Implications of the Energy Crisis: What To Own And What To Avoid

As we wrote about last week, the United Kingdom (and Europe) is facing an energy crisis. One of the simplest reasons for this is the simple fact that the energy transition will be trickier than just borrowing and spending a lot of money.

It is a massive collective action AND coordination problem.

This means it must be managed politically as well as economically. The early signs in UK and Europe is that this is, well, hard. The concern is that these same mistakes could either show up in the US and, most meaningfully, slow down the transition because of a lack of political support, not economic investment.

It also suggests that, as we have highlighted before, owning some exposure to "old" and unfancied energy sources is very wise. Here is how that is going this year:

Previously, we have analyzed the energy transition and modern day energy policies from a few perspectives: on tough geopolitical tradeoffs, the challenges of drought on renewable based energy grids, on the difficulty of a proper carbon offset market and last week, why coal is making a comeback amidst Europe's unwise and unprecedented reliance on Russian natural gas supply.

This week, we turn to what we should expect from a UK (and a Europe) dealing with an incipient energy crunch and what it says about the delicate and incredible complex energy supply chain.

When most people hear natural gas, they think heating their home. They likely don't think about some of the problems we detail below. Let's dive in.

Here are 3 unexpected knock on effects of the current high natural natural gas prices:

1. Fertilizer Shortages.

2. Lack of C02 Supply.

3. Higher Meat Prices.

Fertilizer: One of the challenges for Western governments around the energy transition is that the modern day economy is incredibly complicated. And it is not clear that anyone - not technocrats, not politicians, not academic experts, not business leaders - fully understand the implications of trying to quickly transition from one form of energy to another.

Here is the CEO of one fertilizer company speaking to the Financial Times and underlining this fact and why he shut down his UK-based plants:
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​“We were haemorrhaging cash. I was unaware of the [CO2] situation..."

His fateful decision is a great example of the law of unintended consequences.

Unbeknownst to most Britons, you need natural gas as a feedstock to make ammonia which is a key fertilizer for farms all over the United Kingdom and Europe. When natural gas prices spiked it became uneconomic for local producers to compete with imports of ammonia from abroad.

Here are current natural gas prices. For context, the blue band is the range of the last 5 years.

Feeding through to ammonia prices:

Source: FT​

This creates two problems:

1) It means that fertilizer prices will rise.

2) It also means however, that ammonia fertilizer companies will promptly shut down their plants hoping that this spike in gas prices will be temporary.

That is all fine and well (unless you are a farmer or need to afford food) but this lack of fertilizer then becomes a.....

Lack of CO2 Supply: One of the by products of ammonia production is, ironically, CO2. It isn't widely known but the problematic gas at the very heart of climate change is also vital for a half dozen key industries. What was once known to supply chain experts and industry insiders is now being painfully learned by just about everyone in the UK and Europe.

Let us turn back to the owner of those two plants, the CEO of CF Industries Tony Will:
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​“We were as surprised as anyone by the dependent and critical nature of our CO2 to the UK’s industry. That’s why I jumped on the plane to meet with the government.”

When CF Industries shut their two UK plants it didn't just mean that British farmers suddenly had to pay up for foreign-produced ammonia on top of fighting to get petrol (gas) for their tractors. It also exposed the critical roles of CO2 (and CF Industries) played in a host of wider supply chains and industrial processes.

So, unknown to nearly everyone, - including their CEO! - two CF-owned plants in Northern England produced over 60% of the UK's CO2. The industries that this gas supported include but are not limited to:

1. hospitals,

2. nuclear energy,

3. brewing,

4. soft drink bottling

5. and meat processing.

Overnight each and every one of these industries were suddenly without their local supplier and had no quick and easy replacement.

The gas isn't a trivial ingredient either. Among the uses detailed above it is also used a vital coolant by the British nuclear industry. Perhaps more problematically still there is the fact that surgeons rely on CO2 to stabilize body cavities during surgery. This is a particularly acute problem because the UK National Health Service is already facing a considerable Covid-19 induced surgery backlog.

Here is a breakdown of CO2 in the UK:

Source: FT​

Eventually, these high natural gas prices end up impacting for most people in the grocery aisle with.....

Higher Meat Prices: It won't be long and Britons will be adding higher meat prices to the rationed beer, disturbingly warm nuclear plants and brown lettuce on their list of worries.

It turns out that modern day abattoirs or slaughterhouses use C02 to stun their animals and end their lives as humanely as is currently mandated by law. This act makes it both easier to dispatch the beast and, most critically, it helps the industry do so very quickly.

Replacing the CO2 method with an electrical method works just fine apparently but it takes time to transfer capabilities and furthermore that method is less efficient and so a nasty combination of more costly AND slower.

Fewer animals being killed has its own supply chain ripples. A lack of workers combined with a lack of C02 may mean that the UK must cull its pigs. It also means , of course, that prices of sausage, chops and tenderloin at the butcher will be rising in the near future.

Let's summarize:

In late August and early September, the wind in the North Sea fell unusually quiet. A simple and unspectacular shift in the natural world has spiralled to now having severe effects on nearly everyone in the United Kingdom and, increasingly, across Europe as well.

As we covered last week, a slight fall in gas storage after this winter meant that Europe was vulnerable to a supply shock and now that one has arrived, it has created a host of problems, big and small, to a country and region still recovering from the pandemic. The political repercussions are still unknown but people struggling to put gas in their car or facing a sharply higher grocery bill will look for someone to blame.

The danger isn't just that the current UK government will lose support or even that British politics and society will get more fraught. Those are likely a given. The real question is what will happen this winter and will the popular support for the difficult project of the climate transition be permanently impaired.

Oh, and the final straw for people who work in agriculture industry struggling to find, let alone pay, for fertilizer? Well, it may have been the fact that the gas is also critical in carbonating beverages such as soft drinks and, yes, beer.

Would you want to be the Prime Minister of the United Kingdom of Great Britain and Northern Ireland right now?