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27 June 2022

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The International Energy Agency (IEA) has warned that there is likely to be a total shutdown of Russian gas exports to Europe this winter and it has started urging governments to take measures to reduce demand and keep ageing nuclear power stations open. Russia’s decision to reduce gas supplies to European countries may be indicative of further cuts later this year says head of the IEA Fatih Birol. Having already suffered large losses, Moscow is looking to gain leverage in the war with Ukraine.

Last year, the IEA was one of the first official bodies to publicly accuse Russia of manipulating gas supplies to Europe in the build-up of the invasion of Ukraine. European countries have taken emergency measures to lessen the demand for gas by methods such as firing up old coal-fired power stations, which Birol claims is justified by the intense scale of the crisis despite fears over rising carbon emissions. The use of coal-fired power stations has been labelled as temporary with the aim of preserving heating supplies for winter and ensuring that future household demand can be met. Birol added that any additional carbon emissions produced by taking these emergency measures will be offset by the increased urgency to reduce reliance on imported fossil fuels by building up a renewable generation capacity. Governments in Europe may take even greater steps as winter approaches in which the rationing of gas supplies could be a real possibility.

Prior to the Russian invasion of Ukraine, Europe’s reliance on Russian gas was about 40% of total supplies but this has now been reduced to 20%. Despite some success, it will be difficult for Europe to reduce this reliance much further as the continent has already tapped most options to diversify supplies, such as seaborne cargoes of liquefied natural gas. The IEA chief has suggested that countries should slow down the planned closure of many nuclear power facilities to help limit the amount of gas burned for electricity generation. Germany has been criticised for its decision to continue to shut down the last of its nuclear plants during the energy crisis in the belief that keeping the plants open risks encountering too many technical and safety hurdles.

Birol has warned that governments are not yet doing enough to encourage renewable energy investment and cut their fossil fuel consumption. The IEA expects total energy investments to grow by 8% this year to US$2.4tn, with the growth coming from renewables and higher costs. He further warns that if governments do not sit in the driving seat and mobilise major funds towards a clean energy transition then extreme volatility in energy supplies and prices cannot be avoided. Although Russia’s invasion of Ukraine has seen some progress towards growing investment in cleaner forms of energy, renewable energy investment in the developing world has not grown in real terms since 2015. This is one of the most worrying trends.

UK inflation has hit its highest level since 1982, reaching 9.1% in May. This has been fuelled by soaring food prices last month in which the increase from April’s 9% rate is in line with economists’ forecasts that inflation will hit double digits approaching Autumn. The Bank of England has said it believes it will go even further and reach 11% in October – a figure that is significantly higher than any other G7 country given the UK’s unique position. Such growth will significantly increase cost of living pressures, intensify demands for wage rises to match the higher prices in the economy and make it more burdensome to settle industry disputes such as last week’s rail strikes.

Compared to last May, prices for 25% of goods measured by the Office for National Statistics had increased by 10%, while the price for half of the items increased by 7% or higher. The biggest contributor was food prices which rose 1.5% in May - bread, cereals and meat increased the most, largely attributable to supply constraints due to the conflict in Ukraine. Road fuel prices also experienced their fastest annual jump since statistics were first gathered in 1989, being 32.8% higher than May last year. The inflation rate next month is likely to rise strongly again as it accounts for the rise in road fuel prices between May and June, which have risen 20p over the period. These high prices are enough to justify a 25bps base rate increase at the Bank of England’s next meeting in August, but the chief UK economist at Capital Economics, Paul Dales, said it is not enough for a 50bps rise given that there is not enough evidence of persistent inflationary pressures.

Please note that this communication is for information only and does not constitute a recommendation to buy or sell the shares of the investments mentioned. The value of investments and any income derived from them may go down as well as up and you could get back less than you invested.
 
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