Overview: EPA for the first time has set an overall Renewable Fuel Standard (RFS) blending target below the statutory target. The biofuel lobby threatens to sue. If they win and courts rule EPA may not consider market constraints (a.k.a. the blend wall) when setting RFS blending requirements, harsh consequences could ensue for consumers, the economy, and, ironically, biofuel manufacturers themselves.
EPA yesterday announced final volume obligations (RVOs) under the Renewable Fuel Standard (RFS) program for the years 2014, 2015 and 2016, and final volume requirements for biomass-based diesel for 2014 to 2017. EPA was two years late setting RVOs for 2014 and one year late setting RVOs for 2015.
The overall RVO and component RVOs are higher than EPA proposed in May 2015.
However, the overall RVO and component RVOs (except biomass-based diesel) are still lower than the statutory targets authorized in the 2007 Energy Independence and Security Act (EISA).
So naturally, biofuel lobbyists cry betrayal and threaten to sue EPA.
A colleague, curious about the shrill intensity of biofuel lobby protests, asked me if EPA’s first-ever rollback of the statutory blending target is a “big deal.” I responded roughly as follows.
EPA’s decision is not a big deal but overturning EPA’s rule, especially if it leads to RVOs that substantially overshoot the E10 blend wall, would be a very big deal.
The blend wall is the amount of ethanol that can actually be sold in the U.S. motor fuel market. It is a product of two main factors — the overall demand for motor fuel, and practical constraints on the amount of ethanol than can be blended into each gallon of motor fuel sold.
Blend Wall Factor 1: Overall Demand for Motor Fuel
When Congress enacted EISA in 2007, the Energy Information Administration (EIA) forecast that demand would continue to increase to 156 billion gallons in 2015 and 172 billion gallons in 2022.
That meant E10 – motor fuel blended with 10% ethanol – would suffice to meet statutory targets, at least for 2014 and 2015. But in EIA’s most recent forecast, gasoline demand is 11% lower for 2015 and 26% lower for 2022 than in the 2007 projection. As EISA targets increase from 4 billion gallons in 2006 to 36 billion in 2022, more and more biofuel will have to be crammed into a smaller overall motor fuel market.
That would not be a problem if lots more biofuel could be sold as E15 (motor fuel blended with 15% ethanol) and E85. That brings us to the second factor determining the blend wall — the compatibility (or lack thereof) of high-ethanol blends with current vehicles, fueling infrastructure, and consumer preferences.
Blend Wall Factor 2: Per Gallon Blending Constraints
EPA approved the sale of E15 in October 2010. If the standard blend were now E15 instead of E10, refiners could increase the quantity of ethanol in the motor fuel market by 50%. But most vehicles on the road are not designed to run on E15 and, except for the latest models, automakers advise their customers not to use it.
Unsurprisingly, the vast majority of service stations don’t want to invest $20,000 apiece to install E15 and E85 blender pumps or $200,000 for high-ethanol blend storage tanks. Today only about 120 service stations sell E15. Rather than put their money where their collective mouth is and build the infrastructure on which they insist their industry’s future depends, ethanol lobbyists whine that it is refiners’ responsibility to “invest” in biofuel infrastructure.
Total bunk. In its deliberations on EISA, Congress considered several legislative proposals requiring major oil companies to install E85-capable equipment at their affiliated service stations. Those bills included the Biofuels Security Act of 2007 (H.R. 559, S. 23), National Fuels Initiative Act of 2007 (S. 162), SAFE Energy Act of 2007 (S. 875), and Global Warming Reduction Act of 2006 (S. 4039). None of those provisions made it into EISA as passed by Congress and signed by President G. W. Bush.
A more basic barrier to market penetration of high-ethanol blends is the fuel-economy penalty. Ethanol has only two-thirds the energy content of gasoline. So the higher the ethanol content, the worse your fuel economy gets, and the more you have to spend to drive the same distance. For example, at current prices, the typical owner of a flex-fuel vehicle would have to spend $550 to $1,150 more each year to drive on E85 instead of regular gasoline.
A recent report by the Center for Regulatory Solutions estimates that the RFS has already imposed a $13.1 billion mileage-penalty “ethanol tax” on California motorists — and that’s just from having to use E10.
The 2016 RVO in EPA’s rule exceeds the E10 blend wall by 195 million gallons. That is nowhere near enough to satisfy the biofuel lobby. What happens if they sue EPA and win? More precisely, what happens if courts decide EPA may not take the blend wall into account when setting annual RVOs?
One potential consequence is a glut of unsold ethanol that depresses prices and bankrupts biofuel manufacturers. The phrase “poetic justice” leaps to mind.
However, consumers and the economy could also take major hits. Here’s why.
Renewable volume obligations are percentage requirements calculated by dividing each year’s volumetric target into the projected motor fuel supply for that year. For example, assume the total volumetric target in a given year is 10 billion gallons and the projected motor fuel supply is 100 billion gallons. In that case, each obligated party must ensure that 10% of the motor fuel it sells is renewable.* Note, however, RVOs apply only to the U.S. domestic motor fuel market. So refiners could meet increasing RVOs (rising percentage blending requirements) without actually blending more ethanol than they can sell in the USA. They could do this either by producing less motor fuel simply or, which is more likely, by producing less motor fuel for the U.S. market and exporting more overseas.
In other words, to meet RVOs that substantially exceed the blend wall, refiners would likely decrease the U.S. motor fuel supply. As we know from Econ 101, when supply decreases, price increases. And as history suggests, skyrocketing motor fuel prices cause or contribute to recessions.
So a legal victory for the biofuel lobby could tee up the following scenario: Rising RVOs → less domestic motor fuel → more pain at the pump + recession → angry voters.
The silver lining in such a crisis is that Congress might finally have to scale back, phase out, or repeal the Renewable Fuel Standard.
* An RFS credit trading program provides flexibility but as RVOs bumped up against the blend wall, surplus credits became scarcer and pricier. Credit prices would likely skyrocket if RVOs greatly exceed the blend wall. Part of those costs, too, would be passed on to consumers.