In today’s Fat Tail Daily, The global renewable energy boom, powered by cheap debt and government favours, is crashing as rising rates expose questionable economics. Find out why oil giants like BP are fleeing green plans, developers are taking billions in project writedowns, and why flawed monetary policy — not renewables — shoulders the blame.
What if renewable energy is just a figment of free money? Or should I say ‘was’?
Zero percent interest rates set a remarkably low financing bar for a wind project to leap over on paper. And it’s not like wind developers struggled to access favourable terms from governments when it came to selling their intermittent power either.
But then interest rates rose and inflation struck. The cold hard economic truth is exposed…
Like a rock star who got his money for nothing and his wind for free, the wind industry went too far and then keeled over on stage. The Global X Wind Energy ETF [NASDAQ:WNDY] has halved in two years amidst what’s supposed to be a planet-saving buildout.
The Austrian School of Economics, which bears that name as an insult from the German School, has a theory which explains what happened. They imaginatively call it The Austrian Business Cycle Theory and ‘malinvestment’.
In short, when central banks suppress interest rates artificially by inflating the money supply, this causes more capital investments to occur. Debt is made artificially cheap, encouraging debt-intensive projects to go ahead.
Wind energy being an obvious example of this, because the wind and sun may be free, but turbines and solar panels are definitely not. Unlike for fossil fuels, which require constant purchases of more fuel — spreading out the cost of energy over time — renewables face a vast upfront cost to be built, and low marginal costs after that…presuming they are built properly…which many weren’t.
But back to our Austrian story. The low interest rates make such capital investment seem profitable because the costs of borrowing to finance them are low. This was especially potent for wind farm developers because of the minimum power prices they were often promised under supply deals.
But, because the capital investment boom is financed by dodgy money from central banks, it eventually causes inflation. By the time wind farm developers were ready to build, their costs had soared as fast as Australian builders’.
This contrasts starkly with what would happen under the same sort of scenario under sound money. In such a system, interest rates can only fall due to more savings, not more money printing. And more savings mean higher future consumption. That higher future consumption is what justifies the capital investment which the savings financed in the first place. The whole thing balances out, with investments occurring in anticipation of producing something that consumers will be able to afford to buy.
But artificial money causes inflation to show up instead of higher future consumption. And that inflation is what’s bringing down the wind industry.
Ironically, of course, the medicine for inflation is higher interest rates — the one thing which wind developers cannot afford when their costs are going up. It becomes a double whammy.
And so the artificial boom turns to an overzealous bust…
In the UK, the Telegraph is on the case:
‘The UK’s leading offshore wind developer is in talks with Net Zero Secretary Claire Coutinho about the fate of its flagship project off the coast of Norfolk, after spiralling costs cast doubt over its viability.
‘Ørsted, the Danish renewable energy giant, is understood to be in talks with the Department for Energy Security and Net Zero, led by Ms Coutinho, about securing more generous subsidy arrangements for its Hornsea 3 wind farm project.
‘It would see 231 turbines installed off the coasts of Norfolk and Lincolnshire, generating power for 3m homes.
‘Subsidies for Hornsea 3 were agreed with the Government last year through contracts for difference (CfDs), with operators guaranteed a minimum price per megawatt hour (MWh) known as the strike price. Ørsted was promised £37.35.
‘However, the wind industry has been hammered by inflation of up to 40pc since then. Building Hornsea 3 would now put Ørsted at risk of significant losses and executives warned earlier this year that they needed more government support to keep the project alive.’
The Financial Times reported on the US:
‘This week Ørsted, the world’s largest offshore wind energy developer, abandoned two projects designed to deliver 2.2 gigawatts of power to New Jersey. BP’s head of low-carbon energy, Anja-Isabel Dotzenrath, told a Financial Times conference that the US offshore wind sector was “fundamentally broken”.’
Yahoo Finance revealed the fate of Siemens Energy:
‘The German government, Siemens AG, and other parties will provide billions of euros in project-related guarantees to support Siemens AG’s struggling wind turbine division. This financial assistance comes just weeks after the company warned about mounting losses amid a meltdown across wind and solar industries.’
Bloomberg covered events in Norway:
‘Orsted A/S has withdrawn from a partnership developing offshore wind projects in Norway as the company grapples with big losses resulting from rising costs.
‘Orsted is at the center of a crisis for the offshore wind industry with companies struggling to fund large developments. Higher financing and component costs combined with increased competition have slowed the pace of renewable energy around the world, making it harder for developers and suppliers to make new projects profitable.’
These comments from the UK’s Telegraph sum up the situation:
‘No new wind farms will be built off Britain’s shores unless the Government lets operators earn more money from the electricity they produce, the chief of the nation’s biggest generator has said.
‘Tom Glover, country chair of RWE’s UK arm, said the price offered by the Government to wind farm operators must rise by as much as 70pc to entice companies to build.
‘His warning follows the disastrous result of the last offshore wind allocation round in September, which ended in a humiliation for ministers with not one company offering to build new offshore wind farms.’
All this is a remarkable turnaround for an industry that is accustomed to getting paid hundreds of millions to produce nothing. Or getting paid a minimum price to produce energy even when the wholesale power price goes negative because the energy isn’t needed. Talk about misaligned incentives…
It’s important to remember that both the inflation and the higher interest rate environment that is sinking the wind industry are a direct cause of the artificial boom which caused it to expand so much in the first place. The bust is the market correcting the malinvestment that occurred on the back of the artificial stimulus. It undoes the projects that shouldn’t have been built in the first place.
This contrasts starkly with modern economics’ theories, which include the ‘neutrality of money’ — the idea that inflation doesn’t really matter much because it impacts us all evenly and inflation expectations just mean we all adjust anyway.
Only modern economists seem to have forgotten to send that memo to wind farm developers alongside central bankers, neither of whom were ready for the inflation we got.
The real worry is whether this now becomes some sort of self-reinforcing cycle. I mean the cost of energy plays a rather important role in inflation figures and thereby interest rates in and of itself. If wind farm developers need vastly higher prices, the rest of us are going to pay for them. And that means more inflation.
But it may not come to that. We may get the inflation via an energy shortage instead…
Orsted is so desperate to evade building the wind farms it committed to that it’s willing to take on impairment charges measured in the billions of dollars instead. Equinor and BP joined in, with combined impairment charges on wind projects hitting $5 billion in a single week.
Renewables are looking so expensive that even major oil companies can’t afford them as a form of virtue signalling anymore. One after another, they’re scaling down their green plans. That’s what happens when you have to finance yourself with positive interest rates. Suddenly money matters.
There’s even a rumour that BP will change its name from ‘Beyond Petroleum’ to ‘Back to Petroleum’…although I admit I am the only source of the rumour…
The real point here is that the renewables sector is conforming rather nicely to the same economic theory that explained the US housing bubble and bust of 2008, and many other crises since. An artificially inflated bubble blown by low interest rates and directed by government incentives eventually pops in a crisis of inflation and higher interest rates.
That’s just what you get when central bankers keep fiddling with the interest rate and the money supply. So, don’t blame the renewables sector, blame the central bank for tricking them into thinking their business was viable in the first place.
Until next time,
Editor, Fat Tail Daily