Opening Pandora’s box

Discussions over potential extensions to the lifespans of German nuclear reactors could lead to several unforeseen consequences and will be like opening Pandora’s box, says Tobias Federico of Energy Brainpool. Listen to a discussion on how Germany managed to replace Russian gas supplies – at a cost – and the challenges ahead for the country in meeting its climate goals. Is the use of fossil fuels a temporary blip or a more permanent feature of the energy crisis?

 Host: Richard Sverrisson, Editor-in-Chief, Montel
 Guest: Tobias Federico, Managing Director, Energy Brainpool

Transcript

Richard Sverrisson, Editor-in-Chief, Montel: 0:07

Hello listeners and welcome to the Montel Weekly podcast. Bring Energy Matters, an informal setting as is now tradition for the Montel Weekly podcast. In the first episode of the year, we speak to Tobias Federico, owner and managing director of Berlin based analysis firm and consultancy Energy Brainpool. Tobias has decades of experience covering energy wholesale markets. Always provides us with valuable insights and analysis. A warm welcome to you, Tobias.

Tobias Federico, Managing Director, Energy Brainpool: 0:33

Thank you, Richard. It's always a pleasure at the beginning of the year to talk to you.

Richard Sverrisson, Editor-in-Chief, Montel: 0:37

I think before we look forward into, maybe get the crystal ball out for 2023, Tobias, and we're certainly at a very different place. In January, 2023 to where we were in January, 2022. I'd like to take a look back now, what took you most by surprise in 2022?

Tobias Federico, Managing Director, Energy Brainpool: 0:56

That's a question difficult to answer honestly, because on one side, I was not expecting the sheer effect of a potential war in Europe. That, of course, was a surprise. After that, looking at the energy side, I was really surprised at what speed the German government was able to react on that. Although we have been blind the years before or didn't, or we had to read Spock, I think that's the better phrase to that. The reaction was quite good and it was really quite quick. Of course looking back you could say we should have reacted much faster, but I think the reaction speed of the German government was really good in total.

Richard Sverrisson, Editor-in-Chief, Montel: 1:39

And so in terms of the speed at sourcing alternative gas supplies in particular, is that what you mean there, Tobias?

Tobias Federico, Managing Director, Energy Brainpool: 1:45

Not only because of course looking for new gas sources takes a little time and even today we are not there where we should be. Especially looking into the time period when Gasper Geria should have been sold to an unknown Russian person and was likely facing bankruptcy after that, this would've been created a huge chaos within the German energy trading side, especially on the gas side. On that weekend, the German government took over gas Gaia, and from there they really started to. Look into how does energy trading work? How many or how often are we changing the ownership of a gas supply contract until end delivery? And when they realize that this whole supply chain is crucial at certain points looking into. Gas from Gaia, but also looking into Juniper. Then they reacted really quickly.

Richard Sverrisson, Editor-in-Chief, Montel: 2:42

And do you think there's any way back for gas prom now? Back into the market? No. Definitely not. No. Okay.

Tobias Federico, Managing Director, Energy Brainpool: 2:48

Of course we have discussions within Germany. As soon as the price is really low, then we will start again to have a delivery out of Russia from Russian gas. I think it depends on the governmental structure within Russia. If there is an area after Putin, and it'll not be the Falcons, the Russian Falcons leading the Russian government but it will much more be Democratic forces, then I think there will be a way back to Russian gas supply to Europe over the onshore pipelines through Ukraine. But I think it takes a while and I hope that we will learn our lessons from diversification and not have more than 20% of gas import volumes to Europe out of Russia.

Richard Sverrisson, Editor-in-Chief, Montel: 3:34

Absolutely. I think we talked a little bit about geopolitics this time last year. To be honest, did the Russian tactics take you by surprise, both in terms of the aggressiveness of the invasion, but also what happened on the energy side with gas?

Tobias Federico, Managing Director, Energy Brainpool: 3:47

It was one of those scenarios where we were thinking, okay, you could use gas as a weapon. You could try to weaken an economy by not delivering energy. But in the end it was a surprise that they really did it. I just said before we have been, we had a weak spot or we have been blind on one eye. Me too. I think I have been blind on that Russian eye. I was talking about diversification and risk management and risk mitigation. Always. And then after that I was showing my slide regarding. The dependency on Russian natural gas, and I was not really thinking the next step. And that was a surprise. So that they really thought the next step and they were really doing it. And I think we all within Germany or Europe, I, but I think especially Germany. We thought that if the economy works well, if we are doing trade with a neighboring country, this will bring peace. But that's only one side of the coin. But we didn't really see what ha was happening on the other side of the coin.

Richard Sverrisson, Editor-in-Chief, Montel: 4:47

I think, it's very easy to look back and say things could have been done differently with the benefit of hindsight. But in terms of obviously the gas supply is one side. Is there anything else the German government could have done differently?

Tobias Federico, Managing Director, Energy Brainpool: 5:01

Looking into diversification we had meetings, especially after the annexation of the premier and peninsula that the US government, especially under the Trump administration. I think this was the biggest mistake because it was under the Trump administration that they have been thinking about avoiding dependency on. Fracking gas out of the us And in that period the argument was that the US government only wants to sell their US gas to US Europe. And we don't want that because we do have Russian gas. So this is a thing looking back where I said, okay, we should have done this. In a different way. But in the end, looking a little bit more on the, a broader perspective, the German economy especially was always relying on cheap energy costs, which was in the beginning, of course hydropower speaking about the last century. And then it was coal and natural it was coal and late night. And then after that it was Russian Natural Gas. So taking this view and saying, okay, what could have been a good alternative to reliable, cheap energy sources? I think there was no big alternative to that. All the rest was mostly more expensive, although we should have done it, looking into diversification. And of course the energy turnaround with renewable energies. This will also lead in the end to quite cheap. New energy sources, but the capital investment is quite high. Although the mega hour itself is quite cheap. But really looking back I think there were a few small things where I said we should have done this better, but honestly, I think it was really difficult in that time seeing everything.

Richard Sverrisson, Editor-in-Chief, Montel: 6:46

Germany is Europe's economic powerhouse. And German industry is at the center of that. And it's quite reliant or has been reliant on cheap energy. If you say, gas mainly has that shifted now? Is that at an end?

Tobias Federico, Managing Director, Energy Brainpool: 7:00

We are still, we still need cheap energy. And especially in the year 2022 and also in the year 2023. Maybe also 2024. We cannot speak about cheap energy compared to the years before looking in the price of the megawatt hour. But looking into the total costs itself, because the spontaneous shift from, let's say, cheap energy to more costly energy, what we've seen last year leads to inflation. This leads to unemployment. This leads to much more additional costs, which are not. Strongly connected to the energy prices. So having a higher energy price level, which will be two or three times higher than Russian pipeline gas in the future will of course hurt the German economy compared to the years before. But compared to the global Competi, I think. We are quite okay. Of course in the US with really cheap natural gas and fracking gas, it'll be a little bit tougher, but I think we have to really rethink our global economical structure. Also, looking on what's happening in China right now and the global dependency on trade routes and production abroad. And then you have. Complications there. So I think we have to rethink the econ economical structure, especially under the globalization.

Richard Sverrisson, Editor-in-Chief, Montel: 8:14

On one hand, the German government, you could argue, contributed to the price crisis of certainly when prices went through the roof in August last year because it in effect, it issued a blank check to trading Hub Europe to buy or replenish the gas stops stocks. What's your view here? What were the lessons learned here, do you think?

Tobias Federico, Managing Director, Energy Brainpool: 8:33

I think the lessons learned somehow is that there's no free lunch. Of course now afterwards we can blame and of course it was a blank check for Trading Hub Europe to buy natural gas, and the market knew it, and the market took their advantages out of that. That's why we have seen very high gas prices of 320 euro. We have seen 1000 euro of electricity prices in the year ahead contract, and we saw huge inflation. But what was the alternative? The alternative would've been not doing anything. And in this situation, we might have faced a gas supply crisis this winter, depending of course on the winter. But looking into the alternatives, I think this was the only way limiting bits to trading gas Europe trading happy Europe, sorry to, to purchase gas is something where I say it doesn't make sense to fill up the gas storage because filling up gas storage under economic conditions. Didn't make sense this year and wouldn't make sense in the next two years.

Richard Sverrisson, Editor-in-Chief, Montel: 9:29

So what would you do if you were in charge of Trading Hub Europe? Tobias?

Tobias Federico, Managing Director, Energy Brainpool: 9:31

I I would think that I'll have a much higher goal than just procuring gas. I think I am, I'm doing something for the whole European economy. By purchasing gas, of course, I need market bits to purchase gas, which is a un unlimited money pot to, to buy natural gas. And my target is not earning money or losing less money. My target is really to have the to reduce the volume risk of natural gas. And that's something if I would be in charge of trading up euro, I would like to continue that the next years especially this year. Of course, depending on the winter and if the German government would say no, we are not doing it anymore because due to that we have increased inflation. I would argue no, but this is the best way and I think the argumentation from the German government was right, that okay, we have a downside, which is high gas prices. But we have the security of gas supply.

Richard Sverrisson, Editor-in-Chief, Montel: 10:27

And the alternative is much worse than yes. Yep. Yep. But looking ahead now, we've been fairly lucky in that the winter so far, touch wood it's been a mild winter. But what's the outlook for, for replenishing any gas that needs to be refilled in the summer this year and ahead of winter, 23, 24? Tobias

Tobias Federico, Managing Director, Energy Brainpool: 10:45

It still depends on this winter, of course, we have been very lucky, and of course we have to see what's January, February doing, especially February and maybe March. But the most likely outcome is that we will have a very good. Gas filling situation in April. That's a period usually where we start to refill the gas storage. And my gut number, it's not a fundamental number. It's much more a feeling if we are have more than 40% gas filling storage. In April, we will manage to deal with the next winter, even though Russia is not supplying any gas anymore. But with the additional floating LNG terminals and with the increase of LNG gas imports, we are able to refill. Our gas storage for the next winter, maybe as at the same amount as we have seen it in, in, in last October. Of course, this has also price, so we will have increasing gas prices, but not as high as we've saw it in the last year because for the last year we were thinking about filling up two winters, and then it depends on the next winter. How good we were going to manage that winter because in 2024, we will have enough floating or onshore LNG terminals. We'll have enough alternative gas supply that this won't be an issue. And of course, market participants are also looking for alternatives. Of using gas. So we will also have a gas consumption reduction. I think currently it was 15% in total. In Germany, if you take into amount the weather, it's 10% in total, which is quite okay.

Richard Sverrisson, Editor-in-Chief, Montel: 12:15

But is there a danger here, to be honest that Germany locks itself into fossil fuel future beyond what it originally planned to do with. With floating or onshore LNG terminals with a return to coal plants that are, firing at, full output at the moment every coal plant that can potentially run is running. But, is there a danger here that Germany locks itself into, several years tying itself to fos fossil fuels More than than is necessary?

Tobias Federico, Managing Director, Energy Brainpool: 12:43

Officially not. Officially, we are still stuck to our phase out plans, but also rethinking a few of our mantra conferences we had a few years ago regarding supply crunches. I think this is. Thinking is still there, that we need to have the shift. And natural gas is the energy source for bridging that shift from today's situation to completely renewable. But we have understood that we need to have a reliable energy source. We also see that reliability is not depending on the type of fuel, but also on the origin of the fuel, which means or of which country is it coming or out of which country is it coming. Of course it seems to be a lock in, but, thinking about the, all the investments we are doing, these are stranded investments. We are doing them right now to avoid a bigger potential downside. But looking into the future, that's gone. Of course, then we have invested billions of euros in l and g terminals. We don't need anymore. On the other hand, we are learning quite a lot about the future market structure looking into hydrogen, for example, because most of the hydrogen needs to be imported from global producers. And the imports won't be via pipelines. They will be via ships. So all the handling of the shipping itself, all the handling of the global. LG slash hydrogen market. It's something we are going to learn right now.

Richard Sverrisson, Editor-in-Chief, Montel: 14:08

So you think these could be just switched to hydrogen, green hydrogen potentially. Is it that easy and is

Tobias Federico, Managing Director, Energy Brainpool: 14:14

It's not that easy. Of course, officially, they can easily switch to green hydrogen and it's still an investment needed and it's still, it's not clear with green hydrogen. Are we completely substituting natural gas with green hydrogen? Can we do that? No, we can't. That's quite clear. And what's about the last mile? Of course we can import green hydrogen. We can fire green hydrogen in CCGT power plants or also in gas turbines. That's not an issue. But delivering that to the heat consumption we are having, which is now covered by burning natural gas, mostly in households and also in small businesses converting that into a hydrogen is not that easy, maybe. And it's not clear the strategy right now, but maybe we need to convert hydro green hydrogen into artificial methane and then we can burn that in the households without changing burners within households. But that's a strategy. Which is not really thought through and it's a strategy for the next decade, not for this.

Richard Sverrisson, Editor-in-Chief, Montel: 15:13

And what's the economics of that as well? You're economist by trade Tobis, and how costly is that gonna be?

Tobias Federico, Managing Director, Energy Brainpool: 15:19

Everything which is a transition does cost more than a current situation because the current situation mostly seems to be a short term optimum. It is. It'll cost more. But even LNG, which is a transition from pipeline gas to LNG gas will cost more and two to three times higher. And compared to that of course. How will be the economics of scale of hydrogen production? It'll cost more in the short term, but the long term cost of climate change, I think in total are much higher than the short term additional costs we are going to have if we have a green hydrogen economy.

Richard Sverrisson, Editor-in-Chief, Montel: 15:56

I think, if we're talking about costs, the, we've had the energy crisis, the energy price crisis in 2022, and certainly the latter part of 21 as well. This has spurred a flurry of market interventions from across Europe. In some ways, very understandably, because governments both national governments and at the European level want to protect or shield consumers from these high prices. But what does this mean for the future of the current market, the current wholesale market that we see in Europe? Is it under threat or will do we see substantial changes to the way for example, where gas and electricity are traded wholesale?

Tobias Federico, Managing Director, Energy Brainpool: 16:34

We, in Germany we have a phrase which says the cow is not from the frozen lake. Which means it, it could still draw for me the potential interventions into wholesale markets from the political side was a much bigger threat to the whole market than the Russian innovation to Ukraine. Just looking into the market design because I still have the fear that most of the politicians don't understand how the market are designed themselves. And that for example, the merit order on one side it's only a description. Of the market and not the market design itself, it's just the model. And the Mar merit order has four sides, and we are mostly just looking on the executed supply side, but we still have three other quadrants within the merit order model. Which are also necessary for the whole market, which mostly market participants or mostly politicians especially, don't see for them. The most expensive power plant is setting the prices on all markets, which is wrong. It's not setting the prices on all market. It's a model to describe the day ahead market. And of course, all those markets are connected. But you could also phrase, that's wrong because it's not the most expensive power plants, which is setting the price. It's this cheapest power plant of the non-producing power plants starting to cover the last kilowatt hour of electricity demand. So even that phrase shows you that it has two sides and in total it has four sides. And that's something where I was really afraid of in the end. Of course, we are cutting. Over profits and or I think they're called random profits because there's a difference in German between random profits and over profits. And so we are cutting random profits, which is also not a good signal because all the years we have done everything to financially support renewable energies. And right now we have with these high prices, which have been caused also by the procurement strategy to buy natural gas for our gas storage. And these high electricity prices will lead to a return on investment for renewable energies within. I don't know if you have a project within two years with solar panels within Germany because the cash flow out of your power plants of renewable powers is so high that you can refinance easily those power plants. But this has been cut with the price cap, and that's something which it's a mixed signal we are seeing right now. And that's a little bit. I'm afraid that it's still the cow's not from the ice. So we still have a situation here. But it wasn't as severe as I thought it would be in, in summer when the European Commission started to look into the market design itself, but even the German government. They looked into this price cap part of the wholesale electricity market. And this has implication on trading, especially on long-term trading, also in the PPA market. It has an effect, but it, luckily it's only temporarily. So it's only until April, 2024 where we will have price caps within Germany, unless the situation will still continue like that. So I think in total it was the biggest threat I saw within the,

Richard Sverrisson, Editor-in-Chief, Montel: 19:50

And are you relieved or are you still concerned?

Tobias Federico, Managing Director, Energy Brainpool: 19:53

No, I'm not relieved. I, actually, we have spotted the cow and we see that the lake is still frozen. Somehow we have to get the cow out of the ice before summer comes. But I'm not relieved.

Richard Sverrisson, Editor-in-Chief, Montel: 20:03

No. No. So they're clearly targeting, profits or revenues. And are you already seeing. A slow down in investment. What does this mean, for example for PPA markets? The Germany is a massive potential market for for PPAs power purchase agreements, which companies want to use to to source screen energy. Is this now at a standstill or is it taking a bit of a break?

Tobias Federico, Managing Director, Energy Brainpool: 20:27

I think it took it, it depends on what stage the project is. For those projects, which are almost there, where they need the PPA for financing. This was a full stop there. Because nobody's doing a PA five year or 10 year, 15 year PPA, especially looking into the next high year prices where you have this price cap it doesn't really make sense because the project has been planned under different circumstances. Looking into the PPA market of the shorter term PPAs. I think that there's a slowdown, but not a full stop, but looking into PPAs for bankability to finance the total project, which has a runtime of 10 to 15 years. They will be stopped within the next two years, which means that also these type of projects won't be on the market with in the next two years until this stop is valid. And so the price cap is valid. So therefore I think we see a slowdown. It was quite sign significant on the already developed projects without PPAs. But, I think it'll restart within two years.

Richard Sverrisson, Editor-in-Chief, Montel: 21:36

Okay. That reassures some of the investors out there for sure. But Tobi honest, we talked last year also about the capacity market in Germany. Do you think, do you see this as inevitable given the current market situation?

Tobias Federico, Managing Director, Energy Brainpool: 21:49

Not really. I think interestingly the capacity market was in the discussion when we either were facing missing money problems. On the peaking power plants or we have been facing a capacity crunch somehow where we thought and in the end, it's also a missing money problem that investors won't come to the market to invest into power plants itself. I think generally the current market design is still. An unanswered question mark at high prices where you usually refinance your investment, especially in the case that the government will intervene and cut the surplus profits. So that's still open, but. Currently within the market, I don't see any discussions regarding capacity market. I think the discussion, when they start a little bit bigger. Looking into the total market design and also sometimes into does it really make sense to have electrical infrastructure being liberalized? So the whole question, the big question, but it was only a few discussions we had within the market. Not a big discussion regarding

Richard Sverrisson, Editor-in-Chief, Montel: 23:00

that. The bigger topic is of course the market design and generally what's happening at the EU level for the coming years. And there's still. Many open questions there. I think when we discussed last year the capacity market, obviously we've this high price scenario. Things are very different, but we could talk for hours to be us as we often do. But I think I'd like to final, come to a final question and we are hearing talk within some parts of the German government about extending the nuclear power plants. Again post April. This year? Do you see that as likely?

Tobias Federico, Managing Director, Energy Brainpool: 23:33

I was laughing because I was hearing yesterday with my kids Greek Smith and it was the box of Pandora and the story of that. And that was my phrase in the last year when we started the discussion regarding the extension of the nuclear power plant. Running times, which for me is Pandora's box. We are opening, they are officially running until April. But even on the OR, or on the political side, we are seeing right now a lot of discussions. Yeah. But maybe we need them a little bit more because they have less year O2 emissions. So let's continue that a little bit further. It doesn't really make sense from my opinion. Because we still have a problem with the fuel supply because it's Russia, which is exporting those type of nuclear burning tubes, I think is officially English name for that. And so still a dependency on Russia first. And secondly, the price effect is quite low. And we are only speaking about three nuclear power plants. As long as they are running, the political discussion is open and will restart and we will lose a lot of discussing energy looking into this nuclear discussion instead of using this energy in a positive way. And speaking about energy efficiency, for example, speaking about a heat turnaround, speaking about a better market design, for example. Instead of speaking about nuclear energy. So because for most of. Of the, for the bigger part of the population in Germany, that's gone somehow. And also within Europe. We see, especially in France, a huge dependency on one nuclear technology. And there you have also a collateral risk in cases, but that's another discussion. But still I think it's still an issue. It'll be a political discussion. If I would bet, I would say they're going to extend a little bit further. But I think it's not good.

Richard Sverrisson, Editor-in-Chief, Montel: 25:28

Thank you again, Tobias for joining the Montel weekly podcast in our traditional first episode of the year. Thank you, Tobias.

Tobias Federico, Managing Director, Energy Brainpool: 25:36

It's always a pleasure, Richard. Looking forward to next year.

Richard Sverrisson, Editor-in-Chief, Montel: 25:39

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