Perspectives: Import Ethanol, Not Oil


_DIVPerspectives: Import Ethanol, Not Oil

LESTER B. LAVE

W. MICHAEL GRIFFIN

Import Ethanol, Not Oil

To paraphrase Mark Twain, people talk a lot of reducing U.S. dependence on imported oil, but they don’t do much about it. Rather than continuing to talk the talk, the United States has a unique window of opportunity to walk the walk. The $2-plus per gallon gasoline prices and our Middle East wars have made the public and Congress acutely aware of the politics of oil and its effects on our national security. With every additional gallon of gasoline and barrel of oil that the nation imports, the situation becomes worse.

Our analysis shows that the United States can have a gasoline substitute at an attractive price with little infrastructure investment and no change to our current fleet of cars and light trucks. By 2016, the United States could produce and import roughly 30 billion gallons of ethanol from corn, sugar cane, and grasses and trees, lowering gasoline use dramatically. Furthermore, the United States could encourage the European Union, Japan, and other rich nations to raise their ethanol production at home and in developing nations by a similar amount. Such increased production, together with improvements in vehicle fuel economy, would result in a notable decrease in petroleum demand, with positive implications for oil prices and Middle Eastern policy. This move would have the added benefit of supporting sustainable Third World development and reducing problems of global warming, because burning ethanol can result in no net carbon dioxide emissions into the atmosphere.

Committing to ethanol

The growing U.S. appetite for petroleum, together with demand growth in China, India, and the rest of the world, has pushed prices to new highs. The United States uses over 20 million barrels of petroleum per day, of which 58% is imported. Prices rose to almost $70 per barrel (bbl) in August 2005. The petroleum futures market is betting that the price will be $67 per bbl in December 2006 and remain well above $60 per bbl through 2012, presumably rising after that. Feeding our oil habit results in oil spills, air and water pollution, large quantities of emissions of greenhouse gases, and increased reliance on politically unstable regions of the world.

Although no one can predict the future with confidence, increasing worldwide petroleum demand will push prices higher over the next few decades. There is little public appetite for high gasoline taxes to decrease consumption or for forcing greater fuel economy on the U.S. light-duty fleet, but there is general recognition that we cannot continue to stick our heads in the sand.

Sensible policy requires that the United States both reduce the amount of energy used per vehicle-mile and substitute some other fuel or fuels for gasoline. The Bush administration plans to accomplish the latter, eventually, with hydrogen-powered vehicles. We are skeptical. The plans envisioned by even optimistic hydrogen proponents would, for decades to come, leave the nation paying ever-higher petroleum prices, continuing to damage the environment, and constraining foreign and defense policies to protect petroleum imports. Putting all our eggs in the hydrogen basket would require large investments and commit us to greater imports, higher prices, and greater dependence on the Persian Gulf until (and if) an attractive technology was developed and widely deployed.

A better alternative is for the nation to increase its use of ethanol as a fuel. In his 2006 State of the Union address, President Bush gave some support to ethanol, although he continued to place heavy emphasis on the promise of hydrogen. The president declared that the government would fund additional research in cutting-edge methods of producing ethanol from corn and cellulosic materials and vowed that his goal was to make ethanol “practical and competitive within six years.”

Unfortunately, Congress traditionally has viewed ethanol as a subsidy to corn growers rather than as a serious way to lower oil dependence. The Energy Policy Act of 2005 requires an increasing volume of renewable transportation fuel to be used each year, starting in 2006 and ultimately rising to 7.5 billion gallons of ethanol in 2012. Although this increase would raise the incomes of the corn producers and millers, it would not even keep up with the increases in the nation’s gasoline demand and so would not reduce crude oil imports. Gasoline use grows at a little more than 1% per year, about 1.4 billion gallons per year. By 2012, the United States would need to be using 13 billion gallons of ethanol merely to keep gasoline use constant. To reduce oil imports, the nation must achieve major increases in fuel economy and ethanol use.

SENSIBLE POLICY REQUIRES THAT THE UNITED STATES BOTH REDUCE THE AMOUNT OF ENERGY USED PER VEHICLE-MILE AND SUBSTITUTE SOME OTHER FUEL OR FUELS FOR GASOLINE.

The path to this goal starts today: The nation should start moving, as rapidly as ethanol supplies become available, to the widespread use of E20: a mixture of 20% ethanol and 80% gasoline. Every car built in the past three decades can use E10 and likely E20 without modification. For 2004, roughly 30 billion gallons of ethanol would have been needed to have the entire fuel stock be E20. Unfortunately, ethanol production and imports are only 13% of that amount today.

If the ethanol were available, the nation could substitute perhaps 80 billion gallons of ethanol for gasoline by 2016 by increasing the 4 million “flexible-fueled” vehicles that can use a mixture containing anywhere from 0 to 85% ethanol. If all new vehicles were flexible-fueled (for a cost of less than $200 per vehicle), the market for ethanol would grow by 8 billion gallons per year.

The primary barrier to producing and importing 30 to 80 billion gallons of ethanol in 2016 is the reluctance of the public and Congress to commit to an ethanol future. Thirty billion gallons of ethanol is more than the nation’s corn growers can provide. Cellulosic ethanol is an appealing approach to the problem, one that we have previously written about. Even with all of its potential, development has been painfully slow. The construction of the first commercially operating U.S. plant is 3 to 5 years away. Learning from that plant, designing a second generation and learning from that, and then building a commercial fleet of plants with U.S. technology will take a decade.

Looking south

But there is a promising shortcut that permits immediate access to substantial amounts of ethanol. The United States could address its oil use now, while the cellulosic ethanol industry develops.

We recently traveled to Brazil and saw a developing industry producing ethanol as a motor vehicle fuel. The Brazilians flock to this fuel because it is cheaper than gasoline. Current law requires that the gasoline sold be E25: 25% ethanol blended with 75% gasoline. Brazilians are lining up to buy newly developed flexible-fueled vehicles that can burn fuels ranging from E20 to E100 (actually, the hydrated ethanol contains 95% ethanol and 5% water). With such a flexible vehicle, a driver can buy whatever fuel is cheapest.

Brazil, together with some Caribbean nations, is exporting some 200 million gallons of ethanol to the United States annually. But the United States doesn’t make it easy. Brazil pays a 2.5% duty and doesn’t receive the 51 cent per gallon excise tax rebate that U.S. producers receive. The Caribbean nations are subject to a quota. Removing these trade barriers would make imported ethanol more attractive. Such a policy would not penalize U.S. farmer or producers, because total ethanol needs can accommodate all domestic production and imports. Still, the Bush administration remains opposed to eliminating or reducing the duty.

Even so, Brazil is expanding its domestic and export markets for ethanol. Currently Brazil has 370 sugar mills and distilleries, which are forecasted to produce over 4 billion gallons of ethanol this year. An additional 40 mills and distilleries are under construction, with the goal of essentially ending gasoline imports and exporting perhaps 15 billion gallons per year in a decade. According to some estimates, efficient Brazilian producers now make ethanol at a cost of roughly 72 cents per gallon. Our examination of the sugar cane harvesting and mills convinced us that Brazil could lower production costs substantially below that level.

In addition, the Brazilians are thinking seriously about even greater ethanol production from sugar cane and agricultural wastes. One university study is examining how Brazil could replace 10% of the world’s gasoline with ethanol (25 to 30 billion gallons) without clearing more rainforests and by doing less harm to the environment than current agriculture. Brazil is also making notable progress in producing ethanol from bagasse, the fibrous residual left after all the sugar is extracted from sugar cane. At least one pilot plant is making bagasse-derived ethanol, and there are plans for a full-scale plant.

The time is right for the United States to adopt policies aimed at expanding ethanol production and use. U.S. corn growers claim that they could possibly produce 15 billion gallons in a decade. Brazil seems ready and able to export another 15 billion gallons at $1 per gallon. At the same time, we should pursue technologies to produce ethanol from biomass at ever-lower costs. Some proponents claim that cellulosic ethanol could ultimately replace all gasoline use in the United States.

The technology for making ethanol from cellulose (grasses and trees) being developed in Brazil, the United States, and Canada, will enable many nations to grow energy crops to produce ethanol. This could be a significant cash crop for developing nations. Growing energy crops around the world has the potential for displacing perhaps half of the world’s gasoline demand. The result of cellulsoic ethanol development would be good for U.S. agriculture, by expanding available cash crops; for agricultural soils, by reducing fertilizer and pesticide use and increasing soil fertility; and for the ecology more generally, by providing habitat. The same would be true for farms in many nations, both rich and developing.

The key point is that U.S. actions to expand both domestic corn production and the importation of ethanol from Brazil would serve to develop the necessary infrastructure and incentives to bring cellulsoic ethanol to reality more rapidly. Thus, we see no downside risk to eliminating ethanol tariffs and promoting imports as the United States expands its own ethanol production. This strategy would complement policies to increase vehicle fuel economy. We see no losers—with the exception of OPEC—from this policy, and tremendous gain for the United States.


Lester B. Lave () is the James H. Higgins Professor of Economics and University Professor at the Tepper School of Business at Carnegie Mellon University in Pittsburgh, Pennsylvania. W. Michael Griffin is the executive director of the Green Design Institute at Carnegie Mellon University.