• Rising energy prices and their impact on the manufacturing industry: which sectors are being hit the hardest?

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    The increase in energy prices throughout 2021 as a result of the combination of the sharp rise in global energy demand (due to the reactivation of the economic cycle) and a certain weakness in supply (due to geopolitical problems and the change in the energy model towards non-fossil fuels) has led to a global energy shock. In 2022, the geopolitical context is putting extra pressure on international gas and oil prices, which could aggravate the already significant impact of the energy bill on Spanish industry. This article examines the specific impact of rising energy prices on manufacturing, analysing which sub-sectors are being most affected and to what extent they are exposed to more sustained pressure on energy prices.

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    Manufacturing, a major consumer of energy

    First, we must determine how the different sectors and agents in Spain’s economy consume energy. A survey of physical energy flows provides useful information on energy consumption, disaggregated by energy type and sector of activity. In this case, we have analysed the consumption of electricity, natural gas and oil, the three products whose prices are currently experiencing the largest hikes.7 As can be seen in the charts below, manufacturing industry as a whole is a major consumer of energy from these three sources, accounting for slightly more than half of the total energy consumed, well ahead of energy suppliers, which account for 64% of the natural gas consumed in Spain to generate electricity, and households, consumers of 26% of the electricity. Other very important sectors for the Spanish economy, such as hospitality services which are closely related to the key sector such as tourism, and the transport of goods, a major consumer of oil products, come a distant second in terms of energy consumption. We can therefore deduce that industry’s energy consumption is indeed very high and energy prices are therefore key to its performance.

    • 7. According to Spain’s industrial price index (INE) for February 2022, the supply price for gas grew by 99% year-on-year, that of oil refining products by 59% and electricity by 62%.

    Energy consumption of oil, gas and electricity by businesses and households

    Last actualization: 04 May 2022 - 08:51

    Manufacturing industry consumption by energy type

    Last actualization: 04 May 2022 - 08:58
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    Consumption of the three types of energy source (oil, gas and electricity) is not homogeneous across the sector. For example, within the total oil consumed by manufacturing industry, 95% is consumed by the oil refining industry itself, which uses this energy source mainly as an input to produce oil derivatives (two thirds of its consumption is crude oil). Such idiosyncrasies do not occur in the rest of the manufacturing sectors, so the exposure of each sector to the prices of the three utilities is very different. This is shown by the chart below, where great variability can be seen in the type of energy products consumed by each industry, although there is a larger number of industries that consume more electricity. There are also some industries with a higher consumption of other types of energy products, such as the plastics industry which consumes a relatively large amount of thermal energy, and the cases of the furniture, wood and paper industries, which consume wood for energy purposes (i.e. the burning of wood waste), as well as for production.

    Great variability can be seen in the type of energy products consumed by each industry, although there is a larger number of industries that consume more.

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    Source: CaixaBank Research, based on data from the National Statistics Institute.
    Rising energy prices are putting pressure on production prices

    The intensive use of energy products has left the manufacturing industry highly exposed to the current energy shock. One of the main effects of this shock has been some sub-sectors passing on higher energy costs to their industrial production prices, showing a certain capacity to raise the prices of their products. Spain’s Industrial Price Index (IPRI), which is compiled monthly by the National Statistics Institute, recorded a 10% rise in 2021 in manufacturing industry prices, the highest since 1985. Moreover, the year-on-year rates showed a clear upward trend throughout the year, in line with the intensification of the energy shock in recent months, ending December with 15.5% growth. It should be noted that this upturn in industrial prices is occurring on a global scale, so it has not translated into a worrying or significant loss of international competitiveness on the part of Spanish industry.

    The oil refining, metallurgical and chemical industries have seen the largest increase in their product prices.

    However, to fully understand the impact of the energy shock on each industry, it is not enough to know what types of energy they consume; we must also analyse the relative weight of energy consumption within their cost structure. For this purpose, we have used the input-output tables prepared by Spain’s National Statistics Institute (INE) to calculate what proportion of each industry’s revenue is used to pay for intermediate energy consumption, broken down by industrial branch.8 

    • 8. The INE input-output tables correspond to 2018. This analysis takes the following products into account: Coke and refined petroleum products, Consumption of electricity, steam and air conditioning, and Consumption of manufactured gas.
    The auxiliary sector to construction, metallurgical, paper and refining industries are the biggest consumers of energy

    The results of this analysis indicate that expenditure on energy inputs accounts for 4.1% of total manufacturing industry revenues (output at sales price). A priori, this figure would not reveal whether energy is a production factor that uses too large a share of the sector’s resources. However, there are five industrial branches (chemicals, metallurgy, oil, paper and the auxiliary sector to construction) that are relatively energy-dependent, ranging from 7.2% (chemicals) to 13.6% (auxiliary sector to construction). These more exposed industries were under more pressure to increase the sale price of their products given the rise in energy prices experienced in 2021. This can be seen in the scatter chart where, if we exclude the case of the auxiliary sector to construction, the correlation between the increase in industrial prices and the relative weight of energy consumption have a very clear positive correlation. In the specific case of the auxiliary sector to construction (manufacturers of cement and other non-metallic minerals), their greater exposure to energy has not been passed on to prices due to the fact that a large part of the sector’s sales were made at prices agreed at the beginning of 2021, although by 2022 we should start to see their sale prices rise.

    Share of energy consumption

    Last actualization: 04 May 2022 - 09:12
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    Source: CaixaBank Research, based on data from the National Statistics Institute.

    Although this analysis is very illustrative, given the situation we are experiencing in 2022 with the war in Ukraine putting pressure on energy prices, we must necessarily go a step further and determine the pressure that could be felt by each industrial sector to raise its prices, seeking to safeguard their margins but sacrificing part of their demand. We have therefore also analysed the sensitivity of the sector’s economic performance to an increase in the supply price of gas, electricity and oil in Spain. Consequently, we are no longer only considering the relative weight of energy in the factors of production but also its share the total cost structure, including employee remuneration. To do so, we have cross-referenced the energy consumption exposure calculated from the input-output tables above with the national accounting data for each industry available for the year 2019. This allows us to analyse how the gross operating surplus (GOS) of each industry would vary in a scenario of increased costs due to higher energy prices, in the hypothetical case they do not adjust their sale prices.9 Specifically, for this exercise we assume an annual increase in energy prices of 50% for gas, oil and electricity, similar to what was observed in 2021.10 

    • 9. Gross operating surplus is equal to production at market price minus the total cost of intermediate consumption, employee remuneration and net tax payments. It can be assumed to be an estimate of the sector’s profits.
    • 10. At the close of 2021, the increase in energy prices in Spain was 60% for oil (Brent) and 47% and 53% for the sale price of gas and electricity, respectively.

    Sensitivity of the gross operating surplus

    Last actualization: 04 May 2022 - 09:15

    According to our results, under the energy price increase scenario we have defined, the manufacturing industry’s GOS would fall by 17% if prices were not adjusted to sale prices, revealing that the industry is obviously under pressure from electricity, gas and oil prices in terms of its margins and therefore its sale prices. As can be seen in the chart above, the sectors identified previously as being most exposed to energy prices are also experiencing significant pressure on their GOS. In this case, the most prominent case is the oil refining industry which, if it did not pass on the shock to its sale prices, would see its margins become negative (a drop of more than 100% in its EBITDA), indicating the industry’s need to adjust prices as much as possible to the changes in gas and oil prices, something which, on the other hand, it is able to do thanks to the low elasticity of its demand. One of the key findings of this analysis is that, in addition to the average impact being high, in just one third of the industries are their profits only moderately sensitive to higher energy prices, with pharmaceuticals being the least exposed to energy costs.

    In just one third of the industrial sectors are their profits only moderately sensitive to higher energy prices.

    On balance, it seems clear that manufacturing is considerably exposed to increases in energy prices. According to our analysis, the metallurgical, chemical and refining industries (12% of manufacturing production in Spain) are highly exposed to the energy shock. Moreover, these are also the industries that are most likely to pass on the current rise in energy bills to their sale prices, taking advantage of the fact that their demand is relatively inelastic over the short and medium term.

    On the other hand, there are a number of industries where the increase in the cost of energy products is having a major impact on their profits but these have not yet passed on their higher costs to their prices, although we expect them to do so during the course of this year. These would be sectors such as the auxiliary sector to construction (in fact, this is a frequent demand by the sector), the wood industry and paper industry. Such sectors account for between 20% and 25% of all manufacturing activity.

    At the opposite end of the scale are those industries whose energy consumption appears to be somewhat lower, such as the manufacture of electronic and computer products, pharmaceuticals and textiles, among others. In this case, pressures on energy prices should not have a direct impact on their sale prices, although there is likely to be some kind of knock-on effect due to price hikes for other industrial intermediate products coming from industries more affected by energy prices.

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The second-round effects of the inflationary shock

We take a deep dive into the components of the consumer price index to determine whether the high inflation rates recorded in energy and food prices are spreading to the other components.

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February 9th, 2022
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Inflation began 2021 at 0.5% and ended the year at 6.5%. This sharp rise, which has brought inflation to its highest level since 1992, has raised doubts about whether we are experiencing a transitory rebound (and will return to less concerning levels in 2022) or if we will experience more persistent inflationary pressures.

On one hand, the main factors driving the current rally (energy prices, base effects and bottlenecks caused by the surge in demand) are mostly transitory in nature, which should favour a gradual moderation of inflation in 2022. On the other hand, high prices in energy and other inputs also push up the prices of other products if sellers pass on part of their cost increase to buyers.

If these «second-round effects» are sufficiently severe and persistent (the longer the current inflation levels are maintained, the more likely that this will be the case), then the inflation shock could become much more persistent and even outlast the hypothetical moderation of energy prices and other inputs. A rise in prices across the board is also more likely to impact wages, which is another type of second-round effect that would contribute to prolonging the pressure on prices.

Spain: inflation in the CPI basket, by subclass

In this regard, it is key to understand whether the high inflation rates are spreading to the rest of the components of the Consumer Price Index (CPI) or whether, on the contrary, they are concentrated in just a few components essentially within the energy segment. To this end, we performed a detailed analysis of the 221 subclasses that constitute the CPI goods basket and how their distribution1 has evolved since 2018.

In December, 45% of the CPI goods basket (vs. 59% in November and 80% in January 2021) registered inflation rates below 2%; 32% of the CPI basket (vs. 25% in November and 12% in January 2021) had inflation rates between 2% and 5%, while 23% (vs. 16% in November and 8% in January 2021) had inflation rates exceeding 5%. The highest inflation rates are concentrated within a relatively small group of subclasses, and the three items with the highest levels of inflation do indeed belong to the energy component. Even so, there are several items within the food sector that also show very high inflation rates. In fact, 21 of the 39 subclasses with inflation above 5% belong to the food sector (most notably other edible oils and olive oil, with rates of 30.5% and 26.7%, respectively). Being an energy-dependent sector, with high pressure on profit margins and relatively inelastic demand, the food sector is most likely passing on much of its increase in costs to the final consumer. Although the current situation is concerning, it cannot be said to be alarming: with the exception of the food sector, the impact of second-round effects on the final consumer is proving to be relatively contained so far.

That said, if we look at the trend shown by the data, the message changes: the situation has deteriorated considerably since September. Comparing the distribution of inflation between September and December (see second chart), we can see that it has shifted clearly to the right. This indicates that a large portion of the subclasses that comprise the CPI have registered significant increases in their respective inflation rates.

  • 1. We analysed the distribution of inflation in the 221 subclasses, weighted based on their relative importance in the CPI.
Spain: distribution of CPI inflation (December vs. September)

The evolution of the 25th percentile, the median and the 75th percentile of the CPI inflation distribution over time offers us another perspective (see third chart). Up to September, the median remained at similar levels to 2018. This is because the surge in inflation was caused by energy-related items (mainly electricity), which have a low weight in the CPI basket but very high inflation rates (thus affecting the mean but not the median).

Spain: evolution of the CPI inflation percentiles

In contrast, since September both the median (2.0% vs. 1.2% in September) and the 25th and 75th percentiles have picked up. The most striking surge is in the 75th percentile: 25% of the CPI basket registered an inflation rate above 4.1% in December (compared to 2.1% in September). Will we see more pronounced second-round effects which will, in turn, generate persistent inflationary tensions? Not necessarily, but it will be key for the pressures on energy prices and other transitory effects to subside over the coming months, as the high inflation rates have already began to spread.

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