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The fact that German energy company RWE is contemplating a downstream merger with Russia's Gazprom on the back of Berlin's decision to phase out nuclear power is bad news for Europe on three levels. The first is that oil-indexed gas prices will be reinforced in favour of wholesale spot prices. The second is that European diversification efforts will be undermined given that RWE was the leading utility behind the EU inspired Nabucco pipeline. The third is that once Gazprom gets a foothold in the German downstream scene, the EU's dream of ‘unbundling' production, transmission and distribution will be dead. Europe will be tied to Russia's hip at a time when Moscow is increasingly looking towards Asia for lucrative new markets and additional political leverage.

Weak fundamentals have masked deep policy flaws in European energy provision, nowhere more so than on gas. Europe has not only taken its eye off the Asian ball where demand is tightening, but more specifically, from its structural dependence on Russia. The EU's hapless handling of the Arab spring has made alternative upstream supplies a tougher nut to crack, but the real policy ‘no brainers' fall within the EU itself. Most notably in Berlin, where the post-Fukushima decision to accelerate the nuclear phase out is set to give Gazprom a significant downstream German stake - at least if RWE's recent Memorandum of Understanding with Gazprom is much to go by.

Obviously a degree of brinkmanship is involved in the RWE-Gazprom deal, both from RWE to try and force a nuclear rethink in Berlin and from Gazprom to underpin its European market share in terms of volume and price. Whether both sides follow through towards a fully-fledged joint venture remains to be seen, but the stakes are too high to simply sit back and wait: Gazprom isn't just trying to consolidate its European position on the back of nuclear closures, it is looking to sign a 68bcm/y deal with China and rapidly ramp up its LNG capacities in Eastern Siberia.

No need to worry? Perhaps. Gazprom and Chinese energy company CNPC struck a similar MoU in 2006, only to see it founder on pricing problems. But China has moved the debate on by offering advanced payments of $US25-40bn in return for 30bcm/y of discounted gas. Prospective target prices expectations are reportedly honing in around the $300/mcm mark, and Gazprom believes exports to Asia could grow by around 150%. Even if the numbers change, Europe has be slow to catch on to the fact that Moscow is trying to put itself in a position where it can reroute LNG or pipeline exports between East and West at will. Although the geographic, logistical and financial hurdles for an integrated export network will ensure that Russia continues to humour its richest consumer for some time to come, Europe needs to understand that as the gravitational pull of Russian supplies shifts eastwards, Moscow's strategic focus will be on arbitrage not compromise.

Europe has thus made a number of bad moves during in the midst of a of a lax gas market. Investment in storage has been low and liberalisation to reduce pricing pressures weak. All while European upstream diversification has been debunked by its failure to project military power. Germany's U-turn on the speed of the nuclear phase out has made matters inexorably worse. Decommissioning existing generation capacity to appease voter fears is anathema to strategic foresight, at least in terms of supply security. It ignores rising Asian demand, the energy requirements of economic recovery in Europe, creeping supply side constraints, or indeed the possibility that unconventional gas will prove too unpopular to develop.

By breaking the energy covenant with its utilities, Germany has offered Gazprom an opportunity to move into the European value chain at the very moment Russia is set to curb its dependency on European imports. If Gazprom manages to cement its supply routes to Asia, the prospects for European energy will incredibly bleak, and not just if markets are tightening. Who knows, we might one day be grateful to retain oil-indexed price links to keep Russian supplies online. But going long on gas means going long on Russia, we better hope that Germany re-evaluates the price of energy populism.

Matthew Hulbert, Senior Research Fellow, Clingendael International Energy Programme, The Hague & Christian Brutsch, Senior Lecturer, University of Zurich. Please note these are the views of the individual authors, not necessarily those of CIEP.

August 8, 2011

Anna Meier, Knox College, Galesburg, Illinois, Bronze Contributor (12)

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Good points. Considering that Germany already the largest importer of Russian gas in West-Central Europe, the decision to phase out nuclear power is only going to make matters worse in terms of energy diversification. So yes, there is definitely need to worry.

April 3, 2012

Gökhan Tekir, Bilkent University, Gold Contributor (101)

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Germany's collaboration with Russia shows the diversified aspect of energy policy of European Union. When seeking alternative energy routes to deliver Caspian energy resources to Europe by bypassing Russia, the North Stream project will make Europe more dependent on Russian energy supply. Other countries such as Bulgaria and Italy also cooperate with Russia in energy politics. Thus, Nabucco project, which is a big European dream, proved to be unsuccessful.
Eastern Europe countries especially Poland were not pleased of the policies of Germany and Italy. This collaboration reminded the catastrophical consequences of Molotov-Ribbentrop pact.
Russia gained important leverage upon Europe by setting its monopoly in energy supply. In the future, it is unlikely that Europe will support any democratic movements in the countries , which fall into Russian sphere of influence.

April 3, 2012

Gökhan Tekir, Bilkent University, Gold Contributor (101)

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Germany's collaboration with Russia shows the diversified aspect of energy policy of European Union. When seeking alternative energy routes to deliver Caspian energy resources to Europe by bypassing Russia, the North Stream project will make Europe more dependent on Russian energy supply. Other countries such as Bulgaria and Italy also cooperate with Russia in energy politics. Thus, Nabucco project, which is a big European dream, proved to be unsuccessful.
Eastern Europe countries especially Poland were not pleased of the policies of Germany and Italy. This collaboration reminded the catastrophical consequences of Molotov-Ribbentrop pact.
Russia gained important leverage upon Europe by setting its monopoly in energy supply. In the future, it is unlikely that Europe will support any democratic movements in the countries , which fall into Russian sphere of influence.

April 3, 2012

Steven Alan Swingler, Indiana University , Bronze Contributor (19)

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The issue I have with this article is that this move by Germany seems to be more a rational poltical calculation than knee jerk populism. While this deal may not be good for European Intergration, when you look at it from a realist and German perspective or if you look at the historical reccord.

What this at least seems to me is that the Germans are keeping the option open to move closer to Russia as an alternative to the European Union. It would only make sense that given how recently Germany has to fit the bill for bailouts of what they view as fiscally irresponsible nations and have to deal with Supranational Eurozone governments taht dont always act with Germanys intrests(control of currency, foriegn conflicts, sanctions) that they are would try to hedge aganist European intergration.

Mr. Tekir brought up a good point with the Molotov-Ribbentrop pact effects, but that was no accident due to the evil of the Nazi and Soviet reigmes, but was the lasted in a long and succeful history of Russo German cooperation or at least coperation that started with the Partions of Poand, the Quadruple alliance, Holy Alliance of the first half of the 19th century, and then Bismarcks Realpoltik in the later half of the 1800s including the secret assurance treaty. And even after WWI and the treaty of Brest Livotvosk, in the 1920's the supposedly liberal Weinmar German government came to a series of agreements with the soviet union that sketched out the basis of Molotov Ribbentopp.

And if you look ath the possible gains of a modern Russo-German bloc, it has alot of benifits for both countries. For Russia, their is German capital and technology to moderize the Russian economy, an additional buyer for their natural resources, and that the germans could serve as a block to any potenital Western European or NATO interventions aganist Russias move to re-establish the historical russian sphere of intrest. For the Germans, they get a market for their exports, cheap skilled labor, access to russias vast natural resouces, and as long as they stay out of Russias near abroad, a partner that is mmuch less demanding than the Eurozone. And even if the Germans never leave the Eurozone for Russia, the threat that they could increases Germany's position vis-a-vis the other nations of Europe inside a supranational organization.

The implications of this move are obviously damaging to the idea of European unity and intergration, but it does raise questions that need answered about the feasbilty of the European Union and my hope is that the europeans can debate and solve those issues in a realistic and meaningful way instead of making empty promises and half hearted commitemnts and avoiding the nitty gritty details of Geopoltics like what happened in the early part of the last century. During the cold war, American power and the threat of soviet domination forced unity upon western europe, but if European unity is to work in this century, their has to be a frank discussion of the role of National intrest in a unified europe and a truthful assements of the costs and sacrfices of a European union

So thats just my realist view on things, perhaps I should make this an article in and of itself, and if any europeans(espeically Germans and Russians) read this I would like their input

Steven Swingler

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