Geopolitical risks and energy market dynamics

Abstract

In this paper, we examine the relationship between geopolitical risks and energy markets, focusing on how these risks impact energy consumption, trade, and the transition to renewable energy. Using the System Generalized Methods of Moments (SYS-GMM) on energy market-related data from the World Bank, we find that geopolitical risks do not have statistically significant impacts on overall energy consumption in our full sample. However, further analyses suggest that geopolitical risks have heterogeneous impacts on overall energy consumption based on the status of development and whether countries are net energy exporters or importers. Specifically, we find that geopolitical risks are associated with increased energy consumption in both developed and developing countries. However, developing countries increase not only the level but also the intensity of consumption, highlighting the need to increase energy stockpiles. This finding remains robust to alternative measurements of geopolitical risks and estimation approaches, such as the Instrumental Variable (IV) method. In addition to energy consumption, we also find that geopolitical risks positively affect renewable energy growth in developed countries while increasing reliance on fossil fuels at the same time. This finding suggests a delicate balance developing countries need to strike while maintaining current energy demands and promoting energy sovereignty by promoting renewable energy at the same time. Lastly, we find that geopolitical risks decrease both energy exports and imports. However, such a shrinkage in energy trade is followed by strong exports and imports signifying a profit seeking behavior of exporter countries and a need to rely on imported fuels to maintain domestic energy security of importers. These findings underscore the importance of geopolitical risks in understanding energy market dynamics.