21st September 2023

Crisis on Pause, Europe Still Needs a Green Industry Transformation

Industry and government leaders feared the worst when Russia invaded Ukraine in February 2022 and subsequently cut back gas supplies to Europe. The disruption sent gas wholesale prices soaring, with increases of up to 22 times 2019 levels in Germany and more than 15 times greater in some other European countries. Many predicted rationing, rolling blackouts, and economic calamity.

Fast action by government and industry, in addition to some lucky breaks with the weather, forestalled catastrophe. Europe’s economy performed stronger than expected in 2022 (1.9% inflation-adjusted GDP growth in Germany over 2021, for example), but it would be a mistake to believe that industry will continue to simply “pull through.” The challenges to Europe’s energy system are structural, and the shift in gas supply from historically cheap Russian pipeline supplies to more costly liquid natural gas (LNG) imports highlights a major weakness. Gas is not the only issue. Europe remains dependent on single suppliers for up to 50% of key resources such as rare-earth minerals and many prefinished goods. The climate challenge of reducing some 55% of CO2 emissions by 2030 has not gone away.

The crisis remains very much present, but within it lies the opportunity for a structural change that addresses several problems: maintaining a consistent and competitive energy supply, reducing CO2 emissions, and putting Europe’s economy on a competitive footing for decades to come. To be sure, in the near term, industry needs to continue taking the requisite steps to optimize energy use and procurement and double down on general cost cutting. But these actions have their limits and do not address Europe’s structural energy issues. Industry and government also must work toward a more ambitious, comprehensive, and long-term solution: using green markets and technologies to address energy supply and carbon impact while releveling the playing field with other nations, such as the US and China.

Most new technologies carry a near-term cost burden compared with fossil fuels and feedstocks, but the more salient point is that Europe is structurally disadvantaged from a cost perspective on fossil fuels compared with its main global competitors—putting all subsidies aside—while the bloc is largely cost competitive with major regions such as North America and China in many renewables, such as wind, solar, and green hydrogen. Green energy therefore comes at similar costs in Europe as in the US and China, and it taps into a large economic growth opportunity while contributing to solving an existential global challenge.

The current energy situation is an unprecedented challenge, but Europe’s industry has weathered many storms, including the 2008 financial crisis and the COVID-19 pandemic. A green transformation can turn coming disaster into opportunity. This reality makes action a strategic imperative. Here’s our analysis of what needs to happen and how Europe can pull it off.

A Crisis Averted…

While the dramatic energy price increases in 2022 (including peaks of more than €300/MWh for wholesale natural gas and more than €800/MWh for electricity based on day-ahead prices) largely caught industry by surprise, many companies reacted quickly and decisively to reduce consumption and, where possible, secure alternative sources (primarily LNG). These steps and a warm winter produced high gas storage levels of 75% across the EU in February 2023, a record for that time of year, and in some countries 40 percentage points over the storage levels of the previous year. LNG volumes are expected to rise as additional terminal capacity and contracted volumes become available.

That said, about half of industrial companies were forced to cut or temporarily suspend production, especially in the building-materials sector, which was also affected by supply chain shortages, rising mortgage rates, and an overall reduction in construction activity. A third of the companies surveyed by BCG in Germany in late 2022 had started to source raw materials and prefinished goods abroad, and 18% had shifted production to countries with better cost structures.

…Is Not a Problem Solved

In the wake of the storm, it would be a mistake to assume that energy prices will simply return to precrisis levels. To fill the gap left by reduced gas supplies from Russia, Europe—and especially Germany—will need to rely heavily on LNG, resulting in an increase in imports of 20% to 40% in 2025 over 2021. LNG will likely set European gas prices for the foreseeable future, meaning the landed cost will depend on Henry Hub pricing (the industry standard), plus the transport cost and margin. The scenarios we analyzed show that Germany is suffering significant competitive disadvantage against other regions, not only in the near term but also through 2030. (See Exhibit 1.)

https://www.bcg.com/publications/2023/europe-energy-crisis-need-green-transformationMore information here.

By Patrick Herhold, Shu-An Liu, Konstantin Polunin, Stefan Schönberger, Merlin Stein, and Jens Burchardt

Members of the American Chamber of Commerce in the Czech Republic