This article is taken from the October 2022 issue of The Critic. To get the full magazine why not subscribe? Right now we’re offering five issues for just £10.

Surging energy prices confront the Truss government with its first major challenge. A side-effect of Russia’s invasion of the Ukraine is the interruption of its supply of gas to the rest of Europe, hence the UK’s electricity price has jumped. 

Before the government announced its fixed-price guarantee, several calculations circulated of dramatic consequences for the consumer price index and living standards. 

For example, a few weeks ago the National Institute of Economic and Social Research estimated that — of its forecast CPI inflation number in October of 12.5 per cent — 5.9 percentage points would be attributable to the extra energy bills, mostly for electricity. It envisaged a peak in January, with household energy prices projected to climb a further 31 per cent and to be associated with an annual CPI increase of 14.2 per cent. 

On the face of it the numbers were terrifying. An externally-driven increase in the international gas price would make UK households — and in some sense “the nation” — about 7 per cent worse off. 

The situation seemed fully to justify headlines which talked of “energy poverty” and Nadhim Zahawi’s reference — as the outgoing Chancellor of the Exchequer in the Johnson administration — to “a national economic emergency”. 

The UK is indeed worse-off than before because of the extra cost of imported gas, but the loss is at most 3 per cent of GDP, not 7 per cent. Further, gas will be diverted from other continents to Europe and peak prices are unlikely to last long. 

A figure of 2 per cent of GDP is probably about right as a measure of the maximum hit to the UK’s “real national purchasing power” in the worst-affected one-year period. This is a problem, but it is manageable and far from unprecedented.

Much of the trouble arises because of a huge redistribution of income within the UK — from energy-consuming households and industry to the electricity industry and gas producers. (The big foreign winner is Norway, which is the dominant foreign gas supplier to the UK.) 

Windfall taxation on electricity suppliers would have been an understandable response and has been introduced in other European countries, but Truss has opposed it. The budget deficit will balloon again and the National Debt will pick up the tab. 

The difficult period will be in the rest of this year and 2023

The difficult period will be in the rest of this year and 2023. However, the world does not suffer from a fundamental shortage of natural gas. Indeed, discovered reserves at the end of 2020 were equal to 48.8 years of production, according to BP’s latest Statistical Review of World Energy. 

Furthermore, despite all the current hullabaloo, Russia’s exports of natural gas to Europe were only about 5 per cent of world output. 

In the 2010s world output of gas typically rose by 2.5 per cent a year. Ramping up the ability to import liquefied natural gas from Qatar, the United States of America and other sources can be left to the engineers and market forces. In 2024 and 2025 the European price of gas will tumble. 

The most over-used word of 2021 was “transitory”, as central bankers denied that the evident return of inflation would last more than a few months and that it was due to their mishandling of monetary policy in the Covid period.

 Some rise in interest rates is appropriate to correct for the central bank’s over-indulgence in “quantitative easing” in spring and summer of 2020, but the more logical instrument is “quantitative tightening” (that is, sales from the asset piles accumulated over recent years).

Crucially, the effects of the energy cap’s antics on the CPI should be ignored by monetary policy-makers. These effects really are transitory. 

Although they have come in a number of steps; they have the character of a one-off shock which will be reversed within a few years. Inflation may move briefly into the double digits per cent, but interest rates can be kept at much lower figures. 

A recession in 2023 has to be regarded as very likely, to deal with the underlying, non-transitory inflation pressures the UK — like other countries — now faces. But there will be good news in 2024, ahead of the general election which will probably be held in December that year. 

Those underlying inflation pressures will be coming under control, while global market forces will work their magic to bring the European price of natural gas down towards that in North America. 

At present the gap between them is extraordinary, with natural gas in the USA at under $10 for a million British thermal units and in Europe over $60.