When the new rules of the E.U.-Russia energy game are more thoroughly assessed, however, the West may find it is overplaying the New Cold War card. The fact is that the E.U. is well aware of its growing need for energy diversification. But Europe is facing an energy crisis. It badly needs a stabilizing energy fix and Russia, with its vast proven energy reserves, is best placed to administer it. E.U. leaders believe that a Union-wide policy will best serve its purpose. But the E.U. Energy Charter, created to oversee future energy arrangements, links Western values and rights to any potential deal with Russia. However, Russia is playing energy hardball, both refusing to sign the Charter (which would place the Nord Stream pipeline under international control) and pursuing a “divide and fuel” policy of separate bilateral agreements with individual European countries.

But should the West blame Russia for doing what any good business management does: maximize the income for its products? Should the West expect Russia to play by the E.U.'s rules of collectivism and meekly hand over its pipeline investments to international control? And is it really so difficult to understand that Putin is utilizing his country’s most prized assets to help rebuild the ailing Russian economy? Further is it surprising that Putin wants to use his country’s oil and gas riches to bolster his own position as perhaps the most powerful Russian ruler in modern history – as uncomfortable as the associated geopolitics may be for the West?

Part 1: The Russo-German special relationship

It was back in the 1970s Cold War era that West Germany broke ranks and took the initiative to forge new trade and energy links with the former U.S.S.R. With burgeoning economic ties and unprecedented new energy deals, the special relationship between Germany and Russia has become the new energy pivot around which most of Europe must now revolve.

Germany is Russia's largest trading partner, with 10 percent of its foreign trade. It also buys more Russian gas than any other country, importing over 35 percent of its gas and 30 percent of its crude oil from Russia – more or less the same percentage as the European Union. During a February speech, Gernot Erler, Minister of State for Germany's Federal Foreign Office, said, “The important thing for Russia, specifically for Putin, is that he is convinced he needs the cooperation of Europe and the E.U., and especially [of] Germany, for the modernization of the Russian economy….The situation of Russia is unbalanced because they use the profits from oil and gas [to supplement their] budget. More than 40 percent of the Russian budget comes from gas and oil exports."

Alexander Rahr, director of the Korber Center for Russian and CIS affairs at the German Council on Foreign Relations, noted earlier this year in the Washington Quarterly how the E.U. sees Germany as the "bridge to the east." Conversely, he points out that the "German elites enjoy their country's role as an advocate of European interests with Russia." Rahr points out just how this “special relationship” has burgeoned since the 90s: "When post-Soviet Russia began to experience severe economic problems in the 1990s, Germany jumped in as a financial creditor." Last year German investment in the Russian economy hit $10.2 billion.

Rahr observes how former German Chancellor Gerhard Schroeder's enthusiastic pursuit of a specifically German-Russian alliance, which he finally secured with the $5 billion Nord Stream deal, cemented a special energy pact. It also invited a storm of criticism from other E.U. leaders. Schroeder responded coolly, "Germany is securing a large part of its energy needs for decades to come thanks to Russia. I am the German Chancellor and I must defend German interests." So much then for the critical energy-bloc unity sought in Brussels. When energy is, literally, the burning issue, it seems all bets are off. Schroeder, ousted from office in the September 2005 elections, showed how his national commitment overrode his E.U. loyalty by accepting a new role in the private sector: as leader of the shareholder committee for the Nord Stream project, due for completion in 2010.

When Angela Merkel took over as Germany’s chancellor and assumed the Presidency of the E.U., the realpolitik dynamic between Russia and Germany took a different, if not radical, turn. Unlike Schroeder, Merkel's foreign priorities lay in a German-U.S. and E.U.-U.S. direction based on “common values.” Merkel's priority for the E.U. was consensus-building, which meant, as Alexander Rahr points out, "avoiding any indication of a German special relationship with Russia."

However, Merkel may find it increasingly difficult to square Germany’s goal of maintaining its close relationship with Russia with the E.U.’s goals regarding trade and energy unity. That was made clear again a few weeks ago when Gazprom announced that it is cooperating with Germany's BASF on plans to invest about $4 billion in European gas infrastructure over the next eight years. It may suit all parties to present the deal as investment in Europe, but the reality is that it will primarily mean investment in Germany.

In 2006, relations between the E.U. and Moscow became increasingly fractious and continued to be so in 2007 when Merkel took the E.U. helm. Alexander Rahr's assertion that “the Russia factor will continue to split the E.U." looks to be accurate, as we shall see in Part 2.

Part 2: The E.U. & Russia: trouble in the pipeline?

Merkel informed Moscow that the incident had "destroyed trust" at a time when Europe most needed a stable energy supplying partner. But the move made perfect sense for Putin.

Europe imports over 40 percent of its oil and over 43 percent of its gas from Russia. So the alarm sounded when Gazprom (which today controls over 25 percent of the world's reserves of natural gas) and Rosneft (the state-controlled oil giant) began pursuing a program to nationalize Russian energy reserves. However, the new strategy had as much to do with Putin’s determined attempt to break the oligarchs who were then controlling Russian energy – largely, as he saw it, for their own benefit, not for Russia’s.

National ownership of oil and gas reserves is not, of course, peculiar to Russia. State-owned companies currently control over 90 percent of the world's known oil reserves. And it is debatable whether oil and gas reserves are better off owned by private companies or the state. Putin believes the latter, and duly forced Western oil companies like Shell and BP to give up their controlling interests in projects like Sakhalin-2 and Kovykta. What was left to foreign companies under Putin's scheme of things, once he had broken the oligarchs’ power, was the provision of technology and capital.

In addition, Gazprom picked high-profile fights with the former Soviet countries of Ukraine, Georgia, and Belarus, culminating in the Belarus switch-off at the beginning of 2007. However, the simple truth is that these former members were benefiting from subsidized energy prices – a remnant of the old Soviet days. They ought to have realized that you cannot have your political independence cake and “heat it” too. Turning off the Druzhba pipeline may have been an unsubtle way of bringing this to their attention, especially considering the political fall-out from leaving European leaders in the dark, but it was an otherwise natural reaction to Belarus' intransigence over the realities of global energy prices.

Pipeline wars apart, the fact is that the E.U. and Russia need each other. The E.U. is Russia's main trading partner, and Russia is the E.U.'s third-largest trading partner. The E.U. accounts for 52 percent of Russia's foreign trade and is responsible for over 60 percent of all foreign investment in Russia. In 2005, aggregate trade between Russia and the E.U. was worth 166 billion euros.

These are hardly statistics that suggest a political power imbalance between the two. The fact is that Putin is using longstanding trade relations with the E.U. and Germany to pay to modernize Russia’s economy. Russia cannot afford to upset its E.U. partners too much. After all, there is always the possibility that the E.U. will go elsewhere to get its energy fix.

But can Europe diversify its energy mix? The balance of power could tip further if the E.U.'s disunity continues and if its dependence on energy imports keeps increasing. By 2030 the E.U. may be importing 70 percent of its energy, and in that case the pressure on the E.U. will certainly be greater. This reality has led to renewed interest in nuclear power, not least because of additional carbon-free benefits. The U.K. has recently joined with Finland, Sweden, Italy, the Netherlands, Poland, and Belarus to discuss new reactors.

The E.U. does have some options when it comes to finding other energy providers – and it may need them, too, if Europe's biggest political players, like Germany, keep cutting their own mega-deals with Russia. Algeria, with the eighth largest proven natural gas reserves in the world, is a viable alternative source of natural gas. But it is hardly a stable country. Norway already exports gas to mainland Europe, and liquefied gas is another alternative from countries like Qatar. Of course, the E.U.'s highly ambitious policy on renewables indicates Brussels believes them important to its future energy mix.

But for all the political antagonism between the two, Russia’s future trade and energy pact with the E.U. looks solid enough. And the South Stream pipeline deal provides yet more evidence of Russia’s bargaining power.

Ultimately, the power balance between Europe and Russia may down to whether the E.U.’s desire for unity and energy supply diversity can outstrip what plainly drives Europe's geopolitics today: the national energy interests of individual countries.