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Europe’s Energy Crisis and the Global Economy

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Europe's Energy Crisis

This infographic is available as a poster.

Europe’s Energy Crisis and the Global Economy

Volatile energy prices are squeezing household costs and business productivity in Europe.

While energy prices have fallen in recent months, several factors could influence price volatility looking ahead:

  • Russia slashing energy supplies
  • Rising winter heating demand
  • Shrinking European storage facilities

In the above infographic from New York Life Investments, we show the potential impacts of Europe’s energy crisis on consumers, businesses, and the wider global economy.

1. Impact on Consumers

Energy plays a central role in overall inflation. Here’s how it factors into the consumption baskets of various countries:

CountryEnergy %
of Inflation
Total Inflation Rate
(Sep 2022)
EnergyFoodAll Items Less Food
and Energy
Germany46%9.9%4.5%1.8%3.6%
Italy42%8.7%3.7%2.2%2.8%
Japan42%3.0%1.3%1.0%0.8%
France29%5.6%1.6%1.6%2.4%
United Kingdom28%8.8%2.5%1.3%5.0%
U.S.17%8.2%1.4%1.0%5.8%
Canada15%6.8%1.0%1.3%4.5%

Source: OECD (Oct 2022). Annual inflation is measured by the Consumer Price Index.

As the above table shows, energy makes up nearly half of consumer price inflation in Germany. In the U.S., it contributes to about one-fifth of overall inflation.

Amid energy supply disruptions, U.S. winter heating costs are projected to rise to the highest level in a decade. As heating costs rise, it could impact consumer spending on discretionary items across the economy, along with other essential household bills.

2. Impact on Business

Natural gas and petroleum are key components in many industries’ energy consumption. As a result, the recent rise in energy prices is adding significant cost pressures to operations.

Below, we show how four primary sectors use energy, by source:

U.S. SectorPetroleumNatural GasRenewablesCoalElectricity
Transportation90%4%5%0%<1%
Industrial34%40%9%4%13%
Residential8%42%7%0%43%
Commerical10%37%3%<1%50%

Source: EIA (Apr 2022). Figures represent end-use sector energy consumption in 2021.

In Europe, soaring energy prices have led to production declines in energy-sensitive industries over recent months. As a ripple effect, European fertilizer production capacity has decreased as much as 70%, crude steel capacity has fallen 10%, and aluminum and zinc production capacity has sunk 50%.

In response, some companies may move production out of Europe to regions with lower energy prices. This occurred in 2010-2014 amid high European energy prices, where companies relocated to the U.S., the Middle East, and North Africa.

3. Impact on the Economy

While the energy crisis is having devastating effects on many countries, some markets like the U.S. are more sheltered from the impact. As seen in the table below, the U.S. produces virtually all of its natural gas. Figures are shown in trillion cubic feet.

YearU.S. Natural Gas
Production
U.S. Natural Gas
Consumption
Net Imports
20213531-4
20203331-3
20193431-2
20183130-1
201727270
201627271
201527271
201426271
201324261
201224262
201123242
201021243

Source: EIA (Sep 2022).

By contrast, Europe imports 80% of its natural gas, primarily from Russia, North Africa, and Norway. Not only that, natural gas imports have increased over the last decade, up from 65% of total supplies in 2010.

Meanwhile, the energy sector is seeing strong returns supported by higher oil and natural gas prices, along with key fuel shortages as Russia constricts supplies to Europe. In November the S&P 500 Energy Index was up 65% year-to-date compared to the broader index, with -17% returns.

Europe’s Energy Crisis: Looking Ahead

Given the complex geopolitical environment, Europe’s energy crisis could last well into 2023, driven by many factors:

  • Rising demand from China post-COVID-19 lockdowns
  • Lower European fuel reserves
  • Inadequate energy infrastructure in the medium-term

The good news is that European government relief has reached €674 billion ($690 billion) to cushion the effect on households and businesses.

However, this has additional challenges as increasing money supply may be an inflationary force.

Amid market volatility, investors can avoid getting caught up in short-term market movements and stay focused on their long-term strategic allocation.

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The 20 Most Common Investment Mistakes, in One Chart

Here are the top investment mistakes to avoid, from emotionally driven investing to paying too much in fees.

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The 20 Most Common Investment Mistakes

No one is immune to errors, including the best investors in the world.

Fortunately, investment mistakes can provide valuable lessons over time, providing investors an opportunity to gain insights on investing—and build more resilient portfolios.

This graphic shows the top 20 mistakes to watch out for, according to the CFA Institute.

20 Investment Mistakes to Avoid

From emotionally driven investment decisions to paying too much on fees, here are some mistakes that investors commonly make:

Top 20 MistakesDescription
1. Expecting Too Much
Having reasonable return expectations helps investors keep a long-term view without reacting emotionally.

2. No Investment Goals
Often investors focus on short-term returns or the latest investment craze instead of their long-term investment goals.

3. Not DiversifyingDiversifying prevents a single stock from drastically impacting the value of your portfolio.

4. Focusing on the Short TermIt’s easy to focus on the short term, but this can make investors second-guess their original strategy and make careless decisions.

5. Buying High and Selling LowInvestor behavior during market swings often hinders overall performance.

6. Trading Too MuchOne study shows that the most active traders underperformed the U.S. stock market by 6.5% on average annually.
Source: The Journal of Finance

7. Paying Too Much in FeesFees can meaningfully impact your overall investment performance, especially over the long run.

8. Focusing Too Much on TaxesWhile tax-loss harvesting can boost returns, making a decision solely based on its tax consequences may not always be merited.

9. Not Reviewing Investments RegularlyReview your portfolio quarterly or annually to make sure you’re staying on track or if your portfolio is in need of rebalancing.

10. Misunderstanding RiskToo much risk can take you out of your comfort zone, but too little risk may result in lower returns that do not reach your financial goals. Recognize the right balance for your personal situation.

11. Not Knowing Your PerformanceOften, investors don’t actually know the performance of their investments. Review your returns to track if you are meeting your investment goals factoring in fees and inflation.

12. Reacting to the MediaNegative news in the short-term can trigger fear, but remember to focus on the long run.

13. Forgetting About InflationHistorically, inflation has averaged 4% annually.

Value of $100 at 4% Annual Inflation
After 1 Year: $96
After 20 Years: $44

14. Trying to Time the MarketMarket timing is extremely hard. Staying in the market can generate much higher returns versus trying to time
the market perfectly.

15. Not Doing Due DiligenceCheck the credentials of your advisor through sites like BrokerCheck, which shows their employment history and complaints.

16. Working With the Wrong AdvisorTaking the time to find the right advisor is worth it. Vet your advisor carefully to ensure your goals are aligned.

17. Investing With EmotionsAlthough it can be challenging, remember to stay rational during market fluctuations.

18. Chasing YieldHigh-yielding investments often carry the highest risk. Carefully assess your risk profile before investing in these types of assets.

19. Neglecting to StartConsider two people investing $200 monthly assuming a 7% annual rate of return until the age of 65. If one person started at age 25, their end portfolio would be $520K, but if the other started at 35 it would total about $245K.

20. Not Controlling What You CanWhile no one can predict the market, investors can control small contributions over time, which can have powerful outcomes.

For instance, not properly diversifying can expose you to higher risk. Holding one concentrated position can drastically impact the value of your portfolio when prices fluctuate.

In fact, one study shows that the optimal diversification for a large-cap portfolio is holding 15 stocks. In this way, it helps capture the highest possible return relative to risk. When it came to a small-cap portfolio, the number of stocks rose to 26 for optimal risk reduction.

It’s worth noting that one size does not fit all, and seeking financial advice can help you find the right balance based on your financial goals.

Another common mistake is trading too much. Since each trade can rake up fees, this can impact your overall portfolio performance. A separate study showed that the most active traders saw the worst returns, underperforming the U.S. stock market by 6.5% on average annually.

Finally, it’s important to carefully monitor your investments regularly as market conditions change, factoring in fees and inflation. This will let you know if your investments are on track, or if you need to adjust based on changing personal circumstances or other factors.

Controlling What You Can

To help avoid these mistakes, investors can remember to stay rational and focus on their long-term goals. Building a solid portfolio often involves assessing the following factors:

  • Financial goals
  • Current income
  • Spending habits
  • Market environment
  • Expected returns

With these factors in mind, investors can avoid focusing on short-term market swings, and control what they can. Making small investments over the long run can have powerful effects, with the potential to accumulate significant wealth simply by investing consistently over time.

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Visual Guide: The Three Types of Economic Indicators

From GDP to interest rates, this infographic shows key economic indicators for navigating the massive U.S. economy.

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A Visual Guide to Economic Indicators

Economic indicators provide insight on the state of financial markets.

Each type of indicator offers data and economic measurements, helping us better understand their relationship to the business cycle. As investors navigate the market environment, it’s important to differentiate between the three main types of indicators:

  • Leading
  • Coincident
  • Lagging

The above infographic from New York Life Investments shows a road map of indicators and what they can tell us about the economy.

What’s Ahead: Leading Indicators

Leading indicators present economic data that point to the future direction of the economy like a sign up ahead. Here are three examples.

1. Consumer Confidence Index

This key measure indicates consumer spending and saving plans. When the index is above 100, consumers may spend more over the next year. In December, the index jumped to 108 up from 101 in November. This was in part due to lower inflation expectations and improving job prospects.

In the December survey, 48% indicated that the job market remained strong, highlighting the strength of employment opportunities and likely influencing sentiment towards spending in the future.

2. ISM Purchasing Managers Index

The ISM Purchasing Managers Index indicates expectations of new orders, costs, employment, and U.S. economic activity in the manufacturing sector. The following table shows how the index is broken down based on select measures:

IndexNov 2022
Oct 2022Percentage
Point Change
Direction
Trend (Months)
Manufacturing PMI49.050.2-1.2Contracting1
New Orders47.249.2-2.0Contracting3
Employment48.450.0-1.6Contracting1
Prices43.046.6-3.6Decreasing2
Imports46.650.8-4.2Contracting1
Manufacturing SectorContracting1

For instance, in November the index fell into its first month of contraction since May 2020. Falling new orders signal that demand has weakened while contracting employment figures indicate lower output across the sector.

3. S&P 500 Index

The S&P 500 Index indicates the economy’s direction since forward-looking performance is factored into prices. In this way, the S&P 500 Index can represent investor confidence as the index often serves as a proxy for U.S. equity markets. In 2022, returns for the index are roughly -20% year-to-date.

Current Conditions: Coincident Indicators

Coincident indicators reflect the current state of the economy, showing whether it is in a state of growth or contraction.

1. GDP

GDP indicates overall economic performance. Typically it serves as the most comprehensive gauge of the economy since it tracks output across all sectors. In the third quarter of 2022, real U.S. GDP increased 2.9% on an annual basis. That compares to 2.7% for the same period in 2021.

2. Personal Income

Rising incomes indicate a healthier economy and falling incomes signal slower growth. Personal income grew at record levels in 2021 to 7.4% annually amid a rapid economic expansion.

This year, U.S. personal income has grown at a slower pace, at 2.7% on an annual basis as of the third quarter.

3. Industrial Production Index

Strongly correlated to GDP, the industrial production index indicates manufacturing, utilities, and mining output. Below, we show trends in industrial production and how they correspond with GDP and personal income indicators.

DateU.S. GDPPersonal
Income
Industrial
Production
2022*7.3%2.7%4.7%
202110.7%7.4%4.9%
2020-1.5%6.7%-7.0%
20194.1%5.1%-0.7%
20185.4%5.0%3.2%
20174.2%4.6%1.4%
20162.7%2.6%-2.0%
20153.7%4.7%-1.4%
20144.2%5.5%3.0%
20133.6%1.3%2.0%
20124.2%5.1%3.0%
20113.7%5.9%3.2%
20103.9%4.3%5.5%
2009-2.0%-3.2%-11.4%
20082.0%3.8%-3.5%
20074.8%5.6%2.5%
20066.0%7.5%2.3%
20056.7%5.6%3.3%

*As of Q3 2022.

As the above table shows, factory production collapsed following the 2008 financial crisis, a key indicator for the depth of an economic downturn. Meanwhile, personal income sank over -3% while GDP fell -2%.

Despite economic uncertainty in 2022, industrial production remains positive, at a 4.7% growth rate, albeit somewhat slower than 2021 levels.

Rearview Mirror: Lagging Indicators

Like checking your back mirror, lagging indicators take place after a key economic event, often confirming what has taken place in the economy. Here are three key examples.

1. Interest Rates

Often, interest rates respond to changes in inflation. When rates rise it can slow economic growth and discourage borrowing. Rising interest rates typically signal a strong economy and are used to tame inflation. On the other hand, low interest rates promote economic growth.

Following years of record-low interest rates, the Federal Funds rate increased at the fastest rate in decades over 2022, jumping from 0.25% in March to 4.25% in December as inflation accelerated.

2. Consumer Price Index

This inflation measure can indicate cash flow for households. Inflation is often the result of rising input costs and increasing money supply across the economy.

Sometimes, inflation can reach a peak after an expansion has ended as rising demand in an economy has pushed up prices. In November, U.S. inflation reached 7.1% annually amid supply chain disruptions and price pressures across food prices, medical prices, and housing costs.

YearInflation Rate Annual Change
2022*7.1%2.4%
20214.7%3.5%
20201.2%-0.6%
20191.8%-0.6%
20182.4%0.3%
20172.1%0.9%
20161.3%1.1%
20150.1%-1.5%
20141.6%0.2%
20131.5%-0.6%
20122.1%-1.1%
20113.2%1.5%
20101.6%2.0%
2009-0.4%-4.2%
20083.8%1.0%
20072.9%-0.4%
20063.2%-0.2%
20053.4%0.7%

*As of November 2022.

3. Unemployment Rate

The unemployment rate has many spillover effects, impacting consumer spending and in turn retail sales and GDP. Historically, unemployment falls slowly after an economic recovery which is why it’s considered a lagging indicator. When the unemployment rate rises it confirms lagging economic performance.

Overall, 2022 has been characterized by a strong job market, with unemployment levels below historical averages, at 3.7% as of October.

On the Road

To get a more comprehensive picture of the economy, combining a number of indicators is more effective than isolating a few variables. With these tools, investors can gain more perspective on the cyclical nature of the business cycle while keeping a long-term perspective in mind on the road ahead.

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