What influences UK gas prices? Everything you need to know
There are many reasons why energy prices fluctuate, particularly business gas prices. This means it can sometimes be difficult to predict and plan your gas prices going forward.
Here in the UK, we have our own 'homemade' gas supply, but that’s not enough to keep our expanding number of homes and businesses going. Instead, we have to top up our supply by buying in from other countries.
Climate change concerns are changing the way we use our energy supplies, with the government encouraging businesses to drive down their fossil fuel energy use and penalising heavy users.
Where does the UK get its gas?
The UK gas supply is made up of various sources to ensure that there’s never a danger of supplies running out.
Natural gas from the North Sea and the Irish Sea makes up around 45% of what the UK needs, but the quantity is declining year by year.
The UK tops up its gas supply with imports from around the world. Pipelines under the North Sea deliver Liquid Natural Gas (LNG) from Norway, Holland and Belgium to refineries along the east coast. Since 2005, the UK has shipped LNG into its storage facilities from as far afield as Asia, the Middle East, the US and Russia.
There are two main types of storage facilities - depleted gas fields and salt caverns. During periods of low demand, gas is transferred into storage and used as a backup when there is an extended period of cold weather, putting excessive demand on the gas network. Salt caverns, which have been turned into underground storage, can be filled and emptied faster than those in depleted gas fields and so are most frequently called on in emergencies.
How are gas prices calculated?
The cost of gas is subject to many factors on its pathway from production right through to your premises.
Wholesale gas prices in the UK are what it costs your supplier to buy gas from the original producer. This price can vary due to market forces, but the gas supplier will have to calculate what they can charge their customers without making a loss.
Natural gas and crude oil prices charts rise and fall with changes in global demand. Any fixed-price energy deals need to be held at a price that can absorb any extreme increases in price whilst still making a profit.
There are four main Gas Delivery Networks in the UK that manage and distribute gas to homes and businesses across the UK. They’re responsible for delivering gas safely, which includes repairing leaks and replacing decaying pipework. The costs associated with providing this service contribute to the final price of your gas.
Since 2001, businesses have paid what’s known as the Climate Change Levy (CCL). The CCL is an environmental tax charged on the energy that companies use. It applies to business in the industrial, public services, commercial and agricultural sectors, and it’s charged on heating, lighting and power.
However, the government has introduced several measures to ensure energy-intensive industries like manufacturing are not disadvantaged when compared to foreign competitors.
Climate change is an area that is subject to new and changing initiatives. Businesses should keep up-to-date on the latest government legislation to make sure they’re not caught out.
Operating costs stem from maintaining equipment used to produce gas. These include labour costs for all personnel who perform modifications and maintenance of machinery and other equipment.
Maintenance work is essential if costly production downtime is to be avoided. By keeping on top of it, suppliers prevent expensive repairs and keep operating costs low over time. And while operating costs might jump if a supplier opens a new field, they’ll start to decrease again over time.
Gas producers have to pay tax on their profits, just as any other business. There are three forms of tax levy:
- Ring Fence Corporation Tax - Ring fence corporation tax gives companies 100% allowances in the first year for most of their capital expenditure. It means that no other activities that offer tax relief will reduce the profits businesses get from gas extraction.
- Supplementary Charge - The ring-fenced profits of a company are subject to an additional charge but it doesn’t reduce finance costs from them.
- Petroleum Revenue Tax - PRT tax stops any exploitation of gas and oil in the UK so a fair share of the profits is returned to the country. This tended to be more applicable in the past when it was introduced in 1974, but more recently ‘super-profits’ are less likely, and the UK Government has reduced the rates pair to increase energy security for the UK.
- Margin - Like any other business, suppliers need to make a profit. Once the price is established after wholesale costs and tax, they’ll apply a profit margin to arrive at the final price of gas to the end user.
Ofgem requires the UK's five largest energy suppliers to be transparent by publishing their annual financial statements, including their profit margin (EBIT).
What influences the wholesale cost of gas?
Gas supply prices aren’t just influenced by supply and demand. Weather, cost of alternative energy sources, world politics, and the use of renewable forms of energy are all other factors that can make the price of gas spike or dip.
Time of year
Gas is the primary fuel used for central heating, so more is used when the weather is cold. As a result, wholesale gas prices are higher in winter than in summer. This means that the timing of your energy switch can make a difference to the rates you pay.
We’re also competing with other countries to buy more gas in winter, so the price goes up. Recent winters have been relatively mild, resulting in the demand for gas for heating reducing.
Demand from industrial customers has also been falling, and at the same time, energy efficiency has improved. These factors have put downward pressure on demand and prices, which is good news for the consumer.
On the other hand, demand from gas-fired power stations is set to increase, with more electricity being generated by gas than coal plants in decline. It’s anticipated that this will increase demand in the summer months when there would usually be a drop.
Currency movement can have a knock-on effect across several markets, which can drive the wholesale price of gas up or down. If sterling is strong against the euro, traders will buy the relatively cheaper gas from the European market rather than the UK. This has the effect of weakening UK prices resulting in lower UK prices.
Oil and LNG prices
Historically, oil and LNG prices have followed roughly the same ups and downs price-wise until 2008. Since 2009, though, there has been little or no correlation between the two. It is thought that US Shale Gas extraction has been a factor in this, and it is still having an impact as the shale gas industry expands.
Cheaper LNG imports are one of the reasons why UK wholesale gas prices have been falling. Similar to LNG, oil price drops have been followed by falls in continental gas prices. This benefited the UK as we imported cheaper gas through the two pipelines connecting us with the European suppliers.
Power station closures
As the government continues its planned coal-fired power station closures, a great option to replace them is to use gas to produce electricity. This puts a greater demand on the gas supply network and will inevitably lead to increased gas prices.
It’s hoped that as renewable energy expands its role in providing power to homes and businesses, dependence on gas will lessen, and it will become a cheaper alternative.
Performance of other renewables
Although it would be great to see the UK providing 100% of the UK's energy from renewables, it’s still a long way off. There is a continuing steady increase in our use of them, but when there is no wind, turbines don’t produce electricity, and solar panels can’t generate electricity without sunshine.
So what happens then? We have to fall back on the more reliable supply of gas. If we have to use more of our available gas capacity than expected to make up the shortfall, it will inevitably increase the average UK gas prices.
Be prepared for future price changes with Bionic
There is no doubt that energy pricing is very complex, subject to a whole host of external influences. In the end, once it is out of the ground, it’s simply a matter of supply and demand.
Visit our Business Gas Page to see how we can help you with your business's energy provision. We’ve also got a handy guide on how to compare business gas prices between providers so you can get the best deal.