Practical Economics


Ethanol: Running Out of Gas?

Art Pine

The drought's damage to the U.S. corn crop puts the ethanol industry on the spot.



Don't expect livestock producers to emerge victorious in their high-pressure campaign to persuade Washington to waive the federal mandate that requires gasoline refineries to blend corn-based ethanol into their fuels each year.

SEE ALSO: 8 Ways the Drought Will Affect You

Yes, the drought has put the ethanol industry -- and Washington -- in a box. With record corn prices and the prospect of corn shortages looming, some 150 House members, 33 senators, and seven governors have asked the Environmental Protection Agency to waive the requirement. And the EPA has launched a formal review.

Livestock producers want the EPA to waive or lower its mandate to help ensure that there will be enough corn to provide feed for livestock at reasonable prices. This year, the mandate calls for blending 13.2 million gallons of corn ethanol with gasoline. Next year, it's 13.8 million gallons.

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The EPA has authority to act if the current mandate creates economic hardship, but there's no sign yet that that has occurred, despite corn prices having risen to nearly $8 a bushel. About 25% of the nation's corn crop goes to produce ethanol each year (counting the grain returned by biofuels producers for use as livestock feed).

Two coming signposts: On Sept. 12, the Department of Agriculture will update its assessment of how much the harvest has been reduced. On Sept. 28, it will estimate the size of current U.S. grain stocks.

No one expects the EPA to decide before the election, and the agency is also unlikely to rush a decision on the livestock producers' petition after the election.

Waiving the mandate for blending ethanol in gasoline wouldn't hurt ethanol producers -- or help the livestock industry -- mainly because the ethanol industry will meet its mandate this year even as it closes down plants. Many gasoline refineries have been exceeding the federal minimums for years. So livestock operators wouldn't get any more corn even if the mandate were dropped.

Even if corn prices soar further, corn-based ethanol is still likely to remain the cheapest renewable to use in blended fuels.

One possible compromise: The EPA could permit more motorists to choose what proportion of ethanol they want in their gasoline by punching a button on the pump, as they do to select regular or premium. At some Midwestern service stations, motorists may choose 10%, 15% or 85% ethanol in vehicles built to burn those blends.

But politically, ethanol producers face an uncertain future. Before the drought, the industry had hoped to win subsidies for expanding ethanol pipelines, service station pumps and other infrastructure, along with research and development of nongrain alcohol. How much of that will win approval remains to be seen.

No matter what the outcome, it's clear that the ethanol industry's giant subsidies won't come back soon. Since 1978, the industry had enjoyed a mounting tax subsidy (for refiners that used ethanol) and trade protection against foreign competitors. With solid backing in both parties, the subsidy survived handily.

But in an end-of-session scramble last December, fiscal hawks and environmentalists killed both provisions. Although U.S. ethanol producers didn't put up a fight -- partly because the industry was on a good financial footing then -- the action was regarded as a political setback. Ethanol had been one of the most heavily subsidized U.S. industries.

Both presidential candidates have indicated they believe the market is working; ethanol producers have already cut production by 14% this year. Neither party wants to act soon: Several large Midwestern swing states depend heavily on corn, livestock or both, and lawmakers don't want to anger voters so close to the elections.

One thing's for sure, though. If the drought were to continue for several years, which no one's betting on, the escalating food-vs.-fuel battle would flare even hotter.

With reporting by Kiplinger Agriculture Letter Editor Ed Maixner.



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