2027: Europe's next energy crisis

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Europe's natural gas market is giving off late 2021 vibes.

That the view of Anne-Sophie Corbeau, research scholar at the Center on Global Energy Policy. Corbeau believes that four factors are particular relevant to Europe right now: a) the Strait of Hormuz remains essentially closed, with only the occasional LNG cargo getting through, b) Europe is experiencing heightened competition for spot cargoes with Asia, c) low European gas inventories (20% below the 5-year average), and d) Norwegian maintenance and low Algerian LNG deliveries to Italy.

TTF, the European natural gas price benchmark has responded, surging by more than 50% since the start of August to over €80 per MWh. For the natural gas market, the uncomfortable truth is that unlike in 2022 there are no alternative sources of LNG supply waiting in the wings to bail Europe out this time. Arguably the potential for a crisis across the energy spectrum is even greater going into 2027 than it was in 2022.

Back in 2022 geopolitical conflict to the east coincided with an extremely hot and dry summer to the west, curbing nuclear and hydroelectric power generation. That boosted demand for fossil fuels and led to a spike in European power prices. Coming off the back of another very hot summer in 2026, the UN has warned that a combination of climate change and a further strengthening in the El Niño weather phenomenon means that next year is almost certain to be the hottest year ever recorded.

Across the continent, hydropower generation dropped to the lowest level in at least seven years in 2026 (6% below 2022 levels) as reservoirs ran low. In Norway, often termed Europe's battery because of the power cables that stretch from the country's hydroelectric plants into northern Europe, reservoirs levels have fallen to record lows. This year high temperatures and low water levels also led several countries to curb output from their nuclear reactors, or forced them to shutdown entirely. If reservoir levels don't replenish in time this winter then Europe may need to radically increase its demand for fossil fuels.

Most European households are only used to a few nights of uncomfortable sleep each summer. Not so in 2026. Several weeks of high temperatures increased demand for cooling. As more people respond by purchasing AC units demand for power during periods of extreme high temperatures could be significantly higher next year. The high cost of installation in older buildings means that many are turning to less expensive, but more energy inefficient, portable AC units.

European industry also needs to contend with drought conditions. Record low water levels also constricted the transportation of goods along the Rhine and the Danube, two rivers that act as arteries for much of Europe's heavy industry. In 2018, the last period of extreme low water levels, German real GDP growth was curbed by 0.3 to 0.4 percentage points as transport along the Rhine was disrupted.

Finally, diesel looks set join the cast of villains in the next European energy crisis. During the past week, the crack spread - the price premium between the cost of crude and the wholesale price of diesel - jumped to more than $100 per barrel, a record high. Rising diesel prices feed into higher freight and manufacturing costs, slowing economic growth while also driving up inflation.

Europe responded to the last energy crisis by pivoting away from Russian gas and improving energy efficiency. While that may suggest that Europe is better prepared this time when another energy crisis hits, the options for mitigating the impact are probably much more limited this time around. For example, the relatively low cost opportunities for lowering energy intensity much further may have already been exploited, while governments are not in a position to offer the kind of generous energy subsidies they dolled out to businesses and households back in 2022/23.

A cold front and the political fallout is hotting up

Another energy crisis could not come at a worse time. Last weekend Europe was rocked by the news that the far-right Alternative for Germany (AfD) party scored its first state election victory, albeit narrowly failing to secure an absolute majority.

Home to around 2.1 million people, Saxony-Anhalt is the poorest of Germany's 16 states, and the location for several energy intensive manufacturers. Bloomberg reports that the rising cost of energy was a big issue in the runup to the election with some employers, including operators of the regions petrochemical industry, recently announcing that plants face imminent closure.