EPA's Blown Call on Ethanol

• EPA's proposed revision to renewable fuel quotas achieves the appearance of compromise by cutting non-existent volumes, while still attempting to force more ethanol into the market than consumers seem to want.

Last Friday the US Environmental Protection Agency released its long-awaited proposal for untangling a broken federal Renewable Fuels Standard (RFS). Although it provides all parties with greater certainty, it fails to resolve the regulation's fundamental flaws. This is all the more disappointing for the duration of the wait involved, finalizing 2014's quotas 18 months late and leaving refiners and fuel blenders to operate for the first five months of this year on hints and guesswork about how much ethanol and biodiesel they would be required to sell in 2015.

The proposal meets at least one definition of a compromise, with most affected constituencies apparently disappointed or irate about the result. To someone unfamiliar with the situation, it might even seem that, as ethanol groups claim, the agency has leaned far in the direction of assuaging the concerns of the petroleum refining industry by cutting a total of 11 billion gallons from the 2014-16 quotas for ethanol and other biofuels. However, as EPA's accompanying analysis makes clear, the omitted volumes were unlikely ever to be purchased by end-users, given the decline in US motor fuels consumption since the statutes imposing the RFS were passed in 2005 and 2007. Nor do the facilities yet exist to produce the quantities of cellulosic biofuels that account for the lion's share of the proposed cuts.

EPA's documentation repeatedly cites the "intent of Congress." This seems to refer to the Congressional sessions that bequeathed us this policy, rather than to the current Congress, which is waking up to the fact that the program has largely been superseded by reality. The RFS was designed to address two problems: US fuel scarcity and transportation-sector emissions of greenhouse gases. The former has been overcome mainly thanks to the shale revolution, transforming the US from a net importer of refined petroleum products to the world's largest exporter.

As for automobile-related emissions, they are being managed more effectively by fuel economy improvements and new vehicle technology. The RFS may even be counterproductive in its overall emissions impacts, as noted in a press release from the Environmental Working Group. Nor are emissions the only issue for which crop-based ethanol may be doing more harm than good. Evidence points to periodic impacts on global food prices. It's hard to conclude we could divert 38% of the US corn crop without causing unintended consequences somewhere.

EPA's analysis of the snarl at the core of the existing RFS is perplexing. First it describes how ethanol has effectively reached its maximum possible penetration of the US market for ordinary gasoline containing up to 10% ethanol (E10)--the so-called "blend wall." It goes on to acknowledge that sales of gasoline blends containing up to 15% or 85% ethanol, respectively, remain minuscule relative to total gasoline sales. However, it then ignores these facts and persists in the hope that by continuing to increase its ethanol quota, albeit more slowly, it can convince consumers to embrace fuels for which they had little appetite even when gasoline cost $1 more per gallon than it does today.

As the Washington Post noted, most car manufacturers still warn automobile owners that using gasoline containing more than 10% ethanol could result in engine damage not covered by their warranties. Although I was pleased to see that the car I recently purchased is warranted up to 15% ethanol, I cannot envision buying a single gallon of E15 unless it was priced at a discount to E10 gasoline, reflecting its inherently lower fuel economy and range. As for E85, in only a handful of states does the market discount meet or exceed the fuel's 27% calculated deficit in delivered energy, compared to E10. Is it any wonder that for a decade E85 has failed to take off as envisioned by the EPA and previous Congresses?

The EPA does not have a free hand to rewrite this regulation in any manner it would like, to fit the greatly altered circumstances in which the US now finds itself. The agency may well believe it has gone as far in that direction as it could, although I suspect it could have justified freezing ethanol from all sources at current levels, and allowing cellulosic ethanol gradually to displace corn-based fuel as new facilities come online. However, no adjustments that EPA seems prepared to make can repair a biofuels policy that was fundamentally broken at its inception, due to its inherent contradictions with other policies and consumer preferences.

We have reached the point at which conflicting federal biofuel quotas, emissions regulations, and  chronically weak GDP growth have rendered the original goals of the RFS not just ambitious but unattainable. The EPA has taken its best shot at addressing this and come up short. It is now up to the US Congress and the Administration to work together to fix this mess, before the consequences of inaction put a damper on one of the few bright spots of the current economy.

EPA's Ethanol Adjustment Falls Short of Reform

• As the ethanol blend wall arrives, the EPA has proposed adjusting downward the federally mandated level of corn ethanol to be blended into gasoline.
• This would relieve pressure on fuel blenders and retailers, but doesn't solve a problem widely expected to require bigger adjustments each year.

Last Friday the US Environmental Protection Agency proposed significant adjustments to the 2014 Renewable Fuel Standard, the federal biofuel mandate that the EPA administers. The headline change was a nearly 3 billion gallon reduction in the required biofuel volume for next year. However, as various observers, including the editors of the Washington Post, failed to differentiate, less than half of that reduction was truly discretionary. The remainder was a necessary acknowledgement of the persistently slow pace of cellulosic biofuel development and entirely in keeping with precedent.

I've written extensively about the ethanol blend wall and the need to reform the RFS and what that might look like. I don't intend to rehash those issues today. Rather, I'd like to focus on the specifics of the EPA's announcement, and why as the Post stated, "it doesn't go far enough."  Because of the way the RFS targets roll up, it's not easy to see exactly what the Agency has proposed doing with each category of biofuel under the mandate.

The first aspect requiring clarification is that the roughly 99% cut in the most restrictive category of the RFS, the target for cellulosic biofuel, is nothing new. It's at least the fourth consecutive annual reduction by my count, reflecting that the substantial volumes of cellulosic biofuel projected back in 2007 were more than merely ambitious. Several new cellulosic facilities, including plants belonging to DuPont and POET, are scheduled to start up within the next year. I hesitate to call them commercial-scale, not just but their output will be less than that of typical corn-ethanol plants, but because their commerciality can't truly be known until they're started up, de-bugged and running smoothly.

Together with another plant that has already started up, these facilities will still not come close to producing the 1.75 billion gallons of cellulosic biofuel originally mandated for 2014. For the first time, though, EPA's newly revised range of 8-30 million gallons might prove realistic.

Because the RFS's "cellulosic" category rolls up within the larger, less-restrictive "advanced" biofuel category, it wasn't obvious that the effective new 2014 target for non-cellulosic advanced biofuel, which includes biodiesel, as well as ethanol from sugar cane, actually represents a modest increase from 2013 and essentially no change from its original level of 2 billion gallons.

The only truly discretionary change in the EPA's proposal falls on the least-restrictive RFS category of "renewable biofuel." As a result, the 2014 mandate for ethanol produced from corn and other grains would be cut from 14.4 billion gallons to 13.01 billion gallons--the most important figure in the entire proposal and one you won't find in the EPA's press release. 2014 US gasoline sales are expected to be just sufficient to absorb that quantity of ethanol without exceeding the 10% blending limit in place for most US gasoline, other than E85 and the literal handful of stations selling E15, the EPA's approved 15% blend. This reduction represents a milestone and should be welcomed by consumers worried about the cost and quality of the fuel they buy.

The corn ethanol industry is understandably displeased with this proposal, which makes it clear that when push comes to shove, the EPA's preference is for more advanced biofuels over corn ethanol. But the bigger issue is the one to which the Washington Post's editorial alludes: a one-year fix cannot address the structural problems of a rule that is on a trajectory to diverge farther from its planned version of the future with each passing year.

The outcome is far from settled. The EPA's 60-day comment period is just beginning, and numerous legislators, trade associations, and companies will want to have their say about it. They should hear from ordinary consumers, too.

Renewable Energy and Egyptian Unrest

It's hard to watch the current turmoil in Egypt and not wonder what it means for us, particularly with regard to energy. Although Egypt's oil production roughly balances its consumption, the Suez Canal and the Sumed pipeline, with its Mediterranean terminus west of Alexandria, represent important transit routes for Eastern Hemisphere oil going to Europe--though not as important as in the past. And while some politicians have already cited this situation as a "wake-up call" and indication of our energy insecurity, the risk of a serious supply disruption appears low, unless the protests spread to the major oil producing countries of the Middle East. Yet even short of that extreme, renewable energy stands to benefit from the uncertainty these events create, as reflected in higher crude oil prices.

I don't claim any unique perspective on the events in Egypt or their likely outcome, although some of the scenarios I can envision are extremely worrying. I've read heaps of articles and op-eds on the subject and listened to a media conference call from the Council on Foreign Relations, but if there's a consensus view I haven't found it yet. What I do see, however, is that since the protests started on January 25, and without any actual disruption in oil deliveries, the price of UK Brent crude--currently a better indicator of global oil prices than West Texas Intermediate--has climbed by around $5 per barrel and now trades solidly above $100. And while that might reflect other factors in addition to an Egypt risk premium, currency exchange rates don't seem to be one of them.

If the present instability persists or spreads, oil prices are likely to go even higher. Renewables such as ethanol and other biofuels could benefit from that in a way that they haven't from the general increase in oil prices since the middle of last year. That trend was mainly attributable to resurgent global economic growth, particularly from developing Asia. China's GDP grew by more than 10% last year. Along the way, the prices of renewable energy products that compete directly with oil went up, but so did the cost of inputs such as grains and oilseeds, as part of a general surge in global commodity prices. As a result the "crush spread", the margin for turning corn into ethanol, has contracted since mid-2010 and currently stands at essentially zero on the basis of prompt ethanol and corn futures. Biodiesel margins should have experienced something similar, if soybean oil prices are any indication. These products stand to gain if oil prices are driven up by factors that don't also push up the prices of the commodities from which they're made.

Of course that's not the only possible outcome. This week's Economist even notes the potential for a scenario yielding the opposite result. They see other Middle Eastern countries stockpiling grain to avert protests of the kind that have spread from Tunisia to Algeria, Egypt, Jordan and Yemen, and driving up its cost in the process. However, that element of the scenario is more credible than the accompanying suggestion that the region's oil producers might boost production to pay for that extra grain, thereby sinking oil prices. At current levels, the region's oil exporters are already earning on the order of $1.5 billion a day, and even a small producer like Oman should be taking in around $20 billion a year. Even at $9 per bushel the entire 2009/10 wheat imports of Lebanon, Iraq, Iran, Israel, Jordan, Kuwait, Saudi Arabia, the UAE and Yemen barely top $6 billion.

It's worth recalling that if the recent rise in oil prices is reminiscent of 2007 and 2008, OPEC has far more spare capacity in reserve this time. It has done a remarkable job of avoiding the temptation to pump more to gain market share. Even with some cheating around the quotas, they've kept the market tight. If OPEC changes that policy, it seems likelier they'd do so to avoid stalling the global recovery than to cover some additional grain imports for which they already have ample cash on hand. Stay tuned.

Christmas for Renewables

Last night the US House of Representatives passed the compromise tax bill without any amendments and by a healthy margin, though narrower than the 81-19 vote in the Senate on Wednesday. The bill now goes to the President for his signature. The provisions added after the initial negotiations between the White House and Republican leadership delivered a substantial Christmas present to the nation's renewable energy industry, including several key items on the industry's wish list: extension of the ethanol blenders' tax credit at its current rate of $0.45 per gallon; extension of the Treasury Renewable Energy Grants, which provide cash in lieu of investment tax credits; and a retroactive extension of the $1.00 per gallon biodiesel tax credit, which had lapsed at the end of 2009. However, as with many Christmas presents, the bill that will come due next year is also substantial. And the one-year extensions granted to these incentives leaves their long-term fate in the hands of the new Congress, which is widely expected to be more focused on deficit reduction than on stimulus.

This result constitutes a remarkable trifecta. As recently as a week ago it seemed likely that the Treasury Grant program would expire on schedule, and that the ethanol credit, if not actually allowed to expire, would at least be reduced to reflect its redundancy with the Renewable Fuel Standard (RFS), which requires refiners and fuel blenders to add biofuel to gasoline. As for the biodiesel tax credit, it looked like a lost cause all year, having failed on multiple previous attempts to reinstate it. The US ethanol industry even prevailed in having the $0.54 per gallon duty on imported ethanol extended for another year, in order to shield taxpayers from paying incentives to foreign producers and the industry from cheaper competition--though I'm not sure how competitive Brazilian cane ethanol really is these days, with sugar trading at around $0.30/lb ex duty. (As I understand the tradeoff, a gallon of cane ethanol consumes roughly the same raw materials as 10 lb. of cane sugar.)

It's a tribute to the greatly expanded scale of renewable energy that the price tag for the one-year extension of these three incentives is as high as it will be. This year, even with US wind turbine installations running well behind their record pace in 2009, the Treasury has spent $3.9 billion on the grant program for projects installing geothermal, solar, wind and other renewable electricity equipment. With continued strong growth in both solar thermal and photovoltaic projects and even a modest uptick in wind installations, the tab for 2011 could easily break $4 B. (A separate manufacturers tax credit, which had a better claim on creating green jobs here in the US, was not extended.) Meanwhile, with conventional ethanol and biodiesel blended at the mandated rates for next year, they should account for around $5.9B and $0.8 B, respectively. That comes to $10.7 billion for all three programs.

Although the tax compromise has extended the energy policy status quo for another year, change is in the air. With continued, though narrower bi-partisan support, the ethanol industry's argument that its tax credit is still necessary after 32 years--even with a steadily increasing RFS mandate--is losing credibility. Part of the industry would prefer this money to be spent encouraging infrastructure for E85 and other higher-percentage blends that represent ethanol's future growth opportunity, if any. As for the Treasury Grants, a temporary stimulus measure intended to make up for the disappearance of the tax equity market during the financial crisis, the defensibility of treating the investment tax credit on which it is based differently from any other credit in the tax code is waning. This mechanism looks increasingly exposed as the broader category of "tax expenditures" becomes an obvious target for deficit cutters, and the justification for extending it beyond next year would probably vanish if the Congress enacted legislation along the lines of Senator Graham's Clean Energy Standard. The industry should make the most of the current Christmas package, because the odds are against a repetition of it turning up under next year's tree.

Rejecting Reactive Energy Policy

I see that BP now thinks it might be able to cap its leaking Macondo well this month, rather than sometime in August, barring a major hurricane or other disruption. That can't come a moment too soon, and not just for the obvious reasons. Every day that the well continues to spew oil into the Gulf of Mexico contributes to the mounting appearance of panic among policy makers, who have allowed--willingly or otherwise--the oil leak to hijack our progress towards a sensible energy policy that addresses both energy security and greenhouse gas emissions, based on a rational assessment of the tools available now and the timing of future options. The sooner the oil spill is off the front page, the sooner work can resume on that effort.

One of my old commodity-trading mentors liked to remind his more junior colleagues to "sell the news and buy the facts." By this he meant that those who get carried away by the emotion of current events are liable to be whipsawed when reason returns with a little time and perspective. More than a few members of Congress and the administration could benefit from that insight right now, as the understandable reaction to the oil spill whips up exaggerated rhetoric concerning our addiction to oil and the prospect of ending it sometime soon. Funny that we don't hear much about Europe's addiction to oil, which at least in terms of its relative reliance on oil imports looks even more serious than ours, despite astronomical motor fuel taxes and an emphasis on biodiesel that nearly matches our focus on ethanol. Since Europeans have consistently focused on this problem for years, perhaps it's just not as easy to solve as some Representatives and pundits imagine. If that's true, does it make sense to divert our focus away from a comprehensive approach to both emissions and broadly-defined energy security, in order to zero in on the most daunting element of both concerns?

First consider the oil-security portion of the problem, which in many ways was clearer in 2008, when oil prices zoomed past $100/bbl and headed for $150, until both they and the economy broke later that year. Americans got the message that conservation and efficiency were the top priorities for dealing with the cost of our oil addiction. The oil spill doesn't alter that. Although prices have come down considerably since mid-2008, they remain well above the pre-2004 level of $20-30/bbl or so, when gasoline was consistently under $1.75/gallon. As a result of those pressures, motorists cut back on their driving, and the Congress enacted--and this administration implemented--the most significant increase in Corporate Average Fuel Economy requirements in a generation, taking the new-car average CAFE standard to 34 mpg by 2016, including both passenger cars and light trucks/SUVs. Based on forecasts by the Energy Information Agency of the DOE, these rules, along with prudent conservation, should reduce US gasoline consumption by 2.6 million barrels per day by 2030, compared to pre-CAFE forecasts. And although I've disagreed with some of the specifics of these regulations, particularly for failing to correct outdated assumptions and allowing carmakers to double-count the benefit of electric vehicles, these new standards will eventually transform the US vehicle fleet and the energy it consumes.

We also shouldn't allow our revulsion at the oil spill to blind us to the emissions implications of our energy choices. In 2008 oil accounted for over 37% of US primary energy consumption and 35% of our greenhouse gas emissions, while coal contributed 22.5% of primary energy but 30.5% of emissions, including a whopping 91% of the CO2 emissions from the electric power sector. That distinction is crucial, because while we still have limited and only partially-effective substitutes for oil in transportation, where most of it is used, we possess a wide array of options for reducing the emissions from electricity generation, which consumed just 1.3% of total US oil demand last year. Several of these are economically viable today, though most require some level of subsidies or incentives. Nuclear power and geothermal energy are effective low-emission alternatives for baseload generation, while natural gas and renewables are already making significant inroads into coal's market share of overall power demand. And if implemented on a large-scale, integrated basis, carbon capture and sequestration could enable coal to continue to compete in a low-carbon electricity marketplace.

None of this suggests a return to the pre-spill status quo. The impact of the spill on the oil industry and the regulations that govern it will be significant and long-lasting, as it should be. At the same time, it would be hard to assess all of the public evidence assembled so far and not conclude that the accident that destroyed the Deepwater Horizon rig and led to the uncontrolled leak of many thousands of barrels per day of oil into the Gulf was entirely preventable--not by a ban on drilling in deep water, but by prudent adherence to sound operating principles and practices and the consistent enforcement of regulations to ensure that adherence by even the least-cautious operators. Yet as necessary as creating a universal culture of safety and caution in offshore drilling is, we can't let this urgent task divert our attention from the important long-term drivers of US energy policy and the actions--many already underway--necessary to address them. Good energy policy can handle all of this, while overly-reactive policies focused on the Macondo spill and the political opportunity it presents risk misallocating our priorities and creating a legacy that would make our long-term energy situation even more challenging than it already is.

Preparing for the Next Big Spill

In the last few weeks numerous industry experts and outside observers have pointed out that the technology for dealing with major oil spills has advanced much more slowly than the technology for finding and producing oil under increasingly marginal conditions. That's an important insight, because if all the leaking oil were being safely and efficiently collected and processed, our main focus would be on the circumstances of the tragic accident that destroyed the Deepwater Horizon and killed 11 workers, rather than on the slow-motion disaster looming off the Gulf Coast. As it debates raising the oil spill fee collected on all the oil the US produces or imports, the Congress should consider setting aside a portion of any incremental revenue to fund research on improved oil spill remediation methods and technology, rather than just accumulating more money to spend in the future on today's relatively ineffective technology, should another large spill occur.

I have no doubt that the assessment of the factors contributing to the Deepwater Horizon accident and the ensuing spill in the Gulf will lead to new regulations on offshore drilling. With some luck, those will contribute to reducing the risk of a recurrence, though regulations can never eliminate the possibility of someone making a bad decision, with tragic consequences. But even if President Obama imposes an extended moratorium on deepwater drilling, there will eventually be another big spill, somewhere--if not from a deepwater well, then from one of the many additional supertanker cargoes the US would require when domestic oil production resumes the long slide that deepwater drilling had arrested and was beginning to reverse. Either way, it's not too early to start thinking about the next spill, while this one is still fresh in our minds.

There's no shortage of ideas for dealing with the oil slick off the Gulf Coast. Online innovation sites are gathering suggestions, and the former head of Shell's US operations, John Hofmeister, has one of his own concerning the use of supertankers to skim and collect the oil. Even actor Kevin Costner has a technology to offer. Decades of offshore drilling without a major accident like this, but with plenty of spills from oil tankers, other vessels, and ports, pipelines, and other facilities, have not prepared the industry to handle the current leak, the rate of which can't even be measured precisely. But even for the spills they were designed to address, the present array of booms, skimmers, and chemical dispersants, plus bags and shovels for what eventually reaches the shore, seems decidedly low-tech. It's hard to conceive of anyone finding the current approaches truly adequate to the task.

Pending legislation in Congress would raise the ceiling on payments out of the Oil Spill Liability Trust Fund from $1 billion to $5 billion per incident, to be funded by increasing the per-barrel fee assessed on oil produced in or imported into the US from $0.08/bbl to $0.34/bbl. (This is the same bill that would extend unemployment benefits and a dog's breakfast of expiring tax benefits, including a retroactive extension of the $1.00/gallon biodiesel production tax credit back to 1/1/10, when it expired.) It's not clear how this would apply to the current situation, particularly since the Constitution seemly unambiguous in its prohibition on ex post facto laws. In any case, the House Ways and Means Committee estimates that the higher fee would raise an extra billion dollars a year for future oil spills. It wouldn't take very much of that to fund the R&D necessary to bring oil-spill containment and remediation technology into the 21st century, through a combination of targeted tax credits and direct funding of good ideas.

Even though this fee is levied on oil companies, we should understand clearly that consumers will eventually pay most of this increase at the gas pump, to the tune of about a half-cent per gallon. US refiners, who are experiencing low margins, are in no position to absorb it, and the market will pass it on to us. If it's going to come out of our pockets, then shouldn't at least some of it go to making sure that future oil spill response efforts have much better tools to work with? I'll bet the folks in Louisiana wish that some of the $1.5 billion currently sitting in the Oil Spill Liability Trust Fund had been invested that way over the last 20 years.

FYI, next Wednesay, June 2, at 1:00 PM EDT I'll be on a webinar panel convened by The Energy Collective to discuss the implications of the oil spill for the future of energy. If you're interested, please sign up using this link.

Energy Security and Oil Substitution

For the last several years, US energy policy has been operating on the assumption that energy security and climate change were pretty much two sides of the same coin, in terms of motivating changes in our energy production and consumption. The Gulf Coast oil spill and some of the proposals for addressing the vulnerabilities it has exposed reveal the extent to which the connection between these two issues has been oversimplified. I've devoted several recent postings to explaining why renewable energy technologies like wind and solar power will have a minimal effect on our dependence on oil, and why vehicle electrification and biofuels look promising but are likely to be quite limited in their impact on imports for at least the near future. However, that doesn't mean we have no good options today. In fact, some quite prosaic measures could have a significant impact while we're waiting for the slower-cooking ones to ramp up. Something as simple as substituting natural gas for heating oil could be a very useful step, meriting additional support.

The broader concept of energy security, as opposed to simply oil security, gained traction a few years ago, when it appeared that natural gas was about to join the list of commodities for which the US would have to rely on steadily-increasing imports to satisfy domestic consumption. Shale gas is reversing that trend, and we are not at risk of becoming net importers of coal or electricity to any significant extent. From the US energy import and export figures, it's clear that our import dependence problem pretty much starts and ends with oil and its products, particularly when you consider that most of our relatively modest natural gas imports come from Canada. But while we may control our own destiny for electricity and natural gas, oil remains as complicated as ever, in part because most oil, but very little electricity, is used in transportation. If we want to reduce our reliance on oil and oil imports, we must focus on either efficiency and conservation, or on direct substitution. And for now, substitutes for oil in its main uses are still relatively small in scale, entail serious performance penalties, or both. However, if we look beyond the high-profile uses of oil in automobiles or aircraft, there are a few areas for which good, large-scale substitutes are available now.

Consider heating oil, a close cousin of diesel fuel. Although natural gas has been eroding the market share of heating oil in residential and commercial applications for decades, US homes still burn on average around 320,000 bbl/day of heating oil, mainly in the northeast. Commercial and industrial users consume a somewhat smaller quantity. Together, this represents about 10% of total US distillate consumption of around 4 million bbl/day (at least when the economy is healthy), or around 2% of total US petroleum consumption. Every barrel of heating oil displaced by natural gas or other fuels, such as bio-heating oil, could fuel diesel cars and trucks--after being processed into ultra-low-sulfur diesel--or be exported to offset a portion of our other imports. Replacing all of the residential heating oil used in the US would free up enough fuel for around 12 million diesel cars like the Audi A3 TDI that I wrote about a couple of months ago. And with natural gas having gotten much cheaper relative to oil, thanks to the growth of unconventional gas supplies, the economic advantage of switching can be considerable, as illustrated in the graph below, comparing residential gas and heating oil prices in New York.


How practical is this substitution? Well, having lived in a part of the country in which many older homes used oil heat, the biggest obstacle for most homeowners is the cost of replacing the furnace and connecting the house to gas. And there are still regions for which the latter is either cost-prohibitive or simply out of the question, because the gas pipeline network hasn't reached every community and neighborhood. (In such cases, propane, which is increasingly sourced from natural gas, may be a good option.) In the long run, particularly with the discovery of vast natural gas reserves in the Marcellus Shale underlying much of the northeast, the gas will come, and so will the infrastructure. The question is whether that process could be speeded up with a little help, and whether it makes sense to do so.

An article I ran across recently suggested that the American Recovery and Reinvestment Act of 2009 (the stimulus) included standards and funding for converting oil heating systems to gas. When I reviewed the text, most of that support seemed to be channeled through existing state programs. Nor did I see anything promoting the expansion of the natural gas pipeline and reticulation network (i.e., "last mile"), which remains the crucial step in this process for many small towns and rural communities. A quick search of the current draft of the Kerry-Lieberman climate bill didn't reveal anything along these lines, either, despite the emissions advantage of heating with gas instead of oil. That looks like a glaring omission to me.

The oil spill in the Gulf has provided a wake-up call concerning our continued dependence on oil and the ineffectiveness of energy policies focused mainly on climate change to address it. Renewable electricity isn't an oil substitute, and while converting cars and trucks to run on natural gas or electricity looks like a useful long-term strategy, it won't deliver big oil savings soon. In the meantime, we shouldn't ignore less glamorous measures that can have a quicker impact, such as accelerating the ongoing replacement of heating oil by natural gas and other non-oil fuels.

Gasoline from Sugar

It's ironic that with all the current hoopla about various alternative fuels and the electrification of personal cars--hybrids and several kinds of plug-in electric vehicles--it turns out that some of the most promising advanced energy technologies under development are designed to produce more of the same fuels that have powered cars, trucks and planes for the last century. Shell and its technology partner Virent made news this week with an announcement about their demonstration facility for turning sugar from beets or other crops into gasoline. Nor are they alone; many other companies are developing processes to turn renewable biomass into hydrocarbons, rather than the alcohols or esters that have been the principal biofuels of the last couple of decades. If any of these are successful on a scale that could compete with petroleum, it would force us to rethink our assumptions about the sustainability of what we put into our gas tanks.

The first assumption we'd need to jettison is that ethanol is good and gasoline intrinsically bad. The US and Brazil have made major commitments to using ethanol as a fuel, though from very different agricultural pathways and with very different energy, economic and emissions results. In many ways, this was making a virtue of necessity, rather than latching onto a really great fuel that had somehow been overlooked or conspired against for decades--a view you'll hear from some ethanol boosters. Unfortunately, ethanol still has all sorts of problems, even when it's made from sugar cane in the tropics using the most efficient process in the world today. Start with the fact that it's a second-rate energy carrier, delivering only 65% and 59% as much energy to the vehicle as gasoline or diesel, respectively. And while biodiesel doesn't share this drawback with ethanol, it does suffer from similar constraints on the amount that can safely be blended into fuel destined for vehicles that haven't been adapted to run on high-percentage biofuel blends.

Thanks to subsidies and mandates for its use, US ethanol consumption has expanded to the point at which we are approaching the accepted 10% limit on its inclusion in gasoline for cars not designated as Flexible Fuel Vehicles, or FFVs. The ethanol industry and its supporters have been trying to get the government to relax that limit--a move that would benefit them, but at the cost of putting more consumers' cars at risk of mechanical problems and diluting the value of what we are buying at the gas pump. No one is going to give you a discount for gasoline with 15% ethanol in it, instead of 10%, even though it will reduce your miles per gallon and thus your car's driving range by about 2%.

If the plant sugars currently being used to produce ethanol could instead be used to produce renewable gasoline and diesel fuel, it would avoid all of ethanol's compatibility and energy-content limitations, while reducing the cost of distributing fuel to service stations. Instead of having to send ethanol halfway across the country in rail cars or trucks to blending terminals, because it can't be shipped in one of the petroleum products pipelines that crisscross the nation, biogasoline would share the same highly-efficient transportation system that grew in tandem with the post-World War II expansion and dispersal of US population centers and industry. And it would do all this while emitting lower levels of greenhouse gases than petroleum-based fuels, perhaps even lower than those from corn ethanol, depending on the energy inputs required to process it. And if the sugar-to-gasoline process can be bolted onto a commercially-viable process for turning plant cellulose into sugars, biogasoline's lifecycle emissions could be reduced much further.

Now let's put this into perspective, before we conclude it sounds too good to be true. As the press release notes, Shell and Virent have a long way to go to scale up a facility making 10,000 gallons per year (gpy) of gasoline--under a barrel per day--to something that would compete with ethanol facilities producing 100 million gpy (6,500 bbl/day) or refinery units making 50,000 bbl/day. Many a process that looked good in the laboratory has failed to make that transition, which probably couldn't be accomplished in one step in any case. So, at best, this is still years away from commerciality and possibly a decade or more from wide deployment. And unless it can be easily adapted to use cellulosic feedstocks, it is subject to the same practical limitations on food crop production as current biofuels, and the same food vs. fuel competition that proved so divisive a couple of years ago, when corn prices and fuel prices had both spiked--a hardly-coincidental occurrence, considering the energy intensity of corn production.

If it does work, however, its practical advantages over ethanol are compelling, not just from the perspective of the oil industry, which would be relieved to be rid of the cost and logistical headaches ethanol has caused, but also for consumers and taxpayers. It's clear from the analysis supporting their new Renewable Fuel Standard regulations that the EPA regards biohydrocarbons as a viable alternative to current biofuels, and it just might be the pathway to ending our interminable subsidies for ethanol: 32 years and counting.

A Self-Fulfilling Bet on Biofuels?

An article in today's Financial Times (registration required) raises a worrying possibility concerning the plans of the US and other oil-consuming countries to rely on biofuels for an increasing fraction of future fuel needs. What if oil-producing countries took those plans seriously and reduced their investment in new oil capacity, on the assumption that it wouldn't be needed? In some respects, that's exactly what we have in mind. However, if biofuels then failed to materialize in sufficient quantities to fill the gap between oil supply and total fuel demand, or proved to be economically or environmentally unsustainable, then we might inadvertently create precisely the sort of crisis these efforts were intended to avert. It would be easy to dismiss this argument as OPEC-inspired propaganda, if global oil production didn't require enormous ongoing investments to counteract the natural decline rates of producing fields, and if producing-country governments weren't already under internal pressure to spend their oil profits on programs other than reinvesting in future production.

The good news here is that biofuels have reached a scale at which they actually matter in the global oil supply and demand balance. That wasn't the case during the oil crises of the 1970s, and they were still only a marginal factor when oil prices last peaked in 2008. The latest publicly-available issue of the International Energy Agency's Oil Market Report indicates that biofuels now contribute the equivalent of 400,000 barrels per day (bpd) of oil, before including US and Brazilian ethanol volumes that together equate to another 650,000, bringing the global total to just over a million bpd. That might not sound like a large share of a total market of 85 million bpd, but it's enough to influence the global price of oil, which is set at the margin. Doubling or tripling biofuel output would certainly cost oil producers money, if they ignored this factor in their capacity planning.

So far, this is only a problem for oil producers. It becomes a problem for the rest of us when the biofuel plans and targets of consuming countries are based on unproven technology that may not be able to deliver in time, or possibly at all. Unfortunately, that's the position in which we find ourselves. Consider the Renewable Fuel Standard (RFS) enacted by the Congress in 2007 and refined in new regulations issued by the Environmental Protection Agency. Out of the 36 billion gallon per year target for 2022, only around 16 billion gallons is accounted for by corn-based ethanol and first-generation biodiesel--both of which have been amply proven, however much they depend on generous subsidies to remain competitive. 20 billion gallons per year must come from cellulosic ethanol and other advanced biofuels, none of which are in truly commercial production today, in spite of the hype that has been generated by a handful of "demonstration facilities."

One indication of just how unrealistic these targets might be is that EPA was forced to reduce the cellulosic biofuel target it will enforce for 2010 from 100 million gallons to 6.5 million gal.--the equivalent of just over 400 barrels per day of oil--due to lack of supply. And while the agency attributes that shortfall to delays in starting up new facilities using a variety of new technologies, a careful reading of their analysis suggests the problem might be more serious than that. Two firms account for nearly a third of the 694 million gallons of cellulosic biofuel capacity they expect will be in operation by 2014, Cello Energy and Range Fuels. Unfortunately, last year Cello was ordered by a federal court to pay $10 million for defrauding investors concerning its technology claims. Meanwhile blogger Robert Rapier has documented the problems that Range Fuels has experienced in scaling up its process for producing ethanol from gasified biomass. Until both of these firms have demonstrated they can actually do what they claim, at full scale, it's not prudent to bet the ranch on their production forecasts.

Problems such as this are probably just the tip of the iceberg when it comes to scaling up a myriad of new processes for producing motor fuels from non-food biomass, not because it's impossible or because the firms involved don't have sufficient smarts--though one or both of those factors will turn out to apply in at least a few cases--but because it is intrinsically hard. Scientists have been working on cellulosic biofuels and biomass-to-liquids processes for decades, yet the sum total of all that work, up until this point, has only yielded enough fuel production to cover the annual consumption of about 13,000 average American cars. That doesn't mean that companies and investors are foolish to pursue these technologies, or that ExxonMobil is wrong about the potential they apparently see in algae-based fuels, another hot biofuels sector. What it does mean, however, is that when dealing with technologies that can't be made to appear on command and are subject to a number of serious, unresolved technical and logistical challenges, neither consumers nor our governments should base their plans for the future on the assumption they will mostly succeed on schedule.

How realistic is it that the oil-producing countries that control access to the vast majority of the world's oil reserves would be so convinced by our rhetoric concerning biofuels replacing oil, that they will cut back their investments in new capacity? Part of the answer lies in the narrative of Peak Oil that generated headlines when oil prices were spiking a couple of years ago, involving the high decline rates of mature oil fields and the relatively low investment rates of many producing countries. When the government of Venezuela must borrow money from China despite $80 oil, that's one signpost that they might not have enough to reinvest in exploration and production. We can argue about the likely date of a peak in global oil output, but anything that provides governments an excuse to spend less sustaining their oil industries brings that date closer--and that's equally true for a US administration that appears so confident of the success of its biofuels and fuel economy programs that it can allow the timing of the next offshore oil leasing cycle to slip further and further.

Oil is still the lifeblood of our industrial civilization, but it's also a business requiring enormous investments premised on the likelihood of future demand. That doesn't mean we must remain helpless hostages to foreign oil suppliers; fuel efficiency and biofuels are both sensible--even necessary--strategies for us to pursue. But we have an even larger stake in ensuring that the biofuel goals and plans we communicate, not just among ourselves but simultaneously to our oil suppliers, are based on reality. If both we and they are betting on supplies of advanced biofuels that could well fall significantly short of our expectations, then it is we who will suffer the consequences at the gas pump.

EPA's New Biofuel Rules

Yesterday the administration issued an important set of new rules and proposals relating to energy, mainly dealing with expanded biofuel production and the biomass supply chains that must be developed to sustain it, as well as addressing carbon capture and storage (CCS.) There's far more here than I could cover in one posting, so I've chosen to focus on the EPA's finalized Renewable Fuels Standard (RFS) rules, which were first proposed last May and have been the subject of intense study and considerable controversy ever since. While the print edition of the Washington Post characterized these as "A boost for corn-based ethanol" I'm not so sure. In the process of laying out a roadmap for how new corn-based ethanol facilities can contribute to the expansion of biofuel in the US, the EPA effectively froze the output of a large number of older facilities, unless they invest in significant upgrades. It also raised big questions about the future of E85, a blend of 85% ethanol and 15% gasoline that has so far failed to attract much interest from consumers, while suggesting that ethanol might have to share the ultimate 36 billion gallon per year biofuel target for 2022 with large volumes of other, more advanced biofuels.

At the heart of the new biofuel rules, which are designed to implement the goals established by the Energy Independence and Security Act of 2007, is the assessment of lifecycle greenhouse gas emissions from biofuels, including the highly-controversial "indirect land-use impacts" first highlighted in a landmark paper published in Science two years ago and confirmed by subsequent research. Although the EPA's final interpretation of the science has not turned out to be quite the catastrophe that the corn ethanol industry feared--and based on the quote in the Post from the lead author of the relevant research, Dr. Tim Searchinger, might have gone easy on them--it nevertheless constrains the future role of ethanol produced from this source. While clearly stating that facilities producing ethanol from corn starch using natural gas or biofuel for process heat and employing other efficient technologies would qualify for the least-stringent category of renewable fuel, many existing facilities would qualify only under grandfathering that restricts their output to historical levels. That includes newer facilities that started construction by 12/19/07, and essentially all that use coal for heat or dry all their distillers grains byproduct.

In contrast the biodiesel industry, which has been suffering recently, got a shot in the arm with a ruling that qualifies most biodiesel produced from soy oil or waste cooking oil or grease
for the tougher "biomass-based diesel" category, consistent with a 50% reduction in emissions. And the specific RFS quota for 2010 carves out a healthy 1.15 billion gallon target for biodiesel--including retroactive volumes from 2009 that could cause no end of confusion.

Perhaps the most urgent aspect of the requirements for 2010 was the EPA's concession to reality on its cellulosic ethanol quota. The original targets set by Congress called for the use of 100 million gallons of biofuel produced from cellulosic sources this year, but as I've pointed out frequently, bleeding edge technology doesn't just appear on command. The EPA's estimate of how much cellulosic biofuel will actually be available in 2010--and thus mandated for use--is just 6.5 million gallons. And if fuel blenders aren't able to acquire even that much, EPA has provided the alternative of paying $1.56/gallon in penalties, instead. That sounds cheap until you realize that this only pays for an attribute; they still have to buy the gasoline or conventional ethanol on which to apply this Renewable Identification Number, or RIN. Based on current prices, the total cost for such virtual cellulosic ethanol could thus exceed $3.50/gal., compared to around $2.00 for wholesale (untaxed) gasoline.

I confess I didn't make it through the entire 418 page "preamble" to the regulation, but what I found there was a fascinating picture of how much the official view of biofuels has evolved since the Congress set us on this path at the end of 2007. Then, hopes for E85 powering many millions of "flexible fuel vehicles" (FFVs) ran high. Today, reading between the lines, there are hints that EPA might regard E85 as a failed product that may no longer be necessary for pushing biofuel into the market. Their statistics on E85 paint a bleak picture. According to EPA, out of a total retail gasoline market of 138 billion gallons in 2008, E85 accounted for just 12 million gallons. Such low volumes are partially attributable to the fact that there are still only 2,100 retail facilities in the US with an E85 pump, and only 8 million FFVs on the road, out of a US vehicle fleet of 240 million or so. Yet after taking these constraints into account, the EPA calculated that FFV owners bought E85 just 4% of the time. They offer a variety of reasons for this, including concerns about reduced range on the lower-energy fuel, but mainly point to the much higher average price of E85 compared to unleaded regular on an energy-equivalent basis. In other words, consumers are choosing value and maximizing their miles per dollar. So it wouldn't just require a big increase in the number of E85 pumps and FFVs to make E85 successful; the product must be priced a heck of a lot cheaper than it has been, reducing the incentive for dealers to sell what today is a very low-volume product. Catch-22?

How much of a problem this poses for ethanol producers depends on whether the EPA relaxes the 10% limit on ethanol blended into normal gasoline, as the ethanol industry has petitioned them to do, against most auto industry advice. It also depends on how quickly non-ethanol biofuels such as biobutanol and biomass-derived hydrocarbons--gasoline or diesel from algae, bacteria, or gasification--that would be fully compatible with current cars and infrastructure take off. It's worth noting that the new rules explicitly qualify biobutanol from corn starch in the same category of renewable fuel as the best corn ethanol pathways, and leave the door open to qualify these other fuels if they satisfy EPA's emissions framework. The preamble includes one scenario in which such fuels account for nearly as much of the 2022 biofuel target as corn ethanol.

Needless to say, I haven't had time to go through all the intricate details of the EPA's new RFS regulations. Their ultimate impact may depend as much on some of those nuances as on the big-picture elements I spotted in my cursory review, and I can easily picture a host of law firm, trade association, and energy company personnel poring over them for the next couple of weeks. Still, although what I saw was hardly the death-knell for the existing corn ethanol industry that some might have expected or hoped for, in the process of codifying the means for implementing the intent of Congress in its 2007 legislation the agency has laid out a vision of a much more diverse and competitive biofuel industry than the architects of that bill could have guessed just a couple of years ago.

The Dependence of Renewables on Government

As I was catching up on a large backlog of articles from December, I ran across one from the New York Times that dovetailed with my thoughts about trends to watch this year. It concerned the difficulties being experienced by US green energy companies, particularly relative to competitors operating in countries with more generous subsidies for renewable energy manufacturing and deployment. Instead of becoming progressively less dependent on help from the government, many of these firms are even more reliant on aid as a result of the financial crisis, which disrupted their access to credit and capital from the market. This is a worrying development, because it tends to shift the focus of management away from the attainment of operational excellence and profitable innovation, and toward the task of lining up a steady pipeline of government grants and tax credits. This might be necessary for the moment, but it undermines long-term competitiveness.

As I read the article, I was struck by some of the comments from industry executives, which included a complaint from the US arm of a Spanish wind turbine manufacturer about the lack of necessary legislative support for the industry, and this astonishing remark from a director of the Pew Charitable Trusts' Environment Group, "But if we don't have the policies in place to make investment here a sure thing, then we could potentially lose to other countries." I wasn't aware that it has ever been the proper role of government to ensure that any business is a "sure thing." And then there was a comment from the head of the Solar Energy Industries Association to the effect that the US would have a bigger solar sector if our incentives were more like those in China, where "80 percent of the entire cost of a factory and worker training is paid for by the government." No doubt.

There's something deeply corrosive about such attitudes, and they put anyone investing in renewable energy in a difficult position. Now, there's a strong argument that some level of government support is necessary to help renewable energy compete with traditional energy sources that operate in a market that doesn't account for significant externalities such as environmental and energy-security effects. That's one of the main arguments for establishing a cap & trade system for greenhouse gases, or a carbon tax. Yet we now see government not only helping to level the playing field by means of renewable energy tax credits for investment or production and mandates requiring a set percentage of energy to come from renewable sources, but also playing the role of venture capitalist and banker. These are roles for which government is ill-equipped, not least because the necessary Darwinian feedback mechanisms don't exist. A VC that consistently invests in impractical ideas or start-up firms with incompetent management will eventually run out of capital and close its doors; a government agency with a similarly poor track record will continue to be funded, and its employees will enjoy their customary job security.

Of course, renewable energy firms aren't the only ones to have enjoyed generous government support as a result of the stimulus and other measures put in place to address the recession and financial crisis. The key difference is that while the government has poured billions of dollars into banks and carmakers, no one doubts that well-run banks can function without government aid and that it's possible to make and sell cars at a profit in the US--Ford and several foreign carmakers with US factories prove that every day. Unfortunately, we don't know that it's possible to produce renewable energy or the hardware it requires without government support for users, producers, developers, manufacturers, or all of the above. That acts as a deterrent to established energy companies that have, through painful experience, acquired a jaundiced view of the long-term dependability of such support. Anyone questioning that view need only ask someone in the US biodiesel industry, which just lost its $1-per-gallon subsidy and now faces oblivion.

As necessary as the continued expansion of renewable energy sources is for our long-term transition away from fossil fuels and for reducing greenhouse gas emissions, I worry that the green energy sector has become caught up in an industrial policy fad that has little to do with either emissions or energy security, and that hinges on exaggerated expectations of cleantech as the next hugely-profitable global industry and massive provider of stable, high-income employment. Yet if that profitability is merely the result of a government-mediated transfer of wealth from consumers and taxpayers to a group of fortunate firms, rather than of improvements in productivity or pervasive new consumer values, then neither those profits nor the jobs that go with them will be sustainable. And sooner or later a government less committed to these subsidies, or more focused on reducing unmanageable deficits, will take office and the gravy train will end quite suddenly.

I'm not advocating abandoning the renewable energy sector to the tender mercies of the market overnight, or ceding this important sector entirely to non-US firms, nor am I ignoring the lessons of the last two years about markets. However, I'm also recalling the lessons of the Tech Bubble. At least until we have cap & trade or a carbon tax, some level of support will be necessary. However, it should be uniform, picking no winners and treating all low-emission BTUs and kWhs equally. It should also phase out on a reasonable but firmly-established timetable, so that companies know they must become truly competitive. And instead of extending the Treasury's renewable energy grant program beyond its current October 2011 deadline, the government should focus on enabling the restoration of the flows of private capital for which the grants are filling in--and inadvertently stifling in the meantime. Nor should we seek to emulate the foolishness of Germany's extravagantly-generous feed-in tariffs for solar power, which created a market for German manufacturers that is now being lost to foreign competitors with lower costs.

Our goal ought to be a renewable energy sector that can stand on its own, rather than one that, like the US ethanol industry, has been tethered to federal life-support since the precursor of today's Volumetric Excise Tax Credit was established in 1978. The result would likely yield fewer US renewable energy companies, but also stronger ones better able to survive the turbulent energy transition that lies ahead.

To Bury CO2 or Recycle It

While not the most powerful of the greenhouse gases produced by humanity, CO2 is certainly the most prevalent, if you don't count water vapor. To a very large extent, addressing climate change depends on three main strategies for dealing with the excess CO2 our activities emit: avoiding its creation by switching to other energy sources, such as renewables or nuclear power; capturing and storing it in trees, other vegetation or underground; and recycling it into useful fuels and products. Most of the work to date on the third option has focused on biofuels, which employ photosynthesis to convert CO2 into vegetable oils or fermentable sugars. However, another strategy now attracting interest involves non-photosynthetic pathways for turning CO2 back into hydrocarbons. If practical, this approach has much to recommend it, though the laws of Thermodynamics suggest it will always require more energy than the resulting fuels can deliver when used. A recent conversation with the CEO and CTO of Carbon Sciences, Inc., a start-up pursuing CO2-to-fuel technology, shed some interesting light on the subject.

The magnitude of global emissions of CO2 makes managing them a daunting prospect. Carbon Capture and Sequestration (CCS), which creates an artificial carbon cycle, has garnered much political and financial support in the last year, though it is still in the development stage and faces significant hurdles. CO2-to-fuel conversion offers another interesting option, because it could either work in parallel to CCS to enhance the reduction of emissions from fossil-fuel power plants and other stationary sources, or in competition with sequestration as an outlet for the captured CO2 from such facilities. If the resulting synthetic fuel displaced a like quantity of petroleum, natural gas or coal, the effect on the atmosphere would be largely equivalent to CCS and likely better than conventional biofuels, which appear to result in substantial non-combustion releases of CO2 and other GHGs. Fuels produced from recycled CO2 could finesse many of the NUMBY concerns about CCS while beating corn ethanol and some biodiesel on overall "green-ness" and compatibility with existing fuel infrastructure and transportation fleets. So why aren't we already doing this?

The answer is simple. When we burn the carbon compounds found in fossil fuels, they produce CO2 and a specific quantity of energy that is unique for each molecule. Turning CO2 back into the original fuel compound requires the input of that same amount of energy--that's from the First Law of Thermodynamics--and in practice a bit more, thanks to the Second Law. Chemists have known for a long time that CO2 could be converted into fuel and chemicals, but outside the laboratory this wasn't regarded as useful, because it inherently consumed more energy than it could return. Biofuels get caught up in this same conundrum, though in their case much of the energy required is supplied by the sun, rather than from other fuels and energy inputs we must produce. So I was quite intrigued when I received an email inviting a conversation with the CEO of Carbon Sciences, the start-up I mentioned earlier, which claims to have solved this problem using "biocatalysts", nanotechnology, and a unique multi-step process.

The company's website includes animation showing how this would work, though from my perspective it omits the key factor: where does the energy come from to drive the process? Catalysts and enzymes can reduce the threshold for the reaction to take place and improve its speed--the reaction kinetics, in engineering terms--so that what would otherwise take nature years or millennia to produce can be accomplished in a commercially-practical interval. However, catalysts can't alter the basic energy requirement of the reaction. What is the source of that energy?

My discussion with Carbon Sciences' CEO Byron Elton and Chief Technology Officer Naveed Aslam, Ph.D. assuaged my immediate concern that this was yet another perpetual motion machine dressed up with technical jargon and fancy graphics. They struck me as pragmatic and realistic about the challenges they face, though with the customary optimism required for entrepreneurial risk-taking. Dr. Aslam clarified that their process for converting CO2 to methanol for later conversion into hydrocarbons or petrochemicals involves a hydrogen-and-energy carrier molecule that must be regenerated from a "sacrificial substrate." That substrate effectively provides the energy required for uplifting the CO2, which is at a very low energy state, and acts as the fuel source for the whole sequence. The value of the entire CO2-to-fuel process in energy, economic and emissions terms thus hinges on the characteristics, cost and supply potential of this energy-donating material.

The process developed by Carbon Sciences can apparently use a variety of substances for this purpose, which is fortunate. Initial laboratory tests apparently involved glucose, a commercially-available sugar, but the company is now using another, undisclosed feedstock because of their concerns that glucose supplies couldn't keep up with a large-scale CO2-to-fuel industry without affecting food prices. Dr. Aslam indicated that in the long run they would likely use a mineral-based compound that was widely available. Without knowing the specific chemical involved, it's impossible to assess the overall energy balance, lifecycle emissions, or usefulness of the process, but I at least came away with a sense that Mr. Elton and Dr. Aslam understand the constraints involved very well.

And while the global supply of CO2 certainly looks large enough, it has to be provided in the right form: highly concentrated and free of contaminants that could degrade their catalyst or retard the reaction rate. That is a very different requirement from biofuels that extract their CO2 from the air, and it would put CO2-to-fuel in direct competition with carbon sequestration and enhanced oil recovery, which also effectively produces incremental fuel from CO2. It's not obvious to me which technology will advance the fastest, offer the largest overall CO2 reduction, or the most attractive economics. Markets are usually the best way to sort that out, if given the right signals.

Nor are Carbon Sciences the only ones working on this problem. A team at Sandia Laboratory has been developing a "Sunshine to Petrol" system using CO2 and concentrated sunlight, while the new Advanced Research Projects Agency-Energy (ARPA-e) is looking into a variety of novel ways to convert CO2 into fuel without photosynthesis.

It's important to note that Carbon Sciences' conversion technology is still at an early phase of development--lab-scale, rather than demonstration-scale. "Milliliters per day" won't solve our energy or emissions problems, but if this can be scaled up to many thousands of barrels per day with a cheap and readily-available source of chemical energy and a suitable supply of CO2, it has the potential to deliver fuels that are 100% compatible with our current infrastructure and vehicle fleets. That's a big advantage, and it would certainly explain the interest that Carbon Sciences has apparently been getting from large energy firms. I was told that Carbon Sciences hopes to develop a commercially-attractive package by the third quarter of 2010 and are exploring a "strategic partnership" to take the process--and the company--to the next phase. They have also applied for DOE technology funding under the category of "Innovative Concepts for Beneficial Uses of CO2". I will be watching their progress with great interest.

Since I don't expect to post again until next week, I'd like to wish my readers a Merry Christmas and happy Boxing Day.

I also have a housekeeping matter to bring to your attention. Haloscan, the comment system I have used since 2004, is being discontinued. I must decide by Monday whether to switch to Haloscan's successor, Echo, use Blogger's comment feature, or find another comment platform. Although I will do my best to ensure the migration of the many thousands of comments you've left here, I can't guarantee it. If there are any you'd like to refer to again, I encourage you to copy them to another medium.

Biodiesel from Sugar Cane

I was intrigued by a story in yesterday's MIT Technology Today concerning a company that is applying biotechnology to convert Brazilian sugar cane to diesel, instead of ethanol. Amyris apparently intends to buy existing mills and convert them to produce hydrocarbons instead of alcohol. It has started up a demonstration-scale facility for this process near São Paolo. With so many other firms pursuing next-generation biofuels from cellulose or algae, tinkering with the most efficient current means of producing ethanol might seem an odd thing to do, but that efficiency is precisely the reason for choosing this pathway. Amyris sees an opportunity to produce a much better transportation fuel than ethanol at a cost low enough to compete with petroleum products, even if oil prices don't return to the levels we saw last year.

Energy efficiency and high energy returns on energy invested are essential to producing competitive biofuels in a way that avoids the trap the US corn ethanol industry fell into in 2008. Ethanol producers didn't benefit nearly as much from last year's high oil prices as they--and their investors--expected, because the rising cost of the large energy inputs required to make corn ethanol rose in tandem with the price of the fuels it was supposed to displace. This is an example of what some analysts call the Law of Receding Horizons. After factoring in the cost of natural gas-based nitrogen fertilizer, diesel-powered cultivation and harvesting, and gas-fueled distillation, the relatively small energy surplus created wasn't worth enough to make the operation profitable, even at the highest oil price in history.

Amyris's concept breaks out of this trap in several ways. First, by starting with sugar cane in the tropics, it avoids the large energy inputs associated with crop fertilizer. The article points out two other key benefits: Brazilian sugar/ethanol mills are net energy producers, not consumers, by virtue of capitalizing on the energy content of the waste left over from the grinding and fermentation process. In addition, while the ethanol produced by traditional fermentation is water soluble, requiring a lot of energy to separate the two, the molecules produced by the company's tailored microbes are not; the diesel precursors separate from water at little additional energy penalty.

The advantages of this approach continue after production, because of the properties of the fuel. Although it is possible to build engines that capitalize on ethanol's high octane and other properties to deliver fuel economy that nearly matches gasoline, the vast majority of the ethanol produced today will be burned either as a 10% blend in conventional cars or as a higher mix in flexible-fuel vehicles that must still be able to operate reliably on gasoline. That precludes the modifications that would compensate for ethanol's 33% lower energy content, compared to petroleum gasoline. Producing biodiesel instead of ethanol puts the fuel into engines that can take full advantage of its environmental properties, while yielding a roughly 30% fuel efficiency gain versus gasoline--and thus roughly twice the fuel economy of ethanol. Amyris claims that its biodiesel would be fully compatible with petroleum diesel, creating a significant advantage over biodiesel produced from soybeans, canola (rapeseed), and other vegetable oils. These so-called FAME biodiesels can normally only be used in blends of less than 5-10% in petro-diesel, to protect the sensitive fuel injection mechanisms of modern diesel engines.

There's no free lunch, of course. Part of diesel's advantage comes from its higher energy content, compared to either gasoline or ethanol, and the energy in the quantity of cane that would produce 100 gallons of ethanol could only yield around 60 gallons of diesel. However, when you burn these fuels in real cars--such as the VW Jetta that is available in both gasoline and diesel versions--the ethanol would take you around 1,650 miles, while the smaller quantity of diesel would be good for nearly 2,000 miles. That 20% improvement results from the higher efficiency of compression ignition engines over spark ignition.

This idea looks clever for another reason. Brazil has become a large exporter of ethanol, but the world's biggest ethanol market is protected by an import tariff designed mainly to recover the $0.45/gal. US ethanol blenders' credit. Meanwhile, the EU, which uses little ethanol, but where half of all new cars run on diesel, has just imposed an anti-dumping tariff on biodiesel imported from the US. That creates an opening for Brazilian biodiesel produced from this process to compete into a market that can't get enough diesel fuel. All that remains is for Amyris to demonstrate that the additional capital and operating costs associated with converting ethanol mills to produce diesel are small enough to preserve the big advantage they start with by choosing the world's most efficient biofuel source.

The Diesel Blues

Except for truckers and the few Americans who own diesel automobiles, most of us pay little attention to the price of diesel fuel at the pump. Anyone who needed to buy heating oil this winter has noticed, however. Because the latter comes from the same part of the barrel as diesel and often differs only in the color of dye added to differentiate it from on-road fuels, heating oil has gotten caught up in the same factors that have driven diesel prices to record heights. This year the combination of normal seasonal patterns, long-term global demand trends, and a 25% spike in oil prices since early December have pushed these "middle distillates" to the brink of $4.00 per gallon.

While the average price of retail gasoline across the US is $0.66/gallon higher than the same week last year, diesel fuel has gone up by $1.13. The dramatic increase in the diesel price bears some of the blame for the recent spike in food-price inflation, compounding the impact of ethanol demand on corn prices. Residential heating oil has followed a similar pattern, currently selling at an average of $1.18/gal. more than a year ago. The question I hear frequently is why a fuel that seems easier to make than gasoline and historically sold at a discount to it should suddenly cost so much more, nearly 60 cents more, right now. The answer requires dispelling a myth and taking one of the biggest global fuel trends into account, bigger even than the rise of biofuels, at least for now.

Start with the notion that diesel is cheaper to make than gasoline. That was once true, when its production was mostly a matter of distilling out the middle fraction of light, sweet crude oils--hence "middle distillates"--and putting them in a tank for distribution. Much has changed since then, including big shifts in average refinery crude slates toward heavier, higher-sulfur crude oils and the promulgation of environmental regulations progressively restricting the sulfur content of diesel sold for on-road use. When I worked at Texaco's Los Angeles Plant (now owned by Tesoro) in the late 1970s, the diesel fuel we produced was permitted to contain up to 0.5% sulfur. After successive reductions, the implementation of the 15 parts per million diesel sulfur specification that went into effect in 2006 has removed 99.7% of the sulfur in diesel fuel, at an exponentially-increasing cost per ton removed, the closer the standard got to zero. As a result of these shifts, big parts of the diesel pool are now refined as intensively as much of the gasoline pool.

Global trends also strongly affect the price we pay for diesel and heating oil. At 20%, compared to gasoline's 45%, diesel's share of total US petroleum consumption is much lower than elsewhere. Globally, diesel outsells gasoline, 27% versus 25%, and its lead looks set to increase. Diesel consumption is closely aligned with economic growth, so the development of Asia has boosted diesel demand much more than gasoline demand, so far. In Europe the higher efficiency of diesel automobiles is a key element of the EU's greenhouse gas reduction strategy, and diesel models outsell their petrol competitors. Because most of Europe's oil refineries were built to yield a similar product slate to ours, this shift has produced a growing surplus of gasoline--a big source of our gasoline imports--and a distillate deficit that the EU's expanding biodiesel production can't begin to close. So when the US imports diesel and heating oil to meet seasonal demand, we are competing directly with Europe and Asia.

The global diesel demand trends and higher production costs described above aren't temporary factors, either, and they ride along on top of the steady rise we've seen in crude oil costs. There's no reason to expect that diesel will revert to being cheaper than regular gasoline, or selling at parity with it as it did in the late 1990s. If anything, the average premium over unleaded regular of about 13 cents per gallon that we've experienced since 2006 is likely to expand further. That's bad news for food prices, and it could make the introduction of new diesel cars here a tougher sell, although on a miles-per-dollar basis, diesel still looks cheaper than gas.

Sharing the Forecourt

A comment in an article on Brazilian ethanol in today's Financial Times got me thinking about how ethanol will move into the US retail marketplace, as it outgrows its current role as a gasoline blending component. The FT cited Ricardo Leiman of Noble Group, who remarked, "There is a conflict of interest between [fossil fuel] distributors and the newcomers." That's certainly the conventional wisdom, with E-85 pumps at major oil company stations as rare as hen's teeth. But I wonder if that gives sufficient credit to the marketing segments of these large enterprises, which have pursued profits in many other areas not directly related to the output of their own refineries. It also ignores the structure of the retail gasoline market, which could be quite hospitable to ethanol, once it reaches critical mass.

First, consider the composition of the retail motor fuels business in the US. Of the 169,000 retail fuel facilities across the nation, fewer than 10% are actually owned and operated by integrated oil companies such as ExxonMobil, Shell, ConocoPhillips or Chevron. The rest are run by retailers with varying degrees of independence. Some own their own facility, while others lease it from the company. Many receive their supplies through a distributor, rather than directly from the company. As a result, even if all of the major oil companies decided that E-85, biodiesel or some other alternative fuel represented an unacceptable threat to the petroleum products they produce, the number of stations at which they could enforce a ban on E-85 is only a small fraction of the total. For the vast majority of service stations, the question of whether to add a pump to sell E-85 or biodiesel isn't determined by corporate policy, but by the economics for the station owner.

Gasoline retailing is not a high-margin business. That's why there are so many convenience stores and co-branded food outlets, both of which offer much higher unit margins than for fuel. Total potential E-85 sales in a given area would be a function of the local flexible fuel vehicle (FFV) population and the number of other E-85 outlets in the same market. FFVs currently make up only 2% of the US car population, and until their numbers grow substantially, E-85 will be a low-volume business for most retailers. That combination of low margins on low volumes limits the return on the investment required to convert a station to sell E-85, offset by any available government incentives. And unless the owner is willing to add an additional tank, he must sacrifice the revenue on another grade of fuel to make this switch. The primary obstacles for introducing E-85 at most retail sites are strictly financial, and only time and the growth of the FFV fleet will overcome them.

Viewed from this perspective, the major oil companies are in a much better position than individual retailers to introduce E-85 selectively into a new market. Not only do they have the financial resources to absorb the costs of conversion, but they also possess sophisticated software that would allow them to determine the best sites to convert, and how to phase alternative fuel into the market, in synch with the expanding FFV fleet. Nor do I think the marketing groups of these companies will resist this, if it provides an opportunity to enhance both profitability and brand image.

Many people forget that the integrated oil companies are no longer the monolithic, command-and-control organizations they once were. Their marketing divisions are independent profit centers charged with earning an attractive return on their employed capital. Many of the executives responsible for these units have more in common with the people running other retail businesses than with their colleagues who run the refining or exploration and production segments. When I tried to get Texaco's marketing department interested in installing electric vehicle recharging facilities at service stations in Southern California in the late 1990s, their main worry was how they could make money on them, not their effect on gasoline sales. What counts is traffic, and if E-85 will bring them traffic, they will buy in. The best way to make sure that E-85 spreads quickly is to ensure that the major oil companies can take advantage of the same incentives for E-85 as independent retailers. Alternative fuel advocates should view major oil company marketing groups as natural partners, rather than potential opponents.

Energy Outlook will observe the US Independence Day holiday tomorrow and resume new postings on July 5.