Despite once being included on an “Ethanol Enemies List“, I would like to see a healthy U.S. ethanol industry. I think it’s important for the U.S. to produce as much fuel as we can domestically, and it’s important to keep U.S. farmers in business.
I just disagree with the way we created and expanded this industry in the U.S. I also disagree with a lot of misinformation that is promoted by the ethanol industry (or any industry for that matter).
Consider the business model of the ethanol industry. It is essentially to get the federal government to force consumers to use their product. That is not a sustainable business model. It creates a cycle of dependence that has been in place since the industry was in its infancy.
Market by Mandate
The Renewable Fuel Standard (RFS) was created by the Energy Policy Act of 2005. In a nutshell, the RFS, which is administered by the Environmental Protection Agency (EPA), sets annual volumes of biofuels that must be blended into the fuel supply. Gasoline blenders can either meet their quotas by blending ethanol, or they can buy ethanol blending credits called RINs (renewable identification numbers).
(For more details of how the RFS is managed, and why refiners hate it so much, see U.S. Ethanol Policy Set For Big Change).
Refiners object to the entire concept of being forced to blend ethanol, and for being penalized if they don’t. Refiners have spent billions of dollars complying with the ethanol mandates. That cost to the refiners is essentially a transfer of wealth to the ethanol industry.
The ethanol industry would argue that if refiners weren’t being forced to blend ethanol, they wouldn’t. That’s mostly true. Ethanol has a significantly lower energy content than gasoline, but ethanol is used to increase octane. Thus, refiners would still use it even if they weren’t forced to, but at only a fraction of the current usage volumes.
Mandates Create an Industry Reliant on Mandates
In the early years of the ethanol industry, the industry relied on federal subsidies, import tariffs designed to keep out Brazilian ethanol, and a federal mandate. After fighting to keep the federal subsidies for years, the ethanol industry finally lost the main federal subsidy ($0.45 per gallon) at the end of 2011.
But the most important item for the ethanol industry — the mandate itself — remained in place.
The ethanol industry has seen the mandates balloon from 4 billion gallons in 2005 (the first year of the program) to nearly 20 billion gallons this year. The vast majority of this — around 16 billion gallons — is from corn ethanol.
Despite this huge increase in mandated ethanol, it has never been enough to bring continuous prosperity to the ethanol industry, or to the corn farmers that supply it. In my previous article, I showed that major ethanol producers have seen their share prices hit hard over the past two years.
I contend that with the current system in place, the ethanol industry will constantly struggle for regular profitability. The ethanol industry will be continuously at the mercy of the political climate.
The Opposite of a Free Market
Last year, Iowa Senator Chuck Grassley penned an editorial arguing the merits of the nation’s RFS program. Senator Grassley stated in part:
As a free-market conservative, I believe that competition spurs innovation, encourages dialogue and ultimately delivers the best quality products to consumers. That’s one of the many reasons I believe so strongly in ethanol as part of an all-of-the-above energy strategy.”
Forcing consumers to use your product is the opposite of the free-market conservatism Senator Grassley says he supports.
But it doesn’t have to be that way. There is another path.
I will describe that solution in the next column.