For the moment, inflation is largely caused by a sharp increase in energy prices. Two years ago, the oil price was negative for a while, but since then it has been rising rapidly. Sustainability policy measures have contributed to this, because investment in new oil extraction has been under pressure in recent years not only because of the low oil price.
Central and commercial banks, investors, campaigners and even the courts have discouraged new investments in fossil fuels. This has succeeded, and now that even shareholders are focusing on maximising short-term cash flow - by not investing in new projects - the oil price is happily rising further. Only the lockdowns in China are causing a temporary delay.
Effects of energy transition
The fact that gas prices in Europe have risen so sharply is also partly the result of the energy transition. While the Netherlands was moving away from natural gas, the rest of Europe was switching to gas, mostly from Russia. It was thought that gas was the ideal transition fuel. Since the war with the Ukraine, people have learned the hard way. By the way, it is a myth that natural gas is the ideal transition fuel.
The production and transport of natural gas releases a lot of methane (the main component of natural gas) and cooling LNG requires a lot of energy (natural gas). Committing to natural gas now has exacerbated the climate crisis and ensured that we continue with fossil fuels for another 20 to 25 years. Coal might have been a better alternative as transition fuel.
Alternative energy is rapidly becoming more expensive. Prices for metals such as copper, aluminium, nickel and steel have risen sharply and, compared to energy and food prices, there is even more to come. Sun, wind and electric vehicles must be a solution to our addiction to fossil fuels. The same movement will also isolate Russia, or at least that is the idea. But each electric vehicle contains many more metals than fossil-fuelled vehicles.
Many metals needed for energy transition
Wind turbines and solar cells also use a lot of metals and other raw materials, let alone the yet-to-be-expanded electricity network. The energy transition creates an extremely strong demand for these raw materials and therefore more inflation. Last year, the IMF looked back to 1879 and concluded that the energy transition would even lead to a historic peak in metal prices.
These metal prices would remain high for about a decade because of the extra demand, to which supply could react with a delay of up to 10 years. This is in spite of the fact that the assumptions of the transition to alternative energy do not take into account a sharp increase in metal prices. Even then, it may mean that the energy transition makes sense, given the high external costs to the environment and society of the climate crisis. However, do not count on fossil fuel energy becoming much cheaper in the short term.
The prices of lithium have risen by 1,000 per cent in the last two years. Nickel and copper prices have risen by 200 per cent and 300 per cent respectively. Aluminium has risen by 200 per cent and is at its highest level in 30 years. Metal prices are an increasingly large part of the cost price of a car. A doubling of aluminium prices is already causing the total profit margin on heavy vehicles to evaporate. Higher end prices are inevitable. Each electric car has become more valuable due to increased metal prices, even when depreciation is taken into account. If this continues, the scrap value will soon be higher than the purchase price.
The energy of freedom
According to Christian Lindner, the new German Minister of Finance, alternative energy is the energy of freedom. He assumes that the costs of alternative energy will be lower than those of conventional fossil fuels. This is only correct as far as the marginal costs are concerned. After all, the sun and the wind are free. But the assumption that, for example, solar cells will soon really be able to compete with conventional energy depends very much on the development of the prices of these raw materials. Especially in Germany, people should know that the Energiewende has turned out to be much more expensive than originally forecast. But of course freedom has no price.
At present, only 3 per cent of all energy comes directly from the wind and the sun. Less than 1 per cent of all cars in the world are electric. Doubling that number would alone absorb about half of the annual aluminium and copper consumption, and as much as 80 per cent of nickel production. It would take at least five to ten years for new mines and more intensive recycling to provide sufficient production.
Moreover, the supply shortfall caused by export restrictions on Russian metals has yet to be recovered. Meanwhile, the ECB seems to be putting more emphasis on the energy transition than on rising inflation, even though the energy transition itself is causing higher inflation. Thanks to this long-standing ‘hog cycle’ in the construction of new mines, mining has a golden future, and not only because gold prices have risen above 2,000 dollars per troy ounce.
Han Dieperink is chief investment strategist at Auréus Asset Management. Earlier in his career, he was chief investment officer at Rabobank and Schretlen & Co. His contributions for Investment Officer Luxembourg are published on Thursdays.
This column was originally published in Dutch on InvestmentOfficer.nl.