Biofuels Prospects for 2012: Emerging Developments
Dr. Robert Wisner
University Professor Emeritus and Biofuels Economist
Several new developments are converging on the U.S. biofuels industry as the new year begins. Congress has allowed the blenders’ tax credits for corn-starch ethanol and biodiesel to expire on December 31, 2011. The Environmental Protection Agency (EPA), which has responsibility for implementing and monitoring biofuels blending mandates, has announced mandated levels of blending for various categories of biofuels for 2012. However, it has not met a Congressionally determined November 30, 2011deadline for announcing the 2013 biodiesel blending mandate.
Profitability of producing corn-starch ethanol was exceptionally good in the fall quarter (based on spot prices), but fell sharply in December. Recent reports from Brazil indicate a disappointing sugar crop and increased domestic demand are likely to keep its ethanol exports at a low level. Also, recent industry reports indicate a greater number of ethanol plants are now removing corn oil from distillers grain than previously anticipated. In some cases, the changing composition of distillers grain (DGS) has caused concern in the pork and poultry industries. In another recent development, a December court decision indicated California’s air quality regulations that severely penalize Midwestern ethanol are illegal. In this article, we examine these developments and their implications for biofuels and the grain industry.
Loss of blenders’ credits expected to slow 2012 ethanol production
In petroleum refinery, wholesaling, and the ethanol industries, expiration of the ethanol blenders’ tax credit (VEETC) was widely anticipated for the last several months. As a result, refiners and wholesalers stepped up their blending of ethanol with gasoline to take maximum advantage of the tax credits while they were still available. That in turn created a surge in demand for ethanol, helping to strongly boost profits for ethanol producers. Figure 1 shows monthly U.S. ethanol production for the 2010-11 marketing year and so far in the 2011-12 marketing year, in millions of gallons. The data in Figure 1 are from the U.S. Energy Information Administration (EIA). (1) Also shown are monthly projections of corn processing for ethanol and DGS for the rest of the current marketing year, assuming the marketing year total equals the USDA, ERS December 9 projection. (2) Projections at that time indicated 5.0 billion bushels of corn will be processed into ethanol and DGS this marketing year. Figure 1 projections indicate a significant drop in weekly corn processing for ethanol should be anticipated for the rest of this marketing year. For the January-August 2012 time period, the average weekly decline from a year earlier is 1.7 million bushels.
From a different perspective, a 3.3 million bushel decline is projected in the weekly average processing from now through August versus the weekly average from September through December of 2011. To reflect the more recent very strong ethanol processing demand, average corn processing by the industry from January through August is projected to be down about 5.4 million bushels per week or 5.4% from the mid-October through December 2011 average.
Changing composition of corn demand
Average U.S. corn processing at ethanol plants has been slightly over 100 million bushels per week for the last two and one-half months. From a different perspective, the ethanol industry has processed about 0.82% of the U.S. 2011 corn crop each week. That compares with USDA feed and residual disappearance annual projections that show a weekly average of 88.5 million bushels for that usage category. Feed and residual use of corn was the largest category of demand through the entire history of the U.S. corn industry until the 2011-12 marketing year. From a seasonal perspective, there is an important difference in corn for ethanol demand versus feed demand. Corn processing for ethanol has been relatively steady throughout the marketing year while corn feed demand is much more seasonal. The heaviest feed demand is in the fall and winter months. Feed and residual use of corn from March through August tends to be less than half the level of the fall and winter quarters. Large and relatively steady demand for corn by the ethanol industry has been a supporting influence on this past late summer and fall basis behavior in the corn market, along with limited farmer corn marketings.
Additional perspective on the changing demand for corn is reflected in Figures 2 and 3, which show the composition of U.S. corn demand just before the very rapid expansion of the ethanol industry in the last six years, and its composition in the 2010-11 marketing year that ended on August 31, 2011.. As Figure 2 indicates, in 2004-05, feed and residual use of corn was by far the most important demand source. It accounted for 56% of the total use of U.S. corn. Exports, while smaller than combined use for ethanol, DGS, other processing and seed, tended to be the most uncertain source of demand and were a major influence on prices. Figure 3 indicates that corn processing for ethanol and DGS expanded to 38% of the total demand for U.S. corn in the 2010-11 marketing year. At the same time, feed and residual use shrank to 37% of total use. Exports, at 14% of total use, have a less significant but still important influence on corn prices.
What’s ahead in ethanol growth potential?
An important question for the ethanol industry, corn growers, the grain input and marketing industries, and non-ethanol users of corn and corn products is “Will the loss of the ethanol blenders’ tax credits cause corn processing for ethanol and DGS to fall below USDA’s 5.0 billion bushels for the current marketing year?” That question remains unanswered. It will depend partly on the number of excess RINs that are available to substitute for actual blending of ethanol in 2012, as we have indicated in previous articles. (3) However, the EPA ethanol mandates and current expectations of Brazil’s limited exportable ethanol supplies suggest USDA’s ethanol projection may be attainable for the current corn marketing year.
For future years, availability of Brazilian ethanol exports could become a more significant factor. That’s because of (1) expiration of the $0.54 per gallon U.S. ethanol import tax, (2) much slower growth in U.S. corn-starch ethanol blending mandates in the next few years, and (3) a potential expansion in Brazilian ethanol production. The recent court decision indicating California’s strict air quality regulations that penalize Midwest ethanol are illegal also may discourage imports from Brazil in the short run. However, the California Air Resources Board (CARB) is challenging the decision and its outcome is uncertain at this writing.
|Development of the E-15 and E-85 ethanol markets will be key influencesin determining whether domestic ethanol blending and corn processing forethanol will actually be able to move above the blend wall and reachthe mandated levels in 2013 through 2015.|
The U.S. corn-starch ethanol mandates reach a peak of 15 billion gallons in 2015. That’s a 1.8 billion gallon or 13.6% increase from the 2012 mandate. It is equivalent to about 650 million bushels of corn. As we noted in an earlier article, the U.S. average ethanol blend in the nation’s gasoline supply now is slightly above 10% ethanol. (4) For that reason, development of the E-15 and E-85 ethanol markets will be key influences in determining whether domestic ethanol blending and corn processing for ethanol will actually be able to move above the blend wall and reach the mandated levels in 2013 through 2015. At this writing, the retail petroleum industry remains slow in making E-15 available to consumers, partly because of liability concerns and required investment costs.
Impact of blenders’ credit on retail fuel prices
Table 1. Example impact of VEETC removal on E-10 price.
|With VEETC||Without VEETC|
|VEETC (Blenders' tax credit)||$0.450||$0.000|
|Ethanol at $2.90 wholesale/gallon||2.900||2.900|
|Gasoline at $2.88 wholesale/gallon||2.880||2.880|
|Gasoline cost of E-10||2.592||2.592|
|Ethanol cost w/o VEETC||0.290||0.290|
|Less VEETC (.1 x .45)||0.045||0.000|
|Net Price for E-10||$2.837||$2.882|
|E-10 Price, % of Gasoline||-1.5%||100.1%|
Answering the question of who benefitted from the 45-cent per gallon blenders’ tax credit for ethanol is a complicated one with no clear-cut answers. Portions of the credit at times likely benefitted farmers, ethanol producers, petroleum refiners and wholesalers, and consumers. How the credit was divided among these groups varied over time and with changing market conditions. Some industry analysts estimate the current impact may be a 4 to 5 cent per gallon increase in the retail price of E-10 for many consumers. That would be on the assumption that all of the loss of the blenders’ credit would be passed on to consumers. Table 1 illustrates how this was calculated.
|Loss of the blenders’ tax credit has a potentially large impact on the price of E-85 to consumers.|
With government mandates and lack of pump labeling in many states to let consumers know if they are using E-10, the higher price is likely to have negligible impact on E-10 ethanol demand. However, its impact on E-85 demand is potentially much more important, as shown by Table 2.
As the last two lines in Table 2 indicate, loss of the blenders’ tax credit has a potentially large impact on the price of E-85 to consumers. That is especially important to the ethanol industry and policy-makers who have been counting on E-85 as a potentially large market for ethanol in the years ahead as the nation’s flex-fuel vehicle fleet expands. With current automotive technology, as we have noted in previous articles, EPA tests show that fuel mileage of these vehicles is roughly 25% below that from gasoline. Actual mileage varies some from one model to another, but in most cases the 25% mileage reduction is a realistic number, reflecting ethanol’s 33% lower energy content per gallon than gasoline. Unlike the lack of E-10 labeling in many states, E-85 retail pumps are required to be labeled. Motorists thus make a voluntary choice of whether to use E-85, based on price and fuel mileage, whereas in many states, motorists with non-flex-fuel vehicle have no choice but to use E-10. With the lower fuel mileage, motorists with flex-fuel vehicles need E-85 prices that are about ¼ lower than those of gasoline to make its use feasible. Without competitive retail prices, the E-85 market is unlikely to expand to the hoped-for size and to provide a way out of the blend wall. If a break-through in cellulosic ethanol production technology occurs that encourages rapid increases in production, pricing of E-85 will become increasingly important to the entire ethanol industry.
Table 2. Example impact of VEETC removal on E-85 price.
|With VEETC||Without VEETC|
|VEETC (Blenders' tax credit)||$0.450||$0.000|
|Ethanol at $2.90 wholesale/gallon||2.900||2.900|
|Gasoline at $2.88 wholesale/gallon||2.880||2.880|
|Gasoline cost of E-85||0.432||0.432|
|Ethanol cost w/o VEETC||2.465||2.465|
|Less VEETC (.85 x .45)||0.383||0.000|
|Net Price for E-85||$2.515||$2.897|
|E-85 Price, % of Gasoline||-12.7%||100.6%|
With the fuel industry blending the mandated volumes of ethanol, the larger supply at some point may push ethanol prices low enough relative to gasoline to make E-85 competitive. Lower ethanol prices would tend to reduce corn prices, thus allowing profitable processing of corn into ethanol and DGS, but reducing returns to corn growers. If the E-15 market should emerge and grow in the next few years, this potential downward pressure on ethanol prices could be moderated.
EPA blending mandates for 2012
In a July 2011 article, we reviewed EPA’s initial proposals for 2012 biofuels mandates. (5) Most mandates were unchanged from the earlier proposals. (6) EPA released its final mandates on December 23, which are shown in Table 3, with the U.S. average biofuel blend percentage in the respective fuel supplies in parenthesis. The percentage tor the total renewable fuel (last line of table) is the combined average percentage of biofuel in the U.S. gasoline plus diesel fuel supply.
Table 3. Final Mandated Volumes of U.S. Biofuels for 2012
|Actual Volume||Ethanol Equiv. Volume|
|Cellulosic biofuel||8.65 million gal. (0.006%)||10.45 million gal.|
|Biomass-based diesel||1.0 billion gal. (0.91%)||1.5 billion gal.|
|Advanced biofuel||2.0 billion gal. (1.21%)||2.0 billion gal.|
|Total renewable fuel||15.2 billion gal. (9.23%)||15.2 billion gal.|
The difference between the total renewable fuels mandate and the advanced biofuels mandate, 13.2 billion gallons, is the 2012 mandate to be filled by corn-starch ethanol. This volume is the same as previously expected. Gallons shown in the second column of the table are actual gallons. The third column shows corn-starch ethanol-equivalent gallons. For EPA purposes, each gallon of biodiesel is equivalent to 1.5 billion gallons of corn-starch ethanol. The biodiesel mandate is embedded in the advanced biofuels mandate rather than being counted separately in the total renewable fuels. Thus, 1.33 billion gallons of biodiesel minus the very small cellulosic mandate could fill the 2.0 billion gallon advanced biofuels mandate. Cellulosic ethanol, for EPA purposes, has a corn-starch ethanol equivalent weighting of 1.2 so that its expected 2012 production equals 10.45 million corn-starch ethanol equivalent gallons. The 2007 Energy Independence and Security legislation called for 500 million gallons of cellulosic ethanol to be blended in U.S. gasoline in 2012 but slow development of technology has made that impossible. That is the reason for the extreme reduction in the actual mandate for celluslosic ethanol.
These mandates leave substantial uncertainty about the exact level of biodiesel likely to be required for 2012. The reason for that is that almost all of the advanced biofuels will have to be filled by biodiesel and/or imported sugar-cane ethanol. Except for the extremely small supply of cellulosic ethanol, biodiesel and sugar-cane ethanol are the only commercially available advanced biofuels. With a tight Brazilian ethanol supply situation, prospects for large imports of Brazilian ethanol look questionable. For that reason, it looks likely that biodiesel will be expected to fill much of the difference between its 1.0 billion gallon mandate and the 2.0 billion gallon advanced biofuels mandate. Assuming the projected volume of cellulosic ethanol is actually produced, 1.326 billion actual gallons of biodiesel could fill the remainder of the advanced biofuels mandate.
Implications for vegetable oil demand
The 326 million gallon increase from biodiesel’s 1.0 billion gallon mandate is equivalent to approximately 2.28 billion pounds of vegetable oil. The increase alone is equivalent to 110% of current USDA projections of soybean oil exports for 2011-12. Assuming all of the advanced biofuels except for the minute quantity of cellulosic ethanol are filled by biodiesel and that 65% of its feedstock comes from vegetable oil, the soybean oil equivalent volume would be equal to about 36% of currently projected U.S. soybean oil production. Prospects for tightening soybean oil supplies are a significant incentive for the ethanol industry to continue its rapid shift to removing corn oil from distillers grain, for use in biodiesel. That in turn reduces the energy content of DGS for use in swine and poultry rations and reportedly is beginning to cause some concern among nutritionists in those industries. These concerns could cause some shift of hog and poultry producers toward increased use of soybean meal and an increase in market share of DGS used in the cattle industry.
Long-standing tax credits for blending ethanol and biodiesel in the nation’s fuel supplies have been eliminated, along with ethanol’s protection from import competition. However, government mandated blending volumes remain a major support for both biofuels. For biodiesel, the mandates and very slow development of other advanced biofuels appear likely to encourage more production and blending than anticipated a year or two ago as biodiesel is used to fill the advanced biofuels gap. However, for ethanol, the future of domestic use is complicated by arrival of the blend wall and sharply increased E-85 prices relative to those that would be possible with the blenders’ credit. At this writing, expanded use of E-85 is the main means of expanding the domestic ethanol market. IE-85’s reduced competitiveness has serious implications for both the corn-starch ethanol industry and the embryonic cellulosic industry. In this setting, development of the E-15 market will be increasingly important to the ethanol industry in the next few years.
1 EIA, “Weekly ethanol production”
2 USDA, World Agricultural Outlook Board, World Supply and Demand Estimates, December 9, 2011.
3 Wisner, “Arriving at the blend wall,” Climate change and renewable energy newsletter, Agricultural Marketing Resource Center, November 2011 and Wisner, “November Update- will there be enough corn”, Climate change and renewable energy newsletter, Agricultural Marketing Resource Center, November 2011
4 Wisner, “Arriving at the blend wall”, Ibid.
5 Wisner, “Proposed biofuels mandates for 2012 and the blend wall”, Climate change and renewable energy newsletter, Agricultural Marketing Resource Center, July 2011.
6 EPA, “
”, Office of Transportation and Air Quality, EPA-420-F-11-044, December 2011