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The Renewable Answer to Europe’s Fossil-Fuel Inflation

Fossil-energy prices have played a big role in the cost-of-living crisis—and renewables are a big part of the solution.

Inflation and energy bills have been worrying many Europeans in recent years. Across the European Union, more than 40 million people were unable to heat their home properly in 2022. In Germany, the share of households paying more than 10 per cent of their income for energy rose from 26 to 43 per cent, despite significant public support measures. At the same time, inflation across the eurozone reached 8.4 per cent in 2022, the highest in the history of the currency.

As we show in a new research paper, the two phenomena are closely linked: energy prices were the main driver of high inflation. They were directly responsible for half of eurozone inflation in 2022, the year when the inflationary wave peaked. In the month with the most dramatic energy price increase, March 2022—immediately after Russia’s invasion of Ukraine—energy prices even accounted for two-thirds of total inflation in the eurozone.

Fossil energy hurts

‘Energy’ is a broad category. In practice, fossil fuels were to blame. Higher oil and gas prices forced consumers to spend more on heating and mobility. High gas prices also drove up the cost of electricity and high fossil-fuel prices contributed significantly to food-price increases.

The outsized role played specifically by fossil fuels was echoed by the European Central Bank. In March last year Isabel Schnabel, one of the six members of its executive board, said that what she described as ‘fossilflation’ was ‘to blame for much of the recent strong increase in euro area inflation’.

Poorer households were hit hardest. For example, in Germany, the poorest 10 per cent spent 13.3 per cent of their income on energy in March 2022; the richest decile meanwhile devoted only 5.3 per cent of theirs. With larger buffers and a proportionally smaller hit, the well-off could absorb the shock. Among the underprivileged, in contrast, many confronted existential choices.

Renewable energy helps

Wages did not cause inflation. Fossil energies did. The good news is that renewables can help.

Since Russia’s invasion of Ukraine, newly installed wind and solar-photovoltaic capacity in Europe has displaced an estimated 230 terawatt hours of fossil-fuel electricity generation, equivalent to 8.2 per cent of annual production. This lowered electricity prices by increasing the number of hours in which renewables supplanted more expensive fossil-fuel sources.

Overall, the International Energy Agency estimates that accelerated deployment of renewables since 2021 reduced wholesale electricity prices in the EU by 8 per cent in 2022 and 15 per cent in 2023. In absolute terms, these cost savings will amount to around €95 billion by the end of this year.

The future is bright—and cheap

The potential of renewable energy to deliver lower and more stable prices will only increase. Fossil-energy prices jump around, often increasing suddenly before trending downwards again. But over the long run, in contrast with many other technologies or materials, these prices have only stagnated or risen.

The costs of renewable-energy technologies, such as solar PV, wind power or batteries, have meanwhile fallen, decade after decade. Since 2014 alone, prices for key clean-energy technologies have more than halved. As a result, renewable-energy generation is now cheaper than fossil energy in most places.

There are good reasons to believe this trend will continue, especially as short-term supply-chains disruptions are resolved and critical-raw-material production increases. Unlike fossil power plants—large, complicated, custom-built—renewable technologies are largely modular, standardised and so mass-produced. This creates economies of scale as production volumes ramp up.

Moreover, the transition to renewable energy is expected to make energy relations more ‘horizontal and polycentric’. This reduces monopoly or oligopoly rents for upstream producers, lowering energy prices—especially for a continent such as Europe, which currently imports large quantities of fossil fuels.

Over longer timescales, renewables will not just reduce energy prices but also make them more stable. Whereas a fossil-energy system requires continual import of expensive and price-volatile fuels, the cost base of a clean energy system is dominated by the equipment and the resources needed to build new facilities. As fixed costs, these can be smoothed over time.

This shift not only brings economic benefits but also a geopolitical dividend. Yes, the transition to renewables will require imports, including critical minerals and equipment made abroad. But these are construction inputs. Supply disruptions will have less immediate and severe impacts when compared with fossil-fuel supply shocks.

Mastering the ‘mid-transition’

Reaching this promising future requires expanding renewable-energy generation and associated infrastructure, such as electricity grids, while phasing out fossil fuels. This presents challenges which need to be managed carefully during the ‘mid-transition’. Successfully doing so requires taking the right policy actions today.

Three areas are critical to a smooth transition:

  • a timely expansion of grids, electricity storage and flexible sources of supply and demand;
  • the development of resilient supply chains, which will increasingly be tested as renewable-energy deployment accelerates, and
  • measures to counteract potentially increased volatility in markets for fossil fuels, as these are phased out.

European decision-makers should pay particular attention to the first. Without the necessary infrastructure to transport electricity from new wind and solar-PV generation to consumers, grid operators would be forced to call on fossil power plants for longer to avoid jeopardising grid stability. This would be particularly problematic for energy prices in Europe, where decreasing allowances in the EU Emissions Trading System would drive up the price of fossil-fuelled electricity if this were not displaced by renewable generation.

Recent analysis has shown that, if grid expansion were delayed, fossil-gas use in Europe’s power sector in 2050 would be more than eight times as high as in an ‘announced pledges scenario’, where grid expansion keeps track with renewables deployment. Delay would mean expensive gas plants setting the electricity price more often—leaving European consumers exposed to price shocks, as in 2021-23.

These challenges can be mastered. The promise of a renewable energy system—for price stability and lower inflation, for reducing energy poverty and increasing European sovereignty and, of course, for minimising the damaging impacts of the climate crisis—makes it worth it. Fossil fuels only added to the instability, economic and political, of recent years. Renewables can become a pillar of future stability.

Source : SE

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