The financial crisis and its impact on European energy security of supply

Photo Colette Lewiner / Vice President, Global Leader Energy, Utilities and Chemicals, Capgemini / July 29th, 2010

The pre-crisis trends on energy security of supply were worrying as consumption of oil, gas and electricity was growing and worldwide energy resources were limited. The investments in aging energy infrastructures needed to meet this demand were insufficient in volume and slow. This led to tense situations in the supply and demand balance with power cuts and even blackouts hitting some European countries. In addition, the majority of the new or planned electricity generation plants were fossil fuel fired, notably gas fueled, increasing gas supply dependency on Russia and generating CO2 emissions. The economic and financial crisis of the past 18 months modified the supply and demand balance in Europe. Demand has dropped bringing short-term relief, but investments in energy infrastructures have also decreased, which is worrying for the longer term.

In 2009, there was an across-the-board monthly decline of 10 percent in electricity and gas consumption by the industrial sector, compared to the same periods in 2008. The tertiary sector, however, where energy consumption is linked to buildings and the residential sector, where energy is a vital need, there was more resilience.

The aggregate fall of electricity consumption for the main European countries was about 4.5 percent and gas consumption dropped 7.5 percent in 2009, compared to 2008. In early 2010, as many industrial sectors began to recover, there was a small growth in consumption compared to the same period in 2009. However, since the recovery is limited, it is hard to predict when the 2008 consumption levels will be reached.

Energy infrastructure investments fall
The credit crunch combined with lower demand and lower return on investment has pushed down investment in the energy sector. The major utilities, which recently spent their war chests on acquisitions, have postponed investments plans. In Germany, E.ON revised its investment plan for 2009-2011, from €36 billion to €30 billion. In Italy, Enel intends to reduce its 2009-2013 investments by €12 billion (from €44 billion to €32 billion), in Spain, Iberdrola has announced 2009 investments of only €4.5 billion, down from the €13 billion initially planned, and Gas Natural-Union Fenosa will slash investments from the previously announced €21 billion to €11-13 billion.

Fortunately, many stimulus plans contain investment incentives but because of administrative delays these only started to be implemented at the end of 2009 and early 2010, and will only have tangible effects on investment levels from 2010 onwards. Although the majority of the planned or under construction plants are fossil fuel (mostly gas powered), renewable and nuclear energy are slowly increasing their share of the energy mix. It is interesting to focus on these, as they are CO2 free.

The rebirth of renewables
After significant growth, investments in wind and solar energy plants were hit by low gas prices, lower government subsidies and lack of project finance. Total global annual investment in clean energy dropped by 6 percent in 2009 compared to 2008. Global green economic stimulus achieved little in 2009 due mainly to administrative issues. Only 16 percent of the total amount pledged to environmental projects was spent worldwide, mainly in China. Predictions are that most of the funding will be spent this and next year.

In Europe, a €4 billion energy infrastructure investment plan was adopted by the European Union member states in May 2009. Of this funding, €565 million was earmarked for specific offshore wind projects and €910 million for smart grids (to help integrate renewable energy into the grid). Calls for tenders for these projects are slated for early 2010 and their implementation will start, at the earliest, in the second half of 2010.

So although since the end of 2008 we have witnessed a green bubble deflation, thanks to political decisions favoring green development, there is likely to be a recovery in 2010.

Nuclear renaissance
Nuclear energy, and to a certain extend hydro-power, is the only competitive, consistent energy source that is capable of producing electricity on a large scale without generating CO2 emissions. This, combined with safety and operational improvements, is the reason why we have witnessed a revival of nuclear power in a number of regions. Worldwide, 438 reactors are in operation, 52 under construction and 487 planned or proposed.

In Asia the crisis changed little and development is going ahead. China will speed up plans to put six nuclear reactors into operation each year for the next few years. India, which also has an ambitious program, now has access to Western technology thanks to agreements it signed in 2008.

In Europe, the former Eastern bloc countries have to a greater or lesser extent been hit by recession, which is likely to delay their nuclear programs. The financial and economic crisis has also hit Russia, which will probably slow down its ambitious nuclear program.

In Western Europe, the UK is set to build the largest number of nuclear reactors. It has to replace old nuclear power stations and, with North Sea natural gas deposits dwindling, it must look elsewhere to maintain its energy independence. The country is beginning the process of authorizing and building reactors, which should result in the first new reactor connected to the grid around 2018. In Germany, the CDU/CSU-FDP coalition that won the September 2009 elections is in favor of extending the life of nuclear power plants. However, it is unlikely to build new reactors in the immediate future.

In the United States, the 2005 Energy Bill Act included federal loans guarantees for three or four reactors. These selected projects should go ahead, but it will be much more difficult for others. Many relatively small US utilities are finding it hard to get loans and are unlikely to risk financing the large investments required. This may change. The present administration switched tack and now favours nuclear energy. In February 2010, President Barack Obama announced $8 billion (about € 5.8 billion) in loan guarantees to break ground on the first two new reactors in the US in more than three decades. Obama said the US needs to increase its supply of nuclear power in an attempt to diversify energy supplies and fight climate change.

A successful and sustained nuclear renaissance would contribute greatly to energy security of supply and climate change issues.

Smartening up electrical grids
The political will to decrease greenhouse gas emissions is creating new investment needs in electrical grids. Today balancing supply and demand on the grid is a complex exercise requiring sophisticated equipment, automation and data management. The increase of renewable energies as a percentage of generation capacity presents new challenges for those managing electricity grids. These sources are unpredictable and intermittent and therefore cannot be scheduled. Wind and solar power units are generally small, decentralized and connected directly to distribution networks. In addition, with decentralized generation, notably solar photovoltaic, customers are also occasional producers. Instead of just receiving electricity from the grid, they also supply it to the grid.

Today’s distribution network management systems are not designed to manage decentralized, sometimes bi-directional flows. The grids are usually old (around 50 years in Europe and more in the US) and because of local opposition, it is difficult to build new lines to accommodate larger flows.

To respond to these new challenges, a new grid concept has emerged. These “smart grids” have the following characteristics:
• Bidirectional flow management
• Digital instead of electromechanical components
• New equipment, such as uninterrupted power supply devices and storage capacity, to improve quality and manage complex generation patterns
• Increased data flow and communications
• New information technology architecture to improve data quality, information security and data flow management, and
• Communication protocols (still to be standardized) to manage information flows on the network, by customers and within buildings.

Smart grid implementation will necessitate new investment. Today there is funding in Europe and in the US for smart grid studies and prototypes but not for their deployment. To finance this transmission and distribution tariffs will have to increase and as a consequence electricity prices. These are difficult decisions to take during a slow economic recovery period.

To summarize, the financial crisis has hit both demand and the planned investments in energy leading to short term relief in electricity and gas security of supply. This may change in the long term because of deferred infrastructure investments and new technology. At Capgemini we estimate that €1000 billion in investments in infrastructure is needed by 2030.

Electricity security of supply
According to the 11th edition of Capgemini’s European Energy Markets Observatory, the real margin – that is the percentage difference between real generation capacity, which integrates non-usable and unavailable generation capacities, and peak load — improved in 2008. For the 24 countries of the Union for the Coordination of the Transmission of Electricity, the group of generators in Europe that coordinate and manage supply, it went up from 5.3 percent in 2007 to 9.2 percent. This was due to decreases in peak loads and capacity additions.

This continued to improve in many countries in 2009, except France. The French consumption peaks are shaper and higher each year (one degree less in temperature generates 2300 MW more power need) because of the reliance on electricity for heating. In early January 2010, for example, exceptional cold threatened the generation/consumption balance. France had a 93,000 MW record electricity peak and imported significant electricity volumes over a few weeks to compensate. If the economic crisis had not dampened demand, the situation would have been worse.

By 2025, increased investments in peak generation capacities in France should reach 30 GW. Other European countries, including Belgium, should have similar capacities. But these are costly investments for new units that would only function less than 500 hours per year and, as they are gas-fired, would emit CO2. This could be avoided by incentivising a reduction in peak demand and developing a market to trade what are called “nega watts”, the electricity that is not required because peak demand has been reduced.

Forecasting demand: an imprecise science
In the longer term, the impact of new technologies will have to be included in demand forecasts. For example, the EU Third Legislative Package (adopted in April 2009) recommends that 80 percent of the population should have intelligent meters by 2020. This legislation should push more European countries to make this investment compulsory, as it is in Sweden. Smart meters, in conjunction with demand side management utilities programs should lead to significant savings in electricity consumption, peak power demand and CO2 emissions. A Capgemini study shows that dynamic programs launched in the EU-15, the countries that were members of the EU in 2004, could save 200 TWh per year by 2020 — the equivalent of the combined residential consumption of Spain and Germany.

However, some energy efficiency programs and CO2 saving programs can also encourage electricity demand by boosting heat pumps usage, public transportation and electrical cars. It is not clear whether these new demands will be balanced by the decreases brought about by better demand side management or whether overall consumption will increase.

Gas security of supply
During the crisis, gas consumption decreased even more significantly than electricity consumption as it was hit both by direct consumption decreases and indirectly by the decrease in consumption at gas fired electricity plants. This was positive for European gas security of supply, as shown in March 2010 by the high levels of gas in European reservoirs, despite a cold winter.

That said, although 2009 saw dramatic falls in Gazprom’s gas exports to non-CIS countries, in the longer term, the EU’s high dependency on Russian gas is a threat to security of supply. As much as half of EU gas could be imported from Russia in 2030. There are three different ways to mitigate this:

Increase the use of LNG( Liquefied Natural Gas)
LNG enables access to 80 percent of worldwide proven gas reserves and would therefore provide supply diversification. In the past, LNG was a suppliers market, but in 2009 this changed. On the supply side, long-awaited liquefaction plants started production in Qatar and Yemen, with more planned for 2010. A product surplus is now forecasted for 2010. And on the demand side, Asian demand decreased because the Japanese Kashiwazaki-Kariwa nuclear plant was progressively restarted. In the US, strong growth of unconventional domestic gas, combined with the recession, greatly decreased demand. In the longer term, this LNG “bubble” is likely to be absorbed reversing the situation back to a suppliers market.

Increase storage
The storage demand in the EU is set to grow significantly over the next few years, as the EU becomes more dependent on imports. The EU recommends that each country has storage capacity equal to 16 percent of its annual consumption or 60 days. Thanks to the past year’s investments, storage capacity in Europe increased 5 percent in 2008, and now represents 17 percent of annual consumption. This happened despite the fact that some of the more than 100 new facilities or extensions projects that were envisioned were cancelled or delayed for financial reasons.

New delivery mechanisms
Plans to build new pipelines from Central Asia (mainly through Azerbaijan, Turkmenistan and Kazakhstan) to bypass Gazprom are progressing. The Nabucco pipeline, slated for operation in 2014, is the EU’s flagship project. Its expected supply capacity should amount to 6 percent of annual European consumption. However, it is having difficulties securing gas supply.

The crisis, slow recovery, and the need to conserve energy and reduce C02 emissions will change the way companies and individuals consume energy, leading to smaller demand increases in the future. Energy investments, however, in infrastructure and in demand management, must be maintained to achieve an optimal energy production mix. Governments must provide the right legislative framework and financial incentives now to ensure this happens. If they don’t, because electricity and gas require long periods to build new infrastructure and capacity, the problems of energy security, which existed prior to the crisis, will only be exacerbated.

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