In March 2011, an earthquake near Tohoku Japan caused a tsunami that flooded the lower rooms of the Fukushima Daiichi nuclear power plant shutting down the electric pumps designed to pump cooling water to three reactors. Without that cooling water, the nuclear rods overheated and melted down as there was a several day delay before Tokyo Electric Power Company, the plant's owner, was advised to begin pumping salt water to cool the reactors. By then it was too late.
The government's reaction to the nuclear disaster was to shut down all of Japan's nuclear reactors and shift to generating all of the country's power from oil and gas. The fear of the nuclear accident led many governments around the world who had previously embraced nuclear power to reassess that commitment.
In Europe, German Chancellor Angela Merkel became a champion of Energiewende, a program promoting switching the country off nuclear power and replacing it with energy produced from renewables. The philosophy behind the plan has a long history that began with Germany's reaction to the Chernobyl nuclear plant disaster in 1986. The opposition has never ebbed and in 2000 the red-green government of Social Democrats and Greens put a long-term phasing out of atomic power into law.
Initially, the government of Chancellor Merkel moved to prolong the lifespan of Germany's nuclear reactors but then reversed itself following the Fukushima accident. Some observers, however, believed Ms. Merkel's reversal was partially explained by her party's belief that it would need the support of the Greens to be able to govern. Under the new policy, Germany moved to shut down eight of the country's 19 nuclear plants immediately, while pledging to shut down the rest by 2022.
As the powerhouse economy of Europe and the economic force binding together the European Union and controlling its financial future, Germany needs to continue to demonstrate its economic strength. For decades, but especially in the past few years, Germany has been the primary economic engine powering the eurozone, but now its economy is starting to weaken, which will make it increasingly more difficult to orchestrate a path for the eurozone out of its sovereign debt crisis.
A weaker German economy, which is showing up in the latest government economic statistics, appears partially due to its newly embraced energy strategy but also due to a weakening global economy. The shift in the nuclear power strategy caused significant financial damage to the country's power companies and the cost of this policy shift is now impacting energy costs for Germany's manufacturing sector, the key source of the country's export strength. Germany is the world's fifth-largest economy measured on purchasing power parity and is the globe's second-largest exporting economy, only recently having been passed by China. The economy's export strengths are in machinery, vehicles, chemicals and household equipment.
The nuclear power plant phase out decision has created severe financial hardships for Germany's power companies. The country's largest utility, E.ON (EONGY-PNK), has filed a complaint with the Federal Constitutional Court in Karlsruhe seeking 8 billion ($10 billion) in damages. Collectively, all the electric utilities that depend on nuclear power have filed for 15 billion ($18.7 billion) in damages from the policy decision. Understand, the utilities are not challenging the government's right to make that decision, but rather they are appealing on the basis that there was no compensation offered to offset the financial costs of the accelerated shutdown of the plants.
The Federal Constitutional Court has to answer the question of whether the action violated the constitution. The court will confer with both houses of the German parliament along with 63 other institutions including Greenpeace and the Federation of German Industry. No decision is expected before late 2013. This ruling must be made first before any civil courts can rule on possible damages.
In order to better understand the challenge of shifting Germany from nuclear power to renewable energy sources, the government participated in a recent German-Nordic conference held in Berlin, Germany. There the German Environment Minister Peter Altmaier said he regretted the unilateral course his country had taken. Instead, he wants to establish an international club of countries shifting to renewable fuels in order for members to learn from each other's experiences and to foster greater energy co-operation. The Nordic countries, which appear to be much further advanced in this energy transition than Germany and the rest of Europe, are willing to help its neighbors--voila the conference.
Germany already has a relatively high proportion of its electricity generated from renewables, but in order to meet the country's goal of phasing out nuclear power entirely by 2022 and replacing it with renewable energy, and in some cases power from fossil fuels, there is much that needs to be done.
The bad news is that the German government has recently informed it citizens that the renewables surcharge for their electricity will jump by 47% next year. Germany already has among the highest electricity rates in Europe and with the surcharge increase, will be competing for the highest rate.
This rapidly escalating power cost has not been lost on Germany's manufacturers. Recently, the chairman of VW (VLKAY-NASDAQ), Ferdinand Piëch, said, "High energy costs mean Germany is running the risk that some industrial sectors, like foundries or metalworking, will disappear in the medium term." He went on to say that VW had switched to sourcing some products from outside of Germany. "The cost pressure has forced us to find other suppliers in other countries," Mr. Piëch explained.
VW is among numerous German companies that have raised the alarm about Europe's ability to compete, especially as the U.S. rebuilds its manufacturing sector fueled by cheap natural gas from domestic shale resources. The German industry association warned several weeks ago that the U.S. would enjoy "an energy-cost advantage compared with Europe and Germany until 2020 at the very least."
The timing is due to Europe's dependence on expensive natural gas contracts with Russia and Norway. The impact of these high-priced gas contracts is that German fuel prices could expand from currently being three-times more expensive than those in the U.S. to being four-times more expensive by 2020. At the same time, electricity prices could wind up being twice as expensive in Germany as in the U.S.
As German electricity costs are already nearly as expensive as Denmark's, the most expensive electricity among Nordic countries, the effort to phase out cheap nuclear power for more expensive renewable power runs the risk of seriously damaging the German economy. At the Nordic energy conference, representatives from the various countries and their utility industries outlined facts about how their particular country was handling the use and integration of increased renewable energy. The problem is that all these Nordic countries have geographic advantages or have adopted governmental policies that foster the increased use of renewable fuels. The greatest challenge for Germany is that it does not have large amounts of hydroelectric power or biomass opportunities such as in Finland, which is 86% covered with forests.
Another disadvantage for Germany is that it does not have the electric grid structure to move renewable power from its wind farms in the north and offshore regions to the industrialized southern region. Germany is attempting to integrate its renewable power sources with neighboring countries in hopes of swapping power. The problem is that the variability of Germany's wind power is creating problems for the power grids in Poland and the Czech Republic. The surplus wind power also has overwhelmed the grids in Hungary and Slovakia. The Czechs and Poles already are building transformers and phase-splitters along their border with Germany to better regulate the German power flow. However, they won't be completed before 2017.
"We may very well have to shut down German access to our grids this winter," said Vaclav Bartuska, the Czech ambassador for energy security. He went on to say, "We've spoken to the Germans many times about this and all they say is they're going to build new transmission lines. This is good but it will take at least ten years. We can't wait that long. We have no other choice."
However, the Germans believe its neighbors may have an agenda at play in this discussion because they see cheap surplus German power undercutting their offers of more expensive power to Central European countries with extremely high-cost electricity.
Thomas Sattich, energy expert at the German Institute for International and Security Affairs, argues that until Germany has its new power grid in place, Germany's Energiewende is likely to further exacerbate network fluctuations and intensify the need for tinkering with Europe's overall power system.
More people are beginning to think the German policy to shut down its nuclear power industry and replace it with renewable energy was a rash action undertaken without much thought about its unintended consequences such as the damage to the nation's utilities and its manufacturing sector's competitive position in the world economy. Chancellor Merkel's attempts to reconsider this policy may prove to be too little, too late for the health of the German economy.
Americans should closely watch this German electricity drama as it could provide a foretaste for the United States should we enact an energy policy based on flawed assumptions that carry significant economic consequences due to their unintended consequences.
G. Allen Brooks is Managing Director of Houston-based investment banking firm Parks Paton Hoepfl & Brown. This article originally appeared in the Dec. 4, 2012, issue of PPHB's newsletter "Musings from the Oil Patch."