By Natale Labia

4 October 2021

original article here 


Where will the next macroeconomic crisis come from?

First published in the Daily Maverick 168 weekly newspaper.

While the global economy continues to be battered with wave after wave of post-pandemic disruptions that manifest in increasingly unpredictable and volatile ways, this week the scale of the demand-and-supply imbalance it has wreaked in energy markets has become apparent. Only the subsequent effects of these remain highly uncertain.

Gas prices are not typically something that register as typical dinner party conversation. Yet, in recent years, almost all major economies have become more and more reliant on natural gas to generate electricity, power factories and heat homes as coal has been scaled back due to concerns about global warming. Around a quarter of European power comes from gas.

What seems to have transpired in European energy markets recently is a confluence of factors contributing to a rise in prices, with a low level of stockpiling of reserves since lockdown last winter – and then a rapid resurgence of demand as economies have bounced back. Some also point to Russia limiting supplies into Europe to remind policymakers just how dependent they are on Russian energy exports. European gas prices have, as a result, surged by around 500% and are now trading at all-time highs.

These price dynamics are not unique to Europe or natural gas, but are spreading to markets across the world.

China, the world’s largest importer of natural gas, has struggled to meet supplies to power its economic recovery and is now shifting more to buying coal, with companies battling power shortages and blackouts across the northern parts of the country. Coal prices have risen by about 280% in the past 12 months, Bloomberg reports.

In addition, oil, which is usually a lagging indicator of energy prices, has reached its highest level for almost three years with Brent crude touching $80 a barrel, up almost 60% this year alone.

Although South Africa is a major producer of coal for domestic power stations, increased price pressure from greater export volumes will filter through to domestic power-generation costs. It remains to be seen how Eskom, which is already battling to push through higher costs to consumers, will manage with substantially higher costs of coal.

It is oil, however, that is perhaps of greater concern. Analysts point to substantial demand/supply mismatches in global oil markets, largely as a result of post-lockdown supply chain disruptions and higher-than-expected demand from economies such as China and the Eurozone. Should prices continue to rise, one could expect to see oil prices of about $100 or more a barrel.

There are four potentially concerning economic effects of higher energy prices.

First, it is effectively an added tax on consumers. That puts pressure on domestic consumption, which is particularly critical to South Africa’s post-pandemic economic recovery. Higher energy prices risk choking off the nascent recovery before it has had time to gather any momentum.

Second, higher energy prices shift liquidity away from productive parts of the economy,  such as manufacturers, towards extractive sectors, such as oil producers and traders.

The beneficiaries of a European winter of discontent are clear, but the geopolitical effects of cash flushing back to the major energy- and oil-producing capitals such as Moscow are, as ever, likely to be questionable.

Third, higher energy prices should filter through into more persistent inflation, which will start to result in higher US and European interest rates.

Already, the US 10-year yield has moved above 1.5% for the first time since early June as bonds are sold off (yields move inversely to prices). One would typically then see investors selling South African assets in a general “risk-off” trade, which is evident with the rand now trading above R15 to the greenback. Should higher energy levels persist, expect this dynamic to continue, with a weaker rand and higher South African prices for imported products (such as fuel).

Finally, higher energy prices are fundamentally a social issue as well as an economic one. Few markets are as keenly felt by consumers as increased prices for transport to work, cooking dinner for one’s family or heating one’s home.

In Europe, governments have pledged to intervene to subsidise the prices of heating with billions of euros to assist those most at risk. Emerging markets such as South Africa, however, do not have this luxury. Should prices continue to rise for these essentials, expect anger and dissent to spread rapidly among those who are most vulnerable.

It is no coincidence that, other than perhaps food protests, energy crises have shown to be some of the most volatile periods for countries that have undergone extensive societal stress.

As South Africa comes out of a period of pandemic-induced lockdowns and looting, with elections looming on the horizon, it does not take much to imagine an energy crisis as being yet again the dynamic that lights the blue touch paper of the incendiary social fabric that is South Africa. DM168