For people across Europe and North America, life has suddenly become a lot more expensive. Energy costs are rising rapidly, and that in turn is driving inflation, which increases the price of everyday goods. According to a study by the Roosevelt Institute, fossil fuel energy systems are a large and volatile component of common measures of inflation. The price increase of energy commodities and services has been larger than any other item in the US Consumer Price Index.
Governments around the world are scrambling for solutions as citizens demand action to tackle inflation. In the US, President Biden chose to rename his infrastructure and climate package the Inflation Reduction Act. The reality is that policymakers have limited tools to deal with inflation directly. Much of the focus has been on monetary policy, with central banks raising interest rates and injecting large amounts of cash into the economy through borrowing, such as Germany’s €200bn energy self-bailout or Britain’s £200bn for tax cuts and a cap on energy bills.
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However, according to the Roosevelt Institute, governments and central banks have little power to mitigate the type of inflation we are experiencing now, which is driven by fossil fuel prices. The solution, it says, is to deal with the ongoing energy price volatility through government-led investment in renewable energy production and deployment.
Energy-driven inflation
“In our paper [which came out before the Inflation Reduction Act] we argue that a robust clean energy investment should be designed to prioritise low-income and frontline communities for a price stabilising effect from [that] investment in renewables,” says Kristina Karlsson, co-author of the Roosevelt Institute report.
She notes that the perverse effect of energy-driven inflation is that it hurts low-income households most, because they are most exposed to energy poverty. “Low-income households consume the least fossil fuels but are most exposed to price fluctuations,” she says. “Energy prices are the highest proportion of their household costs.”
It is not unusual for inflation to be driven by energy costs. Volatile fossil fuel prices are a key driver of overall inflation and have historically triggered recessions, according to the report. The researchers make the argument that a transition away from fossil fuels towards renewables will have a stabilising effect on energy prices, for two reasons. First, renewable energy will bring the majority of energy consumption into the electricity sector, a highly regulated sector that has historically produced stable energy prices. Second, renewables prices are inherently stable compared with fossil fuels, and the EU is looking to decouple gas and electricity prices that will give them more comparative stability. The clean energy transition would also improve existing inequities in energy burdens among renters, and among low-income and minority households, the Roosevelt Institute researchers argue.
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By GlobalDataClimate-driven measures in the Inflation Reduction Act, they suggest, are more constructive in this type of situation than interest rate increases or other monetary policy. However, concerns have been raised that the big borrowing in these packages, across North America and Europe, will only cause inflation to spiral further out of control.
“They say a huge government investment bill is by default going to increase inflation,” Karlsson says. “Maybe that would be true if demand was too hot, and anything we do to push it beyond that will increase prices. What many have been arguing is that is not the nature of the inflation we are facing right now. It is based on specific supply chains including energy.”
Renewables investment
Another recent study by the think tank TransitionZero concludes that a faster energy transition in Europe might mean both an improved cost of living and an appealing means of stability both for policymakers and households, even in a short to medium timeline.
The REPowerEU plan unveiled by the European Commission after Russia’s invasion of Ukraine has pushed countries to up their renewables ambition. EU countries were aiming for 63% renewable electricity by 2030, but this has now been bumped up to 69%, according to analysis by the think tank Ember. Before the Ukraine War the EU was planning to have 1,149GW of renewables by 2030, but now the target is 1,434GW – a 25% increase. This means adding an additional 839GW of renewable capacity by 2030 compared with today.
“Boosting renewable energy output will not only help reduce energy dependency on fossil fuels but, more importantly, it will help to displace fossil fuel imports and improve energy security,” concludes the TransitionZero report. “Replacing fossil fuel imports with renewables improves energy security because wind and solar are almost always generated and consumed domestically. This means they are not impacted by geopolitical shocks and price volatility in the same way as fossil fuels.”
These considerations are now impacting forecasts. Oxford University researchers have developed a new tool for predicting energy system changes, which concludes that heavy investment in renewables would save “many trillions of dollars – even without accounting for climate damages or co-benefits of climate policy” compared with continuing with a fossil fuel-based system.
Campaigners hope these arguments will convince policymakers in these times of crisis, when short-term monetary solutions may seem the most tempting. Lauren Melodia, deputy director for economic and fiscal policy at the New School in New York and co-author of the Roosevelt Institute report, is convinced that the monetary fixes now being pursued are not going to solve the problem and at that point the benefit of solving inflation through the energy transition will become blindingly clear.
“Everyone wants a quick fix to the problem,” says Melodia. “But the thing we are trying to highlight is monetary policy such as raising interest rates doesn’t actually help the situation in any way. We need a broader understanding of how we address inflation. A historic look at the economy shows that most of the recessions in the US over past decades have been preceded by oil price spikes. Fossil fuel spikes have a recessionary impact without adding monetary policy and inflation rates to the situation.”
