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RL30369: Fuel Ethanol: Background and Public Policy Issues

RL30369: Fuel Ethanol: Background and Public Policy Issues

Brent D. Yacobucci

Environmental Policy Analyst
Resources, Science, and Industry Division

Jasper Womach

Specialist in Agricultural Policy
Resources, Science, and Industry Division

Updated March 1, 2000

 

CONTENTS

List of Tables 

Table 1. Corn Utilization, 1999/2000 Forecast
Table 2. Corn Production and Ethanol Capacity, by State, 1999
Table 3. Top 10 Ethanol Producers by Capacity, 1999
Table 4. Estimated U. S. Consumption of Fuel Ethanol, MTBE and Gasoline
Table 5. Price of Pure Ethanol Relative to Gasoline

Summary

In recent months, in light of a changing regulatory environment, concern has arisen regarding the future prospects for ethanol as a motor fuel. Ethanol is produced from biomass (mainly corn) and is mixed with gasoline to produce cleaner-burning fuel called "gasohol" or "E10".

The market for fuel ethanol, which consumes 6% of the nation's corn crop, is almost entirely a result of federal subsidies and regulations. The Clean Air Act requires that it or another oxygenate be mixed with gasoline in areas with excessive carbon monoxide or ozone pollution. Using oxygenated gasoline, vehicle emissions of volatile organic compounds (VOCs) have been reduced by 17%, and toxic emissions have been reduced by approximately 30%. However, there has been a push to change these requirements, because methyl tertiary butyl ether (MTBE), the most common oxygenate, has been found to contaminate groundwater.

Another impetus to the use of fuel ethanol has been the exemption that it receives from the motor fuels excise tax. Ethanol is expensive relative to gasoline, but it is subject to federal tax credits of 5.4 cents per gallon of gasohol (or 54 cents per gallon of pure ethanol). These credits bring the cost of pure ethanol, which is about double that of conventional gasoline and other oxygenates, within reach of the cost of competitive substances. It has been argued that the fuel ethanol industry could scarcely survive without this incentive.

Uncertainties about future oxygenate requirements, as both federal and state governments consider changes, have raised concerns among farm and fuel ethanol industry groups and have prompted renewed congressional interest in the substance. Without the current regulatory requirements and incentives, or something comparable, much of ethanol's market would likely disappear. Expected changes to the reformulated gasoline requirements could either help or hurt the prospects for fuel ethanol (subsequently affecting the corn market), depending on the regulatory and legislative specifics. As a result, significant efforts have been launched by farm interests, the makers of fuel ethanol, agricultural states, and the manufacturers of petroleum products to shape regulatory policy and legislation.

This report provides background concerning various aspects of fuel ethanol, and a discussion of the current related policy issues.

Introduction

Ethanol (ethyl alcohol) is an alcohol made by fermenting and distilling simple sugars. Ethyl alcohol is in alcoholic beverages and it is denatured (made unfit for human consumption) when used for fuel or industrial purposes.(1) The biggest use of fuel ethanol in the United States is as an additive in gasoline. It serves as an as an oxygenate (to prevent air pollution from carbon monoxide and ozone), as an octane booster (to prevent early ignition, or "engine knock"), and as an extender of gasoline. In addition, in purer forms, it can be used as an alternative to gasoline in automobiles designed for its use. It is produced and consumed mostly in the Midwest, where corn--the main feedstock for ethanol production--is produced.

The initial stimulus to ethanol production in the mid-1970s was the drive to develop alternative and renewable supplies of energy in response to the oil embargoes of 1973 and 1979. Production of fuel ethanol has been encouraged by a partial exemption from the motor fuels excise tax. Another impetus to fuel ethanol production has come from corn producers anxious to expand the market for their crop. More recently the use of fuel ethanol has been stimulated by the Clean Air Act Amendments of 1990, which require oxygenated or reformulated gasoline to reduce emissions of carbon monoxide (CO) and volatile organic compounds (VOCs).

While oxygenates reduce CO and VOC emissions, they also can lead to higher emissions of nitrogen oxides, precursors to ozone formation. While reformulated gasoline has succeeded in reducing ground-level ozone, the overall effect of oxygenates on ozone formation has been questioned. Furthermore, ethanol's main competitor in oxygenated fuels, methyl tertiary butyl ether (MTBE), has been found to contaminate groundwater. This has led to a push to ban MTBE, or eliminate the oxygenate requirements altogether. The trade-offs between air and water quality have led to congressional debate on the requirements. In addition, there has been a long-running debate over the tax incentives that ethanol-blended fuels receive.

Fuel ethanol is used mainly as a low concentrate blend in gasoline, but can also be used in purer forms as an alternative to gasoline. In 1998, 99.8% of fuel ethanol consumed in the United States was in the form of "gasohol" or "E10" (blends of gasoline with up to 10% ethanol).(2)

Fuel ethanol is produced from the distillation of fermented simple sugars (e.g. glucose) derived primarily from corn, but also from wheat, potatoes and other vegetables, as well as from cellulosic waste such as rice straw and sugar cane (bagasse). The alcohol in fuel ethanol is identical to ethanol used for other purposes, but is treated (denatured) with gasoline to make it unfit for human consumption.

Ethanol and the Agricultural Economy

Corn constitutes about 90% of the feedstock for ethanol production in the United States. The other 10% is largely grain sorghum, along with some barley, wheat, cheese whey and potatoes. Corn is used because it is a relatively low cost source of starch that can be converted to simple sugars, fermented and distilled. It is estimated by the U. S. Department of Agriculture (USDA) that about 570 million bushels of corn will be used to produce about 1.4 billion gallons of fuel ethanol during the 1999/2000 corn marketing year. This is 6% of the projected 9.41 billion bushels of corn utilization.(3)

Producers of corn, along with other major crops, receive farm income support and price support. Farms with a history of corn production will receive "production flexibility contract payments" of about $2.345 billion during the 1999/2000 corn marketing year. Emergency economic assistance (P.L. 106-78) will double the corn contract payments. Corn producers also are guaranteed a minimum national average price of $1.89/bushel under the nonrecourse marketing assistance loan program.(4)

The added demand for corn created by fuel ethanol raises the market price for corn above what it would be otherwise. Economists estimate that when supplies are large, the use of an additional 100 million bushels of corn raises the price by about 4€ per bushel. When supplies are low, the price impact is greater. The ethanol market is particularly welcome now, when the average price received by farmers is forecast by USDA to average $1.70-$2.10 per bushel for the 1999/00 marketing year. This price would be the lowest season average since 1987. The ethanol market of 570 million bushels of corn, assuming a price impact of 23€ per bushel on all corn sales, means an additional $3 billion in sales revenue to corn farmers. In the absence of the ethanol market, lower corn prices probably would stimulate increased corn utilization in other markets, but sales revenue would not be as high. The lower prices and sales revenue would be likely to result in higher federal spending on corn payments to farmers, as long as corn prices were below the price triggering federal loan deficiency subsidies.

1. Corn Utilization, 1999/2000 Forecast

  Quantity
(million bushels)
Share of Total Use
(%)
Livestock feed & residual 5,575 59.25%
Food, seed & industrial: 1,910 20.30%
Fuel alcohol 570 6.06%
High fructose corn syrup 570 6.06%
Glucose & dextrose 240 2.55%
Starch 240 2.55%
Cereals & other products 140 1.49%
Beverage alcohol 130 1.38%
Seed 20 0.21%
Exports 1,925 20.46%
     
TOTAL USE 9,410 100.00%
TOTAL PRODUCTION 9,561  

Source: Basic data are from USDA, Economic Research Service, August 16, 1999.

Ethanol Refining and Production

According to the Renewable Fuels Association, about 60% of the corn used for ethanol is processed in "wet" milling plants (a chemical extraction process) and the other 40% is processed by "dry" mills (a grinding process). The basic steps of both processes are as follows. First, the corn is processed, with various enzymes added to separate fermentable sugars. Next, yeast is added to the mixture for fermentation to make alcohol. The alcohol is then distilled to fuel-grade ethanol that is 85-95% pure. Finally, for fuel and industrial purposes the ethanol is denatured with a small amount of a displeasing or noxious chemical to make it unfit for human consumption.(5) In the U.S. the denaturant for fuel ethanol is gasoline.

Ethanol is produced largely in the Midwest corn belt, with more than 88% of production occurring in five states: Illinois, Iowa, Nebraska, Minnesota and Indiana. Because it is generally less expensive to produce ethanol close to the feedstock supply, it is not surprising that the top five corn-producing states in the U.S. are also the top five ethanol-producers. (See Table 2.) Most ethanol use is in the metropolitan centers of the Midwest, where it is produced. When ethanol is used in other regions, shipping costs tend to be high, since ethanol-blended gasoline cannot travel through pipelines.

2. Corn Production and Ethanol Capacity, by State, 1999

State Total Corn Production Ethanol Production Capacity
  Bushels
(000)
Share of US Total Gallons Per Yeara (000) Share of US Total
Iowa 1,781,800 19% 398,000 22%
Illinois 1,491,000 16% 623,500 34%
Nebraska 1,163,250 12% 313,000 17%
Minnesota 1,005,000 11% 197,000 11%
Indiana 747,500 8% 85,000 5%
All Others 3,372,369 35% 213,500 12%
US Total 9,560,919 100% 1,805,000 100%

Source: Basic data are from USDA, National Agricultural Statistics Service, August 12, 1999;
Renewable Fuels Association, October 1, 1999.

aOne bushel of corn generates approximately 2 € gallons of ethanol.

This geographic concentration is an obstacle to the use of ethanol on the East and West Coasts. The potential for expanding production geographically is a motivation behind research on ethanol, since if regions could locate production facilities closer to the point of consumption, the costs of using ethanol could be lessened. Furthermore, if regions could produce fuel ethanol from local crops, there would be an increase in regional agricultural income.

Ethanol production is also concentrated among a few large producers. The top five companies account for approximately 66% of production capacity, and the top ten companies account for approximately 82% of production capacity. (See Table 3.) Critics of the ethanol industry in general--and specifically of the ethanol tax incentives--argue that the tax incentives for ethanol production equate to "corporate welfare" for a few large producers.(6)

Overall, domestic ethanol production capacity is approximately 1.8 billion gallons per year, and this capacity is expected to increase to 2.3 billion by 2001.(7)

3. Top 10 Ethanol Producers by Capacity, 1999
Million Gallons Per Year

Archer Daniels Midland (ADM) 750
Williams Energy Services 130
Minnesota Corn Processors 110
Midwest Grain Products 108
Cargill 100
New Energy Corp 85
High Plains Corporation 68
A.E. Staley 45
AGP 45
Chief Ethanol 40
U.S. Total 1,805

Source: Renewable Fuels Association, Ethanol Industry Outlook 1999 and Beyond.

In addition to the primary ethanol output, the corn wet milling generates corn gluten feed, corn gluten meal, and corn oil, and dry milling creates distillers grains. Corn oil is used as a vegetable oil and is higher priced than soybean oil. Approximately 12 million metric tons of gluten feed, gluten meal, and dried distillers grains are produced in the United States and sold as livestock feed annually. A major market for corn gluten feed and meal is the European Union, which imported nearly 5 million metric tons of gluten feed and meal during FY1998.

Revenue from the ethanol byproducts help offset the cost of corn. The net cost of corn relative to the price of ethanol (the ethanol production margin) and the difference between ethanol and wholesale gasoline prices (the fuel blending margin) are the major determinants of the level of ethanol production. Currently, the ethanol production margin is high because of the low price of corn. At the same time, the wholesale price of gasoline is increasing against the price of ethanol, which encourages the use of ethanol as an octane enhancer.

Fuel Consumption

Approximately 1.4 billion gallons of ethanol fuel were consumed in the United States in 1998, mainly blended into E10 gasohol. While large, this figure represents only 1.2% of the approximately 120 billion gallons of gasoline consumption in the same year. According to DOE, ethanol's market share is unlikely to increase significantly between the present and 2005, and is forecast to increase to approximately 2% by 2020.(8)

The most significant barrier to wider use of fuel ethanol is its cost. Even with tax incentives for ethanol producers (see the section on Economic Effects), the fuel tends to be more expensive than gasoline per gallon. Furthermore, since fuel ethanol has a somewhat lower energy content, more fuel is required to travel the same distance. This energy loss leads to an approximate 3% decrease in miles-per-gallon vehicle fuel economy with gasohol.

However, ethanol's chemical properties make it very useful for some applications, especially as an additive in gasoline. Major stimuli to the use of ethanol have been the oxygenate requirements of the Reformulated Gasoline (RFG) and Oxygenated Fuels programs of the Clean Air Act.(9) Oxygenates are used to promote more complete combustion of gasoline, which reduces carbon monoxide and volatile organic compound (VOC) emissions.(10) In addition, oxygenates can replace other chemicals in gasoline, such as benzene, a toxic air pollutant (see the section on Air Quality).

The two most common oxygenates are ethanol and methyl tertiary butyl ether (MTBE). MTBE, primarily made from natural gas or petroleum products, is preferred to ethanol in most regions because it is generally much less expensive, is easier to transport and distribute, and is available in greater supply. Because of different distribution systems and blending processes (with gasoline), substituting one oxygenate for another can lead to significant cost increases.

Despite the cost differential, there are several possible advantages of using ethanol over MTBE. Ethanol contains 35% oxygen by weight--twice the oxygen content of MTBE. Furthermore, since ethanol is produced from agricultural products, it has the potential to be a sustainable fuel, while MTBE is produced from natural gas and petroleum, fossil fuels. In addition, ethanol is readily biodegradable, eliminating some of the potential concerns about groundwater contamination that have surrounded MTBE (see the section on MTBE).

Both ethanol and MTBE also can be blended into otherwise non-oxygenated gasoline to raise the octane rating of the fuel, and therefore improve its combustion properties. High-performance engines and older engines often require higher octane fuel to prevent early ignition, or "engine knock." Other chemicals may be used for the same purpose, but some of these alternatives are highly toxic, and some are regulated as pollutants under the Clean Air Act.(11) Furthermore, since these additives do not contain oxygen, they do not result in the same emissions reductions as oxygenated gasoline.

In purer forms, ethanol can also be used as an alternative to gasoline in vehicles specifically designed for its use, although this only represents approximately 0.2% of ethanol consumption in the U.S. The federal government and state governments, along with businesses in the alternative fuel industry, are required to purchase alternative-fueled vehicles by the Energy Policy Act of 1992.(12) Blends of 85% ethanol with 15% gasoline (E85), and 95% ethanol with 5% gasoline (E95) are currently considered alternative fuels by the Department of Energy.(13) The small amount of gasoline added to the alcohol helps prevent corrosion of engine parts, and aids ignition to help start engines in cold-weather.

4. Estimated U. S. Consumption of Fuel Ethanol, MTBE and Gasoline
(Thousand Gasoline-Equivalent Gallons)

  1994 1996 1998 2000 (projected)
E85 80 694 1,853 3,394
E95 140 2,699 59a 59
Ethanol in Gasohol (E10) 845,900 660,200 916,000 908,700
MTBE in Gasoline 2,108,800 2,749,700 2,915,600 3,111,500
Gasolineb 113,144,000 117,783,000 122,849,000 127,568,000

Source: Department of Energy, Alternatives to Traditional Transportation Fuels - 1998 Advance Data.

aA major drop in E95 consumption occurred between 1997 and 1998 because of a significant decrease in the number of E95-fueled vehicles in operation (347 to 14), due to the elimination of an ethanol-fueled bus fleet in California.

bGasoline consumption includes ethanol in gasohol and MTBE in gasoline.

Approximately 1.9 million gasoline-equivalent gallons (GEG)(14) of E85, and 59 thousand GEG of E95 were consumed in 1998, mostly in Midwestern states.(15) (See Table 4.) One reason for the relatively low consumption of E85 and E95 is that there are relatively few vehicles on the road that operate on these fuels. In 1998, approximately 14,000 ethanol-fueled vehicles were in use,(16) as compared to approximately 210 million gasoline- and diesel-fueled vehicles that were on the road in 1996.(17) One obstacle to the use of alternative fuel vehicles is that they are generally more expensive than conventional vehicles, although this margin has decreased in recent years with newer technology. Another obstacle is that, as was stated above, fuel ethanol is generally more expensive than gasoline or diesel fuel. In addition, there are very few fueling sites for E85 and E95, especially outside of the Midwest.

Research and Development in Cellulosic Feedstocks

For ethanol to play a more important role in U.S. fuel consumption, the fuel must become price-competitive with gasoline. Since a major part of the total production cost is the cost of feedstock, reducing feedstock costs could lead to lower wholesale ethanol costs. Therefore, there is a great deal of interest in the use of cellulosic feedstocks, which include low-value waste products, such as recycled paper, or dedicated fuel crops, such as switch grass. A dedicated fuel crop is one that would be grown and harvested solely for the purpose of fuel production.

However, as the name indicates, cellulosic feedstocks are high in cellulose, and cellulose cannot be fermented. Cellulose must first be broken down into simpler carbohydrates, and this can add an expensive step to the process. Therefore, research has focused on both reducing the process costs for cellulosic ethanol, and improving the availability of cellulosic feedstocks.

During FY1997, DOE's Office of Fuels Development spent approximately $9.4 million for cellulosic ethanol process research, and approximately $1.7 for research on cellulosic feedstocks.(18) Furthermore, DOE has supported pilot programs for cellulosic ethanol, such as a plant in Jennings, Louisiana, that will produce ethanol from bagasse.(19) USDA currently spends approximately $8.6 million for alcohol fuels research.(20)

Costs and Benefits of Fuel Ethanol

Economic Effects

Given that a major constraint on the use of ethanol as an alternative fuel, and as an oxygenate, is its high price, ethanol is not currently competitive with gasoline as a fuel. Wholesale ethanol prices, before incentives from the federal government and state governments, are generally twice that of wholesale gasoline prices. The primary federal incentive to support the ethanol industry is the 5.4€ per gallon exemption that blenders of gasohol (E10) receive from the 18.4€ federal excise tax on motor fuels.(21) Because the exemption applies to blended fuel, of which ethanol comprises only 10%, the exemption provides for an effective subsidy of 54€ per gallon of pure ethanol. (See Table 5.)

5. Price of Pure Ethanol Relative to Gasoline
July 1998 to June 1999

Ethanol Wholesale Pricea 103 €/gallon
Alcohol Fuel Tax Incentive 54 €/gallon
Effective Price of Ethanol 49 €/gallon
Gasoline Wholesale Priceb 46 €/gallon

Source: Hart's Oxy-Fuel News; Energy Information Agency, Petroleum Marketing Monthly.

aThis is the average price for pure ("neat") ethanol.

bThis is the average rack price for regular conventional gasoline (i.e. non-oxygenated, standard octane).

It is argued that the ethanol industry could not survive without the tax exemption. An economic analysis conducted in 1998 by the Food and Agriculture Policy Research Institute, in conjunction with the congressional debate over extension of the tax exemption, concluded that ethanol production from corn would decline from 1.4 billion gallons per year, and stabilize at about 290 million gallons per year, if the exemption were eliminated.(22)

The tax exemption for ethanol is criticized by some as a corporate subsidy,(23) because, in this view, it encourages the inefficient use of agricultural and other resources, and deprives the Highway Trust Fund of needed revenues.(24) The General Accounting Office estimates that the tax exemption will lead to approximately $10.4 billion in foregone Highway Trust Fund revenue over the 22 years from FY1979 to FY2000.(25) The petroleum industry opposes the incentive because it results in reduced use of petroleum.

Proponents of the tax incentive argue that ethanol leads to better air quality, and that substantial benefits flow to the agriculture sector due to the increased demand for corn created by ethanol. Furthermore, they argue that the increased market for ethanol leads to a stronger U.S. trade balance, since a smaller U.S. ethanol industry would lead to increased imports of MTBE to meet the demand for oxygenates.(26)

Air Quality

One of the main motivations for ethanol use is improved air quality. Ethanol is primarily used in gasoline to meet minimum oxygenate requirements of two Clean Air Act programs. Reformulated gasoline (RFG) is used to reduce vehicle emissions in areas that are in severe or extreme nonattainment of National Ambient Air Quality Standards (NAAQS) for ground-level ozone.(27) Ten metropolitan areas, including New York, Los Angeles, Chicago, Philadelphia, and Houston, are covered by this requirement, and many other areas with less severe ozone problems have opted into the program, as well. In these areas, RFG is used year-round. By contrast, the Oxygenated Fuels program operates only in the winter months in 20 areas(28) that are listed as carbon monoxide (CO) nonattainment areas.(29)

EPA states that RFG has led to significant improvements in air quality, including a 17% reduction in volatile organic compounds (VOCs) emissions from vehicles, and a 30% reduction in toxic emissions. Furthermore, according to EPA "ambient monitoring data from the first year of the RFG program (1995) also showed strong signs that RFG is working. For example, detection of benzene (one of the air toxics controlled by RFG, and a known human carcinogen) declined dramatically, with a median reduction of 38% from the previous year."(30)

However, the need for oxygenates in RFG has been questioned recently. Although oxygenates lead to lower emissions of VOCs, and CO, they may lead to higher emissions of nitrogen oxides (NOX). Since all three contribute to the formation of ozone, the National Research Council recently concluded that while RFG certainly leads to improved air quality, the oxygenate requirement in RFG may have little overall impact on ozone formation.(31)

More importantly, evidence that the most widely-used oxygenate, methyl tertiary butyl ether (MTBE) contaminates groundwater has led to a push by some to eliminate the oxygen requirement in RFG. MTBE has been identified as an animal carcinogen, and there is concern that it is a possible human carcinogen. In California, MTBE will be banned as of December 31, 2002, and the state is lobbying Congress for a waiver to the oxygen requirement (see section on MTBE). Other states, such as states in the Northeast, are also seeking waivers.

If the oxygenate requirements were eliminated, some refiners claim that the environmental goals of the RFG program could be achieved through cleaner, although potentially more costly, gasoline that does not contain any oxygenates.(32) These claims have added to the push to remove the oxygen requirement and allow refiners to produce RFG in the most cost-effective manner, whether or not that includes the use oxygenates. However, some environmental groups are concerned that an elimination of the oxygenate requirements would compromise air quality gains resulting from the current standards, since oxygenates also displace other harmful chemicals in gasoline.

While the potential ozone benefit from oxygenates in RFG has been questioned, there is little dispute that the winter Oxy-Fuels program has led to lower emissions of CO. The Oxy-Fuels program requires oxygenated gasoline in the winter months to control CO pollution in NAAQS nonattainment areas for the CO standard. However, this program is small relative to the RFG program.(33)

The air quality benefits from purer forms of ethanol can be substantial. Compared to gasoline, use of E85 and E95 can result in a 30-50% reduction in ozone-forming emissions. And while the use of ethanol also leads to increased emissions of acetaldehyde, a toxic air pollutant, as defined by the Clean Air Act, these emissions can be controlled through the use of advanced catalytic converters.(34) However, as was stated above, these purer forms of ethanol have not seen wide use.

Climate Change

Another potential environmental benefit from ethanol is the fact that it is a renewable fuel. Proponents of ethanol argue that over the entire fuel-cycle(35) it has the potential to reduce greenhouse gas emissions from automobiles relative to gasoline, therefore reducing the risk of possible global warming.

Because ethanol (C2H5OH) contains carbon, combustion of the fuel necessarily results in emissions of carbon dioxide (CO2), the primary greenhouse gas. However, since photosynthesis (the process by which plants convert light into chemical energy) requires absorption of CO2, the growth cycle of the feedstock crop can serve--to some extent--as a "sink" that absorbs some of these emissions. In addition to CO2 emissions, the emissions of other greenhouse gases, may increase or decrease depending on the fuel cycle.(36)

According to Argonne National Laboratory, using E10, vehicle greenhouse gas emissions (measured in grams per mile) are approximately 1% lower than with the same vehicle using gasoline. With improvements in production processes, by 2010, the reduction in greenhouse gas emissions from ethanol relative to gasoline could be as high as 8-10% for E10, while the use of E95 could lead to significantly higher reductions.(37)

However, other studies have called into question the efficiency of the ethanol production process.(38) If true, then the overall reductions in greenhouse gas emissions would be diminished, due to higher fuel consumption during the production process.

Energy Security

Another frequent argument for the use of ethanol as a motor fuel is that it reduces U.S. reliance on oil imports, making the U.S. less vulnerable to a fuel embargo of the sort that occurred in the 1970s, which was the event that initially stimulated development of the ethanol industry. According to Argonne National Laboratory, with current technology the use of E10 leads to a 3% reduction in fossil energy use per vehicle mile, while use of E95 could lead to a 44% reduction in fossil energy use.(39)

However, other studies contradict the Argonne study, suggesting that the amount of energy needed to produce ethanol is roughly equal to the amount of energy obtained from its combustion, which could lead to little or no reductions in fossil energy use.(40) Thus, if the energy used in ethanol production is petroleum-based, ethanol would do nothing to contribute to energy security. Furthermore, as was stated above, fuel ethanol only displaces approximately 1.2% of gasoline consumption in the United States. This small market share led GAO to conclude that the ethanol tax incentive has done little to promote energy security.(41) Furthermore, since ethanol is currently dependent on the U.S. corn supply, any threats to this supply (e.g. drought), or increases in corn prices, would negatively affect the cost and/or supply of ethanol. This happened when high corn prices caused by strong export demand in 1995 contributed to an 18% decline in ethanol production between 1995 and 1996.

Policy Concerns and Congressional Activity

Recent congressional interest in ethanol fuels has mainly focused on three sets of issues: 1) implementation of Phase 2 of the RFG program; 2) a possible phase-out of MTBE; and 3) the alcohol fuel tax incentives.

Phase 2 Reformulated Gasoline

As of January 1, 2000, under Phase 2 of the RFG program, the summer volatility standard for RFG will be tightened in order to further reduce evaporation of gasoline and emissions of VOCs. Because of its physical properties, ethanol has a higher volatility than MTBE, and the gasoline used to make ethanol-blended RFG will have to be less volatile and therefore more expensive. Thus, the price of ethanol-blended RFG will increase relative to MTBE-blended RFG. Industry spokespersons argue that under Phase 2, the increased cost of ethanol-blended RFG may make it unable to compete with gasoline containing other additives.

Although this reduced volatility requirement is set by the Clean Air Act, the Environmental Protection Agency (EPA) is currently reviewing whether credits from ethanol's improved performance on carbon monoxide emissions are possible as an offset to its higher volatility. Furthermore, several members of the Illinois delegation to Congress have communicated to the Environmental Protection Agency their concerns over the future of gasohol under Phase 2.(42) EPA plans to make a decision early in 2000, so that ethanol and gasoline producers will be able to prepare for the summer season.

MTBE

Since MTBE, a possible human carcinogen, has been found in groundwater in some states (especially in California), there has been a push both in California and nationally to ban MTBE.(43) In March 1999, California's Governor Davis issued an Executive Order requiring that MTBE be phased out of gasoline in the state by December 31, 2002. In July 1999, an advisory panel to EPA recommended that MTBE use should be "reduced substantially."(44)

A possible ban on MTBE could have serious consequences for fuel markets, especially if the oxygenate requirements remain in place. Since ethanol is the second most used oxygenate, it is likely that it would be used to replace MTBE. However, there is not currently enough U.S. production capacity to meet the potential demand. Therefore, it would likely be necessary to phase out MTBE over time, as opposed to an immediate ban. Furthermore, the consumer price for oxygenated fuels would likely increase because ethanol, unlike MTBE, cannot be shipped through pipelines and must be mixed close to the point of sale, adding to delivery costs. Increased demand for oxygenates could also be met through imports from countries such as Brazil, which is a leader worldwide in fuel ethanol production, and currently has a surplus.(45)

While a ban on MTBE would seem positive for ethanol producers, it could actually work against them. Because MTBE is more commonly used in RFG, and because current ethanol production could not meet total U.S. demand for oxygenates, there is also a push to suspend the oxygenate requirement in RFG, which would remove a major stimulus to the use of fuel ethanol.

A number of bills in the 106th Congress address the MTBE and oxygenate issues, but movement on any of these bills has been stymied by the conflicting views of the ethanol and petroleum industries and by the varying interests of the states. H.R. 11 (Bilbray), which would waive the oxygen requirement in RFG, and allow California to set its own standards for RFG, has had the most activity recently. Approved by the House Commerce Committee Subcommittee on Health and the Environment, it has near-unanimous support of the California delegation.(46) The bill has been criticized by some because it would lead to a "patchwork" of fuel regulations, while others have supported the bill because it addresses the MTBE issue in the areas most affected by the chemical. S. 266 (Feinstein) contains similar language.

Several other bills address these issues, but have seen less activity. Two bills, H.R. 1367 (Franks) and H.R. 1398 (Pombo), would ban MTBE nationally. Likewise, S. 1037 (Boxer) would phase-out MTBE nationally, and would immediately ban MTBE in areas where groundwater has been affected. Furthermore, H.R. 1705 (Pallone) and S. 645 (Feinstein) would waive the oxygen requirement for RFG if all other program requirements are met, and if the resulting gasoline produces no worse emissions. Also, S. 1886 (Inhofe and Feinstein) would allow individual states to apply for waivers from the oxygenate requirements, if all other requirements of the RFG program are met.

In addition to the bills that have been introduced, draft legislation has been circulated by Senator Daschle that would phase-out MTBE nationwide, and would eliminate stipulations on the oxygen requirement in RFG. Furthermore, the legislation would require an increased market for renewable fuels from 1.3% of the national fuel market in 2001 to 2.1% by 2009. MTBE and oil producers oppose the legislation because they believe that it would "replace one mandate with another mandate."(47)

Alcohol Fuel Tax Incentives

As stated above, the exemption that ethanol-blended fuels receive from the excise tax on motor fuels is controversial. The incentive allows fuel ethanol to compete with other additives, since the wholesale price of ethanol is so high. Proponents of ethanol argue that this exemption lowers dependence on foreign imports, promotes air quality, and benefits farmers.(48)

Opponents of the tax incentives argue that the incentives promote an industry that could not exist on its own, and reduce potential fuel tax revenue. Despite objections from opponents, Congress in 1998 extended this tax exemption through 2007, but at slightly lower rates (P.L. 105-178). However, two bills, H.R. 446 (Bentsen) and H.R. 1470 (Visclosky), would repeal the ethanol tax exemptions.(49)

Other Issues

A few other bills in the 106th Congress also address ethanol-related issues. H.R. 1395 (Hunter) would prohibit gasoline imports to California and would suspend RFG and oxygenate requirements in the state when the retail price of gasoline exceeds certain limits. Three related bills--S. 935 (Lugar), H.R. 2819 (Udall), and H.R. 2827 (Ewing)--would authorize $49 million per year for biomass research administered by the U.S. Departments of Agriculture and Energy.

Conclusion

As a result of the current debate over the future of MTBE in RFG, and the RFG program in general, the future of the U.S. ethanol industry is uncertain. A ban on MTBE would greatly expand the market for ethanol, while an elimination of the oxygenate requirement would remove a major stimulus for its use. Any changes in the demand for ethanol will have major effects on corn producers, who rely on the industry as a partial market for their products.

The current size of the ethanol industry is depends significantly on federal laws and regulations that promote its use for air quality and energy security purposes, as well as tax incentives that lessen its cost to consumers. Without these, it is likely that the industry would shrink substantially in the near future. However, if fuel ethanol process costs can be decreased, or if gasoline prices increase, ethanol could increase its role in U.S. fuel consumption.

Footnotes

1. (back)Industrial uses include perfumes, aftershaves, and cleansers.

2. (back)U.S. Department of Energy (DOE). Alternatives to Traditional Transportation Fuels 1997 - Advance Data.

3. (back)Utilization is used, rather than production, due to the existence of carryover stocks. Corn utilization figures address the total amount of corn used within a given period.

4. (back)Detailed explanations are available in CRS Report RS20271, Support Programs for Major Crops: Description and Experience and CRS Report 98-744, Agricultural Marketing Assistance Loans and Loan Deficiency Payments.

5. (back)Renewable Fuels Association, Ethanol Industry Outlook 1999 and Beyond. www.ethanolrfa.org

6. (back)James Bovard, Archer Daniels Midland: A Case Study in Corporate Welfare. Cato Institute. September 26, 1995.

7. (back)Renewable Fuels Association, Growth of the U.S. Ethanol Industry. May 1999.

8. (back)U.S. Department of Energy, Annual Energy Outlook - 1999.

9. (back)Section 211, subsection k. 42 U.S.C. 7545.

10. (back)CO, VOCs and nitrogen oxides (NOX)are the main precursors to ground-level ozone.

11. (back)Lead was commonly used as an octane enhancer until it was phased-out through the mid-1980s (lead in gasoline was completely banned in 1995), due to the fact that it disables emissions control devices, and because it is toxic to humans.

12. (back)P.L. 102-486.

13. (back)More diluted blends of ethanol, such as E10, are considered to be "extenders" of gasoline, as opposed to alternatives.

14. (back)Since different fuels produce different amounts of energy per gallon when consumed, the unit of a gasoline-equivalent gallon (GEG) is used to compare total energy consumption.

15. (back)U.S. Department of Energy, Alternatives to Traditional Transportation Fuels 1998 - Advance Data.

16. (back)Ibid.

17. (back)U.S. Department of Transportation, Bureau of Transportation Statistics, Pocket Guide to Transportation -- 1998. December, 1998.

18. (back)U.S. Department of Energy, Office of Fuels Development.

http://www.esd.ornl.gov/bfdp/doeofd/bsd.html

19. (back)Inside Washington Publishers, "Massachusetts Firm to Build First U.S. Bioethanol Plant," New Fuels and Vehicles Report. August 19, 1999. p. 1.

20. (back)U.S. Department of Agriculture.

21. (back)26 U.S.C. 40.

22. (back) Food and Agriculture Policy Research Institute. Effects on Agriculture of Elimination of the Excise Tax Exemption for Fuel Ethanol, Working Paper 01-97, April 8, 1997. http://www.fapri.missouri.edu

23. (back)James Bovard. p. 8.

24. (back)U.S. General Accounting Office, Effects of the Alcohol Fuels Tax Incentives. March, 1997.

25. (back)Ibid.

26. (back)Katrin Olson, "USDA Shows Losses Associated with Eliminating Ethanol Incentive," Oxy-Fuel News. May 19, 1997. p. 3.

27. (back)Ground-level ozone is an air pollutant that causes smog, adversely affects health, and injures plants. It should not be confused with stratospheric ozone, which is a natural layer some 6 to 20 miles above the earth and provides a degree of protection from harmful radiation.

28. (back)Only the Los Angeles and New York areas are subject to both programs.

29. (back)Clean Air Act, Section 211, subsection m. 42 U.S.C. 7545.

30. (back)Margo T. Oge, Director, Office of Mobile Sources, U.S. EPA, Testimony Before the Subcommittee on Energy and Environment of the Committee on Science, U.S. House of Representatives. September 14, 1999.

31. (back)National Research Council, Ozone-Forming Potential of Reformulated Gasoline. May, 1999.

32. (back)Al Jessel, Senior Fuels Regulatory Specialist of Chevron Products Company, Testimony Before the House Science Committee Subcommittee on Energy and Environment. September 30, 1999.

33. (back)In 1998, an average of 90.9 million gallons per day of RFG were sold in the U.S., as opposed to 8.0 million gallons per day of Oxy-Fuel gasoline.

34. (back) California Energy Commission, Ethanol-Powered Vehicles.

35. (back)The fuel-cycle consists of all inputs and processes involved in the development, delivery and final use of the fuel.

36. (back)For example, nitrous oxide emissions tend to increase with ethanol use because nitrogen-based fertilizers are used extensively in agricultural production.

37. (back)M. Wang, C. Saricks, and D. Santini, "Effects of Fuel Ethanol on Fuel-Cycle Energy and Greenhouse Gas Emissions." Argonne National Laboratory.

38. (back)Alan Kovski, "Study Defends Fuel Efficiency of Ethanol, While Another Notes Emissions of Pollutants," The Oil Daily. March 9, 1998. p. 6.

39. (back)Wang, et. al. p. 1

40. (back)Alan Kovski. p. 6.

41. (back)U.S. General Accounting Office, Effects of the Alcohol Fuels Tax Incentives. March, 1997.

42. (back)Toby Eckert, "Illinois Lawmakers Press EPA Head on Ethanol," State Journal Register. Springfield, Ill. June 17, 1999. p. 31.

43. (back)For more information, see CRS Report 98-290 ENR, MTBE in Gasoline: Clean Air and Drinking Water Issues.

44. (back)Blue Ribbon Panel on Oxygenates in Gasoline, Achieving Clean Air and Clean Water: The Report of the Blue Ribbon Panel on Oxygenates in Gasoline.

45. (back)Adrian Schofield, "Brazilian Ambassador Sees Opportunity in United States Ethanol Market," New Fuels & Vehicles Report. September 16, 1999. p. 1.

46. (back)James Kennedy, "House Panel Approves California Fuel Bill; Amended Measure Would Enable MTBE Ban," Daily Environment Report. October 1, 1999. p. A-6.

47. (back)Inside Washington Publishers, "Industry Rejects 'Mandates' in New Draft Daschle Oxygenates Bill," Inside E.P.A. Weekly Report. August 20, 1999.

48. (back)U.S. General Accounting Office (GAO), Effects of the Alcohol Fuels Tax Incentives. March, 1997.

49. (back)For more information, see CRS Report 98-435 E, Alcohol Fuels Tax Incentives.

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