IEEJ：December©IEEJ 2021

Special Bulletin
A Japanese Perspective on the International Energy Landscape (563)

December 16, 2021

Energy Price Hikes as Seen from Viewpoints of Market Functions and Politics
Ken Koyama, PhD
Chief Economist, Managing Director
The Institute of Energy Economics, Japan
Simultaneous energy price hikes, as well as the accelerating decarbonization trend, may becited as the most important issue in the 2021 international energy situation. Crude oil prices topped$80 per barrel, natural gas and spot LNG prices posted abnormal spikes, and coal prices shot up
more than five-fold from last year’s low. In Europe and China, the electricity supply-demand balancetightened, leading to electricity price spikes. I remember few such simultaneous energy price hikes
before 2021. Energy price hikes became a major global issue at a time when the global economy wasinsecurely recovering from the disastrous COVID-19 pandemic.
Energy is indispensable to civic life and economic operations. Energy may look like air orwater as far as it is supplied stably at affordable prices. Once energy prices spike, however, the spike
becomes a grave issue and makes headline news. This year’s energy price hikes have become agrave issue attracting global attention since October.
Energy sources are priced according to the supply-demand balance in their respective
markets. Market players, actors and other influencers on supply and demand and their influences
differ by market. In the history of international energy market development, energy markets havebasically become gradually competitive, leading market forces to work more easily. Such structuralchanges have been seen in international markets including the oil market for pricing crude oil. Inelectricity, gas and other domestic energy markets, market liberalization and deregulation havepromoted structural changes.
As various energy markets grow competitive, prices become dependent on supply anddemand fundamentals. Energy prices thus change in line with supply and demand fluctuations. Evenin competitive markets, prices may not necessarily stay low. If the supply-demand balance tightens,
prices may naturally shoot up. Behind the latest simultaneous energy price hikes, all energy markets
basically saw tighter supply-demand balances.
In the crude oil market, a demand recovery from the COVID-19 disaster was coupled witha coordinated oil production cut by the Organization of the Petroleum-Exporting Countries andnon-OPEC oil-producing countries to reduce oil inventories and tighten the supply-demand balance.
In the Asian LNG market, the supply-demand balance tightened as supply growth failed to catch up
with robust demand growth represented by a rapid increase in China. The coal supply-demandbalance tightened due to production shortages in China that accounts for a half of the global coalmarket, leading to global spot coal price spikes. In Europe, a long suspension of wind power
generation triggered a tighter electricity supply that has been coupled with power generation fuelprice hikes to push up electricity prices. In each energy market, changes in supply and demand
fundamentals caused price hikes in line with market principles.
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IEEJ：December©IEEJ 2021

Given that energy is indispensable to civic life as noted above, however, governments
cannot leave price hikes’ negative effects untouched even if the price hikes are based on market
principles. While it is a right principle that prices of goods are determined by market forces, pricehikes can become issues that are politically difficult to be left untouched. This was the case with thelatest energy price hikes.
Political reactions to energy price hikes in global markets were seen. In reaction to crude
oil price hikes, oil-consuming countries including the United States asked the OPEC-plus group toadditionally increase oil production. As the OPEC-plus group decided to shelve any additional
production increase in defiance of the request, the United States led a coordinated international
release of oil reserves to push down oil prices. These actions represented political reactions. In
reaction to European natural gas price hikes, the European policy side urged Russia, the largest gas
supplier to Europe, to increase natural gas production beyond the levels under long-term contracts.
Over the European gas price hikes, Europe and Russia exchanged claims at the political level. As
energy is important, governments attempt political engagement or intervention in response to energy
price hikes even in international markets.
Engagement or intervention in domestic markets has also been seen during the latest
energy price hikes. In Europe, energy subsidization for low-income people was offered as early as inOctober. In Japan, the government decided to introduce a subsidy system to hold down gasoline
prices in November. The U.S. administration exerted pressure on oil-producing countries to increase
production and decided on the coordinated release of oil reserves to lower gasoline prices that haveinfluence on support for the administration. Thus, government market intervention to protect
consumers (in particular, low-income consumers) emerged during the latest energy price hikes.
A key basic principle of many policymakers is that they should leave market forces toprice goods and should refrain from market intervention that could distort markets and prevent
market forces from working fully. However, they may choose to intervene in markets in defiance ofthe basic principle. Particularly, they cannot leave price hikes untouched for energy that is linked
directly to civic life and economic operations. The philosophy of making maximum use of market
functions can conflict with the political need for protecting consumers. The energy issue ispotentially sensitive to international and domestic politics to such extent and difficult to handle.
Policy responses to the latest energy price hikes featured explicit reactions seen inadvanced economies such as the United States, Europe and Japan. This indicates that energy pricehikes are not necessarily a negligible issue even in advanced economies with higher average incomelevels. In emerging market and developing economies with relatively lower income levels, energy
price hikes can be easily expected to exert serious negative impacts. Europe introduced energysubsidization for low-income people out of concern that energy price hikes would exert great
impacts on low-income people. Energy price hikes have the potential to become of great significanceto advanced economies and of even greater significance to emerging market and developing
economies.
In considering energy price issues, the impact from externalities such as energy security is
as important as that from responses to the externality of climate change. What impact energy cost
hikes through the enhancement of decarbonization measures would exert on advanced economies
and on emerging market and developing economies and how they should respond to such cost hikes
may become key challenges in the world’s implementation of energy and environmental policies.
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