4 years, thereby increasing the fluctuation of supply and demand for commodities? In our view, this possibility is relatively large, especially in the superposition of global energy security requirements and the impact of extreme climate, countries may pay more attention to the stability of their own energy and food security stockpiles.
Finally, what we need to reflect on is what will be the role and positioning of traditional energy sources when we try to vigorously promote the power system with intermittent and green energy as the core. How to solve the uncertain risk of intermittent energy on economic activities in the process of green energy transition will be a major problem that needs to be solved urgently in the future.