Energy security: a changing reality
The tension between affordability, security and sustainability in the current environment has been coined the 'energy trilemma'.
Over the last decade the emphasis in energy policy in developed economies has been firmly focussed on transition to renewable energy sources and a major shift away from fossil fuels as the world faces up to the implications of climate change. Targets for reaching net zero carbon emissions put the creation of large scale renewable energy sources at the top of the energy agenda.
Global insurers have been keen to play their part, with many shunning coal and other fossil projects, both as underwriters and investors, while positioning themselves to support the rapidly growing renewables sector.
Russia’s illegal invasion of Ukraine and the increasingly tough sanctions imposed on Russian oil and gas, and subsequent price volatility, have altered that focus, with energy security coming to the fore. The UK government has renamed its own energy ministry the Department for Energy Security and Net Zero to underline the new focus on energy security. The US already has an Office of Cybersecurity, Energy Security and Emergency Response.
It would be wrong to hang the current energy crisis entirely on the war in Ukraine as it has been building for some years, fanned by a variety of economic factors, including the rapid post-pandemic economic rebound that saw demand outpace energy supply, forcing up prices.
This new tension between the drive towards sustainability and the search for security has been christened the “energy trilemma” by the geopolitical risk team at Blackrock, the world’s largest asset manager. It adds growing US-China tensions and cyber security to the Ukraine war as major threats to energy security.
Far from undermining the green agenda, the resolution of the trilemma lies in supporting energy diversity, says John Scott, head of sustainability risk at Zurich Insurance Group. “Energy security comes from real diversity in energy supply. It helps build resilience to the challenges we are facing. It is a mix of energy sources and connectivity across regions that builds genuine energy security in the longer term… It has made governments look at how they can accelerate the move away from fossil fuels”.
Paradoxically, it is accelerating the actions needed to develop alternatives to fossil fuels
He acknowledges that in the short term, the picture looks less encouraging for the transition to renewables: “The war in Ukraine has caused all sorts of problems with energy supply, especially with fossil fuels … It has exposed a divergence between what is scientifically necessary and what is politically expedient. In the short term you can’t just switch off the lights, leave people shivering in their homes or shut down industries.”
Scott says he believes this short term expediency will soon be replaced by a pick-up in renewables: “Paradoxically, it is accelerating the actions needed to develop alternatives to fossil fuels”.
This message was reinforced at governmental level at a meeting in London at the end of February between the new UK Energy Security Secretary Grant Shapps and his US counterpart, Jennifer M Granholm, who stressed the link between energy diversity and security: “We are keenly aware that remaining overly reliant on fossil fuels puts our energy security at risk and that the solution lies in diversifying our fuel sources through the deployment of clean energy”.
We still need more data on earthquake and windstorm risks. There were some major losses on solar projects from hailstorms in the US that hadn’t been factored into the premiums
The Biden administration’s Inflation Reduction Act is expected to stimulate billions of dollars of investment into the renewable energy sector, with additional momentum from Europe’s REpowerEU plan.
With many major insurers, including Zurich, Allianz and Axa, withdrawing from insuring coal and other fossil fuel businesses premiums are going up as capacity is reduced. However, when it comes to renewables, there is a keen appetite to take on these new sectors, says Tim Halperin-Smith, partner, renewables, power and energy at brokers McGill and Partners: “The insurance industry has been transitioning to renewables for some time and the Ukraine war hasn’t necessarily changed that”, although he says there will still be underwriters willing to look at coal and other fossil fuels.
Hydrogen is definitely on everyone’s lips as the next big renewable industry
One of the attractions with renewables such as wind and solar power is that there is less catastrophe risk – including from pollution – than there is will coal, oil and gas. This does not mean there are not some major risks, says Halperin-Smith: “In the offshore wind space these installations are designed to take a battering. You are talking about hundreds of mini-installations rather than one big risk such as an oil rig.
“However, we still need more data on earthquake and windstorm risks. There were some major losses on solar projects from hailstorms in the US that hadn’t been factored into the premiums.”
Other technologies are moving fast says his colleague, partner Ronan Henry: “Hydrogen is definitely on everyone’s lips as the next big renewable industry. Green hydrogen is being talked about a lot but we haven’t seen any major projects come into the insurance market yet”.
Underwriters are well positioned to meet the demand for cover for new risks, says David Message, lead energy underwriter, at IQUW, which has its capacity in Lloyd’s.
The insurance market currently has adequate capacity available for green energy
“The insurance market currently has adequate capacity available for green energy to support building and fabrication work for these installations and to operate them … For example, we are currently working with clients as they re-electrify and provide alternative sources of power to existing assets offshore with green energy. We are also working with clients in the use of geothermal energy, installing wind farms on rigs and offshore vessels, as well as CCUS – carbon capture, utilisation and storage.”
All major energy production, transmission and storage facilities are seen as potential targets for cyber attacks, especially by state actors. As the understanding of this threat has grown, so the exclusions from standard all risk policies have become tighter, leaving firms with tricky decisions to make about whether to extend their cover to cyber and terrorism risks. Often, this is driven by the ownership structure and shareholders, says Halperin-Smith.
“The major energy companies who are balance sheet financing projects are usually more comfortable retaining some of the risk”. This appetite for retaining exposure diminishes once external debt finance comes into the mix and often disappears altogethers when conservative private equity or pension fund investors are behind a project.
With governments around the world searching for ways of diversifying their energy sources by incentivising private sector investment in renewables, it looks as if cover for the cyber and terrorism risks, rather than the physical risks, could be the pinch point for the insurance industry.