Germany Wind Power Investing, Tiliting At Windmills

By: Elliot_H_Gue

Last week I was aboard the MS Deutschland cruising the Baltic Sea in northern Europe for the KCI Investment Cruise. Leaving from the German port of Travemunde, we stopped at a total of seven countries in 11 days. In several of these countries, we had the opportunity to meet with the commercial attaches at the US Embassy as well as local business leaders.

Not surprising, energy was the topic of considerable conversation both in our onshore meetings as well as with subscribers aboard the Deutschland . What really struck me are the varied approaches and policies each country has chosen to follow to meet a common problem--producing enough electricity to meet the rapidly growing demands of a modern economy.

And it's impossible to strip environmental concerns from energy policy, especially in Europe. Whether you're convinced that global warming is a problem or believe it's simply bunk, the simple fact is that governments across Europe are increasingly looking to strictly regulate carbon dioxide and other greenhouse gas emissions. As investors, we don't necessarily have to enter the global warming debate, but we can't ignore the implications of carbon regulations or the potential profit opportunities afforded by so-called green energy policy.

As you might expect, alternative energy and government policy aimed at promoting such technologies was a key topic in several countries visited during the course of the cruise. In fact, the US Embassy in Stockholm, Sweden, is promoting a campaign titled "The One Big Thing." The focus of that initiative is to encourage greater collaboration between Swedish and US firms toward the development of all sorts of energy technologies. The embassy has even gone so far as to publish a list of 30 small Swedish start-ups conducting research in areas as diverse as wind power, fuel cells and solar power. 

But the fact is that most alternative power technologies aren't a true solution to the globe's energy problems. The best illustration of this is the long-time poster child of the alternative energy movement, wind power. Apart from hydropower, wind is the most economically viable, developed and feasible alternative energy source. But wind's contribution to the global electric grid is all too often overstated.

Consider that Germany has by far the largest base of installed wind power capacity in the world, with more than 20,622 megawatts of generating capacity. To put that figure into context, the runner-ups are Spain and the US with a little more than 11,000 megawatts of generating capacity each; Germany is far and away the undisputed leader.

But although I've long been aware of these statistics, I wasn't quite prepared for the sight of northern Germany's Baltic Sea coast. In the first day and a half of the cruise, we departed the German port of Travemunde and sailed close to the coast en route to Stockholm, Sweden.

What was most striking was the prevalence of thousands of windmills located both onshore and offshore. We passed these offshore wind farms for hours; some were truly massive in scale.

Germany's wind industry is the product of more than a decade of government subsidy. Specifically, the German government uses a feed-in tariff system that requires utilities to buy wind power and pay generous subsidized rates for that electricity. The result: Building wind farms in Germany is highly profitable. Check out the chart below.

Source: Global Wind Energy Council ; BP

As you can see in the chart, Germany's wind capacity has grown tenfold since 1997. Much of that capacity is located along the Baltic Coast in the North for the simple fact that it's windier in this region than in most other parts of Germany. Because offshore winds are steadier than onshore, many farms are located on the water.

Given that Germany's total installed base of generation capacity is about 125,000 megawatts, wind power plants account for about 16 to 17 percent of total capacity.

At first blush, these facts suggest that the nation's energy policy and wind power industry are a smashing success. But that brings us to the clever marketing trick used by many alternative energy firms; there's a major difference between the terms capacity and generation. Namely, just because a utility may own a plant with 1,000 megawatts of capacity doesn't mean that plant is operating at that capacity at all times.

In fact, that's highly unlikely to be the case, particularly for wind power. That's because the speed of wind in an area at a particular point in time is unpredictable. Moreover, even relatively small variations in wind speed can mean large changes in power output from wind turbines.

The rated capacity of a wind farm is far less important than how much those wind farms actually contribute to the grid in the form of generated electricity. If we look at Germany in that light, we get a far less impressive picture. Only 5 percent of Germany's electricity generation in 2006 came from wind. Bottom line: As impressive as offshore wind farms may be to behold, those strings of thousands of windmills located on the Baltic just aren't a particularly important source of power for Germany.

But all the hype surrounding alternative energies obfuscates two other important trends that are facing most of the countries I visited last week. First, when I see all those windmills in Germany or listen to Sweden's plans to build more high-tech wind farms, I don't see countries that are becoming more energy independent or reducing their carbon footprints. Rather, I see a rapid rise in the consumption of natural gas and rising dependence on Russia.

And second, Germany and Sweden both state their goal is to reduce carbon-dioxide emissions. Paradoxically, however, both countries have undertaken the single most destructive policy with regard to that goal--a stated, national policy to phase out nuclear power.

With regard to the first point, natural gas emits roughly 50 percent less carbon dioxide than coal. Gas plants are also a well-known technology that's reliable and can be counted on for always-on power generation. Because alternative energies can't be counted on to meet demand, countries like Germany install what's known as shadow capacity--generally gas (or coal) plants that can meet power demand when wind power output isn't sufficient to do so.

Overall gas demand in Europe is projected to increase by nearly 4 percent annually between now and 2030, a total increase of more than 72 percent between 2003 and 2030. What's interesting is that's more than five times the 0.7 percent annualized growth in US demand; the Energy Information Agency projects that US gas demand will increase by only a total of around 17 percent in the same time frame.

By far the biggest contributor to growth in European Union (EU) gas demand is the electric-power-plant sector. Demand for gas to fire Europe's electric plants is set to jump to more than 180 percent by 2030 and will total 11.9 trillion cubic feet annually by that year.

Much of this gas will likely come from Russia. At the current time, the EU imports more than 4 trillion cubic feet of gas annually from Russia by pipeline alone. That works out to more than 11 billion cubic feet per day or around half of EU gas imports.

With Europe's domestic gas resources in decline, the region will become increasingly reliant on imports; there are several new pipelines in the works to deliver gas from Russia to the continent. It should come as little surprise that Germany is the largest customer for Russian gas and among the most import-dependent countries in the world. 

To make matters worse, if Germany does decide to go ahead with the shutdown of its nuclear plants, gas import reliance will soar even more, as will emissions of carbon dioxide. Nuclear power accounts for around 27 percent of Germany's electricity supply and 19.5 percent of grid capacity. There's no way all that capacity can be replaced by alternatives.

Germany's current plan seems to be a phaseout of its plants offset by an expansion of gas-fired power and, to a limited extent, alternatives. But Germany's main supplier of gas, Russia, is planning to greatly ramp up its reliance on nuclear power in order to free up more natural gas for export to the EU. In an upcoming issue of The Energy Letter , I'll take a closer look at these key political relationships.

By Elliott H. Gue
The Energy Letter

© 2007 Elliott H. Gue
Elliott H. Gue is editor of The Energy Letter , a bi-weekly e-letter as well as editor of The Energy Strategist , a premium bi-weekly newsletter on the energy markets. Mr. Gue is also associate editor for Personal Finance , where he contributes his knowledge of the energy markets.

Mr. Gue has a Master's of Finance degree from the University of London and a Bachelor of Science degree in Economics and Management from the University of London , graduating in the top 3 percent of his class. Mr. Gue was the first American student to ever complete a full degree at that university.

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