SHANGHAI, Feb 9 (SMM) - Since H2 2021, under the guidance of the "carbon peaking and carbon neutrality", Asia, the United States, and Europe are experiencing the pain of optimising the energy structure transformation, and the global energy crisis has become increasingly prominent. The prices of natural gas, crude oil and thermal coal have risen sharply amid supply shortfalls. The costs of overseas aluminium and zinc smelters have risen, and their profits have been squeezed, forcing them to reduce their production. Copper, on the other hand, has strong financial attribute and is one of the most beneficial asset allocations under high inflation. This is one of the important reasons why non-ferrous metal prices did not drop significantly as expected against the background of expected tapering by the US Federal Reserve.
I. Global energy status
1. Domestic energy market
From a domestic perspective, the natural gas prices in the mainstream market in Shanghai soared 56.15% year-on-year in 2021, and the closing price of SHFE crude oil surged 44.08% year-on-year, and the prices of thermal coal (Q5500) in Datong sky-rocketed 104.6% year-on-year.
2. Overseas energy market
From an overseas perspective, the power supply in Europe has tightened since the second quarter of 2021, especially since August 2021, leading to a sharp increase in electricity prices in major European countries. Taking Germany as an example, where the basic electricity price was about $80/MWh at the beginning of June 2021, but the price hit a high of $488/MWh in December. The average electricity price in other major countries has exceeded EUR300/MWh, a great leap from less than EUR 50/MWh in the same period of 2019. The skyrocketing electricity price in Europe has led to a substantial increase in the smelting costs of non-ferrous metals in Europe that consume large amounts of electricity, such as aluminium, zinc, and nickel. Since October 2021, European aluminium and zinc smelters have successively issued announcements of production reduction and shutdowns. The use of electricity by residents has also been significantly affected. According to a report by Bloomberg on January 16, 2022, the surge in energy prices may leave millions of households unable to pay electricity and gas bills. It was expected that the average energy bill per household in Europe in 2021 would increase by 54% from 2020, with the households in UK and Italy bearing the heaviest burden, and this was equivalent to an increase of more than $1,000.
II. How the global energy crisis started?
Electricity belongs to secondary energy, which does not exist directly in nature and needs to be converted through primary energy. Primary energy mainly includes fossil energy and renewable energy. Global fossil energy, such as coal and natural gas, accounts for 60%, while renewable energy, such as hydropower, photovoltaic and wind power, accounts for 26%. Coal and natural gas are still the main contributors to the global power supply.
The global supply of fossil energy is constrained by the "dual carbon" policy, the supply of renewable energy is unstable, and rising prices are difficult to stimulate the expansion of energy supply in the short term. Therefore, the energy shortages created by the recovery from the COVID-19 pandemic have pushed up energy prices and triggered a global energy crisis.
1. Energy policy has hit fossil fuel supply elasticity
In recent years, reducing carbon emissions has almost become the consensus of governments around the world. Major economies have begun to announce timetables for "carbon peak" and "carbon neutrality". The specific goals are to reduce fossil energy, abandon coal, oil, and nuclear energy, and limit natural gas, and the focus is to develop low-carbon and renewable energy such as photovoltaics and wind power. In November 2016, the European Parliament overwhelmingly passed the resolution for the EU to approve the Paris Agreement, paving the way for jointly safeguarding the global climate environment. Since then, the governments of EU members have strongly intervened to promote energy transformation. Germany and France have abandoned oil and gas, coal, nuclear, etc., and focused on renewable energy instead. Investment in coal, oil and natural gas has dropped significantly, and capacity expansion has been slow. The proportion of renewable energy, mainly wind energy and hydropower, is increasing.
In China, the domestic raw coal output increased by 4.7% year-on-year in 2021, and the domestic electricity consumption increased by 10.3% year-on-year. There were three main reasons that the supply of coal has decreased. First of all, due to severe weather and environmental protection inspections, the domestic output has been released at a slower pace. Secondly, the output of overseas coal mines has declined due to the impact of the pandemic, and China strengthened its pandemic prevention and control measures, which caused delays or suspension of coal customs clearance. Thirdly, China has stopped importing coal from Australia at the end of last year due to growing tensions between the two countries. Prior to that, China used to import more than 90 million mt of coal from Australia every year, accounting for about 2% of the domestic coal consumption.
2. Clean energy cannot serve as a stable energy supply
A series of significant events occurred in the past 2 years, including the breakout of COVID-19 pandemic across the globe in 2020, which prompted the central banks of all countries to greatly increase the liquidity to support economic recovery. The demand rose in this scenario. However, the power generation of new energy has been insufficient, the supply of fossil energy was limited by production capacity, both of which gave birth to the problem of energy shortage. Therefore, the prices of natural gas and coal have risen sharply.
Europe was hit the hardest by the global energy crisis. The proportion of clean energy in Europe exceeded that of traditional petrochemical energy for the first time in 2020. Wind, solar, hydro and other energy sources accounted for 37% of electricity generation, coal consumption accounted for 17%, natural gas accounted for 20%, and crude oil accounted for 1%. A serious energy crisis broke out when the European economy was recovering in 2021. The main reason is that renewable energy sources such as wind energy and photovoltaics will be affected by natural factors such as seasons and climate, and cannot guarantee electricity supply stably. Taking Germany and the United Kingdom as examples, in 2020, Germany’s wind power generation accounted for up to 27.4% of the energy mix, and the UK’s wind power generation accounted for up to 50%. In 2021, due to the impact of extreme high barometric pressure, the wind strength in the North Sea was insufficient, and the offshore wind speed was significantly lower than expected, and the wind power generation of the two countries dropped greatly as a result. The sudden drop in wind power generation has caused a large gap in the power supply of the UK and Germany, thus increasing the demand for natural gas power generation. The prices of electricity and natural gas soared.
In terms of energy storage, if the seasonal instability of clean energy is to be overcome, it is impossible to achieve a stable supply of electricity by storing electricity owing to the limitations by the current battery storage technologies.
On the whole, the global fossil energy supply is subject to the "carbon peaking and carbon neutrality" policy. Moreover, renewable energy is subject to strong natural constraints and cannot serve as a stable energy supply. Furthermore, the price hike could not bring an expansion of energy supply in the short term. As a result, the supply of energy has been in great shortage under economic recovery in the post-pandemic era, which has pushed up energy prices and triggered a global energy crisis.
III. Structural inflation brought about by energy crisis
Due to the mutual substitutability of energy sources, the prices of natural gas, crude oil, and coal are closely correlated. Among them, natural gas has risen the most. In December 2021, China industrial producers ex-factory price index grew 66.8% year-on-year (coal mining and washing/dressing industry), and some energy-intensive industries experienced price hikes due to rising costs or production restrictions, and the prices of non-ferrous industrial products maintained high growth. In December 2021, non-ferrous metal prices in the smelting and rolling industry rose by 20%.
Some people in the market advocate that inflation is a cost phenomenon - the rise in oil prices has pushed up the cost of raw materials, manufacturing, and transportation, which drove up prices in the consumer market. But after the energy crisis in 1973, it can be found that this logic violates the basic principles of economics. According to the law of demand, the rising costs are unlikely to create sustained inflation. Economist Friedman: All inflation, all continuous commodity prices increase, is the result of the expansion of the money supply. Rising costs, such as rising energy prices, will stimulate market supply, and the increase in supply will bring prices down and promote the normal operation of the market. Therefore, the price increase driven by the rising cost is not sustainable, and the short-term price fluctuation caused by it is a normal market phenomenon.
In 1979, the Fed chairman, while raising interest rates, used open market operations to recover money and reduced the money supply. A deep recession was traded for inflation recession and macroeconomic stability, ending the energy crisis in 1973.
Looking at the present, the main cause of our inflation is still the Fed's announcement of unlimited quantitative easing since March 2020, and its balance sheet has exceeded $8 trillion. A large amount of US dollar was put into the commodity futures market, and then it was passed on to the raw material, energy and industrial product markets. The Federal Treasury Department presented nearly $1 trillion of currency to American households. Affected by the pandemic, the service industry recovery was slow, giving way to the consumption of electronics and automobiles in US, and the rise in industrial product prices was smoothly passed on to the downstream related consumer markets, and the structural demand expanded, which led to inflation.
IV. How will non-ferrous metals market perform under the energy crisis
Non-ferrous metals consume a lot of energy in the smelting process, which is directly impacted by the sharp rise in coal and natural gas prices, but because of different smelting methods, the power consumption in the production is quite different. The rank of power consumption per tonne of metal: aluminium > tin > nickel > zinc > copper > lead.
The overseas electricity prices have risen, smelting costs have increased sharply, and the smelter profits have been squeezed, resulting in reductions in aluminium and zinc smelters. Since the fourth quarter of 2021, the geopolitics between Russia and the European Union has restricted the supply of natural gas, pushing up its prices by nearly 8 times, and the tight energy supply has caused the prices of electricity to soar. The power consumption per tonne of aluminium is 13,500 kWh/mt, which is much higher than that of other non-ferrous metals. The profits of smelters have been squeezed, resulting in the successive reduction of aluminium production capacity in Europe by more than 600,000 mt, accounting 15% of the total capacity in Western Europe except Russia. European zinc smelters have also cut their production since the fourth quarter of 2021 due to profit contraction, supporting the prices to remain high.
The prices in China also stand high on the rising thermal power costs and the dual control of energy consumption. China’s non-ferrous metal production accounts for a relatively large proportion in the world. The production of copper, aluminium, lead, zinc and tin all account for more than 40% , and most of them consume the thermal power. From the perspective of aluminium, the power consumption per tonne of aluminium is 13,500 kWh/mt, which means that about 5.2 mt of Q5500 thermal coal is needed to produce one tonne of aluminium. For every 100 yuan/mt of thermal coal price increase, the cost of electricity will increase by 520 yuan/mt. The increase in cost may form a certain support for the price. Since the cost of electricity accounts for a relatively low proportion of the cost for copper and lead, the prices of electricity has a weaker effect on their prices. However, copper is a barometer for measuring the global economy. It has strong financial attributes and is one of the varieties that benefit most from high inflation. Hence the fermentation of the energy crisis will raise inflation expectations, which will be bullish for copper prices.
