July 28, 2010

Future Supply, Support Decisions Loom for Ethanol

By now, well into the 21st century, at least some U.S. cars were supposed to be running on an exciting new power source—clean fuels refined from corn husks, timber waste and tall, fast-growing grasses.

But the U.S. Environmental Protection Agency, acknowledging that not a single facility is yet producing this advanced “cellulosic” ethanol, has proposed dramatically scaling back a federal program to promote the fuel for the second straight year.

Instead of requiring that the oil industry blend 250 million gallons of cellulosic ethanol into the gasoline sold at the pump next year, as Congress envisioned under the Renewable Fuels Standard program, the EPA said July 12 that it intends to cut the 2011 mandate to 5 million gallons. That’s the same level of cellulosic ethanol the EPA required this year, even though Congress had originally set a 2010 goal of 100 million gallons.

The proposal, to be finalized later this year, is just one example of how alternative transportation fuel policy stands at a crossroads, just three years after the 2007 energy bill that aimed to slash U.S. oil dependence, in part by tripling consumption of biofuels to 36 billion gallons by 2022. Since then, the nation’s ethanol use has essentially doubled, to about 12.8 billion gallons this year, but all of it is alcohol fuel refined from corn, a fact that has created—in the minds of many—a competition between food and fuel.

At least 100 companies are working to make fuel from agricultural material that is tougher than corn, but that process requires the extra step of breaking down the plant fibers, the lignocellulose, through heat or biochemistry. This next-generation ethanol, many hope, would be more environmentally friendly, and wouldn’t create controversy over land use.

But the government says it is still waiting for the industry to emerge. Meanwhile, many in the industry blame government for failing to provide strong policy to spur the investment they need.

A Role for Big Oil?

Take, for example, Qteros, a three-year-old company based in Marlborough, Massachusetts.
Qteros has developed an experimental microbiological process for breaking down the sugars in plant waste to make fuel. The company has attracted $30 million in venture capital. But to turn its research into reality, it is looking for a big partner willing to invest $300 million or more to build a production facility that would use the Qteros process, according to chief executive John McCarthy.

McCarthy says that the EPA’s slashing of the cellulosic ethanol requirement is “unconscionable,” even though he agrees there won’t be enough product on the market to meet the requirement, and even though the law allows the agency to adjust the requirement downward to meet the market supply.

This flexible approach, McCarthy says, “is just what the oil companies want.” Instead, if the EPA were to treat the production levels set by Congress as mandates, the oil industry would be subject to rising penalties each year it failed to meet the targets, he argues. That sort of pressure would give the oil industry a financial incentive to invest in cellulosic ethanol and other advanced biofuel plants, McCarthy says.

Qteros’s current investors, in fact, include big refiner Valero and oil giant BP. Given BP’s Gulf spill-sullied reputation, some might question why fossil fuel companies should be counted on to spur an alternative fuel revolution. McCarthy argues that only Big Oil can provide the scale of investment needed to get next-generation fuels off the ground.

“No one company, no ten companies—no matter how entrepreneurial or creative they may be—can initiate the kind of changes that are needed without the existing energy complex being a supporter of it,” says McCarthy. “It just can’t happen.”

Finding the Right Ethanol Mix

But in the view of the wider ethanol industry, including those who make alternative fuel from corn, there is a more fundamental policy problem stifling investment in advanced fuels.

Current federal regulations say that ethanol may be mixed into gasoline only at concentrations up to 10 percent for use in any gasoline-powered vehicle. The U.S. market is already nearly saturated with so-called E10, with ethanol making up about 9.2 percent of the gasoline sold by volume in the United States this year, according to the U.S. Energy Information Administration. (There are a few pumps in the country and a few flex-fuel vehicles that can use a blend that is 85 percent ethanol, E85.)

The ethanol industry has been lobbying for the government to break down this “blend wall,” but officials have put off a decision because of a variety of interests—including auto and parts makers who say higher concentrations could cause engine damage, food industry companies that worry about rising corn prices, and some environmentalists who question ethanol’s benefits in cutting carbon dioxide.
(Related, “Green Dreams: Making Fuel Crops Could be Good for the Planet, After a Breakthrough or Two”

Although the blend wall is a more immediate problem for corn ethanol makers, it also discourages investment in cellulosic ethanol, argues Brian Jennings, executive director of the American Coalition for Ethanol. “There’s not a certain market for ethanol in the future unless higher blends are allowed, and the lenders will not finance a project unless we know there is a market,” he says.

EPA has indicated it plans to make a decision on the blend wall in September, but only for cars manufactured after 2007.

What about the Federal Subsidy?

Yet another crucial ethanol policy decision looms in Washington: What to do about the big federal subsidy, the 45-cent-per-gallon excise tax credit on corn ethanol, due to expire by the end of this year. (Cellulosic ethanol, if it were being produced, would be eligible for an even higher subsidy.)

The tax credit, expected to cost $7.6 billion this year, is designed to create demand for ethanol by paying the oil companies a premium when they purchase ethanol to blend with conventional gasoline.

The big ethanol advocacy group, the Renewable Fuels Association, says a five-year extension is crucial to protect alternative fuel makers against the volatility of the petroleum market.

But some ethanol companies have broken from the pack; their advocacy group, Growth Energy, co-chaired by retired U.S. Army Gen. Wesley Clark, wants the tax credit phased out and replaced by a new policy focused on installing more E85 pumps, new ethanol pipelines, and a requirement that all U.S. cars be flex-fuel vehicles. ....