Heating bills are set to soar with warnings of a steep hike in gas prices over the next few months. Nick Morrison looks at what lies behind the rise and what it means - to both consumers and the economy.

IT was less than a decade ago that we seemed to be awash with North Sea gas. There was so much of it, we believed, that it would supply us for years to come. It was enough to make us the envy of Europe in a world of dwindling fossil fuel reserves.

But now, for the first time in a generation we are importing gas, and it will be only a few years before the amount we bring in exceeds the amount we produce. And the result is that our heating bills, once among the lowest in Western Europe, are rapidly catching up with the continental average.

Already this year two companies have increased their gas bills, npower by between nine and 12 per cent and Scottish and Southern Energy by 13.7 per cent, coming on top of two years of double digit hikes. And British Gas warned at the weekend that its rise could be even steeper.

Wholesale gas prices, which make up around half the cost to the consumer, are up 70 per cent on this time last year, and if a similar proportion is passed on to bill payers as in previous years it would mean a hefty 25 per cent on household bills.

"We're worried about energy price increases, and we're particularly concerned at the impact of those customers least able to pay energy bills," says a spokesman for industry watchdog Ofgem. "That is why we have been calling on the industry to do more, particularly for those on low incomes."

While inflation stood at 2.1 per cent for the year to November, the cost of energy has shot up, with electricity up 12 per cent and gas up 17 per cent. The result has been to threaten to derail the Government's target of wiping out fuel poverty - defined as spending at least ten per cent of take home pay on energy - by 2010 among vulnerable groups, the elderly, families with children or the sick and disabled.

A report last year by charity National Energy Action (NEA) and the National Right to Fuel Campaign forecast that in the worst case scenario, more than two million households, one in ten, would be in fuel poverty by 2009, and even in a more moderate scenario that figure would be 1.6 million.

Spending more money on heating means households will have less to spend on other goods, possibly delaying an end to the consumer slowdown, on top of the cost to businesses of higher fuel bills. And with around 40 per cent of the UK's electricity generated by gas, an increase in the cost of gas feeds through to electricity prices too.

This reversal of a trend which even now sees gas and electricity prices an average of £140 lower in real terms than 15 years ago, has come about for a number of reasons, the most important of which is a faster than expected decline in UK gas reserves. And this is expected to increase dramatically over the next few years.

Today, about 90 per cent of the UK's requirements come from the North Sea, but in ten years' time that figure is expected to fall to 25 per cent, with the remainder imported. "The decline has been much steeper than was originally forecast," says the Ofgem spokesman. "And this means we're relying more on imports from Europe."

AROUND £6bn is being invested in measures to tackle this shortfall, including new import terminals and new pipelines, including the world's largest undersea pipeline from Norway to Humberside, but much of this will not come into operation until the end of this year at the earliest. In the meantime, the UK is at the mercy of the high price of gas in European markets.

Here, a number of factors have conspired to make the wholesale price of gas to the UK increase by about 70 per cent in 2006 compared with last year, by 43 per cent in 2005 over 2004, and triple overall since 2003.

The lack of competition in European markets means the cost of transporting gas across the continent is high: it is three times as expensive to pass gas down a pipe in Germany as it is in the UK. Gas prices in Europe are also linked to the price of oil, which has been rising sharply. And at the end of an over-worked network of existing pipes, the UK can expect to pay more for gas than the rest of the continent, at least until the new pipelines come into play.

"Historically, our gas has been much cheaper than Europe but the picture has changed more quickly than people thought," says Andrew Turpin, spokesman for British Gas parent company Centrica. "We're going through a spell when we don't have enough in the North Sea and we haven't yet built these new pipelines and we're reliant on gas from the continent, and that means as we're at the end of the line we have to pay a higher price."

He says prices are still lower than on the continent and once the new pipelines are in place, by 2007/8, consumers should see downward pressure on bills. And he says the company itself has been hit hard by the increases: its residential business will be making a loss for the second half of last year, and over the last two years it has shed 3,500 jobs.

Consumer group Energy Watch has called for an investigation into the operation of the European energy market, amid suspicions that prices are being kept artificially high. "Consumers are pretty miffed because they're seeing dramatically rising prices with falling standards of service," says a spokesman.

'WE'RE not against the companies making profits, but we would like to see some of those profits go into a trust to help the most vulnerable members of society." He says that for every one per cent rise in the cost of fuel, about 40,000 people go into fuel poverty.

But even if respite from high heating bills may be at least two years away, there are measures consumers can take to reduce the impact, according to Ofgem. Principal among these is to shop around suppliers. Households who have never changed should save around £100 on average by switching to a new supplier, with greater savings available for large households. "The biggest saving comes if you have never switched before, but even if you have switched it is still worth shopping around for a better deal," the Ofgem spokesman says.

Energy efficiency measures, such as insulation, could also save an average of £100 a year, every year, and switching to paying by direct debit could also save £30-35. "That can help take the sting out of the recent price rises," he adds. But until the new pipelines are up and running, it may be that consumers will have to bear the pain for at least another two years.