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Memorial Day message: corn ethanol tax credit is bad for your pocket book

Nathanael Greene

Posted May 28, 2010 in Moving Beyond Oil, Solving Global Warming

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Heading into Memorial Day weekend and the traditional beginning of the driving season, my colleague Sasha Lyutse and I did a little digging into a recent study of corn ethanol policies and what would happen if the main corn ethanol tax credit was allowed to expire. The headline results from our reading of this study are that extending the tax credits will result in higher gasoline costs for drivers to the tune of a few cents per gallon and a net cost to tax payers and drivers of $3.5 billion per year through 2015.

Earlier this month, the Food and Agricultural Policy Research Institute (FAPRI) at the University of Missouri released an addendum to their March projections for agricultural and biofuels markets. Adding on to earlier projections of what would happen to biofuels production and prices under different policy scenarios, the update projects what would happen to the costs of compliance with biofuels mandates if tax credits like the Volumetric Ethanol Excise Tax Credit (VEETC) and the import tariff on foreign-made ethanol are allowed to expire at year-end.  

[As quick background, the Renewable Fuel Standard (RFS) established in 2005 and expanded by the Energy Security and Independence Act of 2007 mandates that specific quantities of ethanol be blended into U.S. transportation fuels every year. The federal government also provides blenders and marketers of fuel a $0.45 VEETC for every gallon of ethanol blended with gasoline—paying oil companies to comply with RFS mandates—and imposes a $0.54 tax on imported ethanol to protect domestic producers against foreign competition.]

To demonstrate compliance with the law, oil companies must surrender Renewable Identification Numbers or “RINs” in amounts equivalent to their share of the RFS mandate.  The price of RINs reflects the difference between the ethanol price that is required to keep ethanol plants running and the market value of the ethanol plus the $0.45 tax credit. If the VEETC is extended, over the next five years, oil companies will be required to buy 69 billion gallons of conventional corn ethanol and tax payers will give them more than $31 billion in subsidies to do so. Over that same period, FAPRI estimates that oil companies will have an additional $5.4 billion in RFS compliance costs, which they will likely pass on to consumers. The total cost of extending the VEETC and import tariff with the RFS for five years is therefore roughly $36.5 billion dollars, or $7.3 billion per year between 2011 and 2015.

What happens if the VEETC and import tariff are allowed to expire?  Firstly, oil companies still purchase and blend the mandated number of gallons of corn ethanol. (What they don’t do is consume just a few billion gallons more of ethanol beyond the mandate at huge expense to taxpayers, a key finding of FAPRI’s earlier report which I discuss here). Compliance costs for oil companies increase to roughly $19 billion over the 5-year period, as the RFS mandate becomes more binding (meaning that market demand for corn ethanol in the absence of the mandate would decrease) and RIN prices increase as a result. But absent hugely expensive VEETC subsidies, total costs drop to roughly $17.4 billion or $3.8 billion per year—a savings of a whopping $3.5 billion per year on average over the 5 years.  

Corn Ethanol

VEETC & Tariff Extended

 VEETC & Tariff Expired

Total Cost 2011-2015

 $                 36,456,000,000

 $                 19,020,000,000

Cost per year

 $                    7,291,200,000

 $                   3,804,000,000

Difference per year

 

 $                   3,487,200,000

Total difference

 

 $                 17,436,000,000

 

So how does this impact consumers of all this corn ethanol—i.e. American drivers?  Under the current VEETC, oil companies are paid $0.45 per gallon of ethanol they blend into gasoline. Depending on the price of ethanol relative to the price of gasoline—which affects the blending margin for oil companies—oil companies are able to pocket more or less of this tax credit and pass some of that value through to drivers.  If that blending margin is negative (meaning ethanol prices are higher than gasoline prices), we can assume that ethanol producers receive some part of the VEETC. Based on 2009 prices, between 20%-30% of VEETC value likely went to ethanol producers, or roughly $0.09-$0.13 cents per gallon. The remainder was kept by the oil companies, bumping up their blend margins. Assuming that about half of that value got passed on to drivers in the price of E10 gasoline (a blend of 10 percent ethanol and 90 percent gasoline), drivers saw a small price benefit per gallon of roughly $0.015-$0.018 cents. However, because the mileage of gasoline blended with ethanol is approximately 2-3% lower than regular gasoline (ethanol blended gasoline has a lower British Thermal Units (BTU) content than all hydrocarbon gasoline), any such benefit must be compared to the costs drivers incur from having to buy more E10 gasoline overall. When this “BTU penalty” is taken into account, we find that the average driver in 2009 saw no benefit at all and was actually penalized $0.07-$0.08 cents per gallon.

Based on FAPRI’s modeling, the average hit to drivers over the period 2011-2015 will be approximately $0.12 cents per gallon.

VEETC & Tariff Extended

Corn Ethanol $/gal

Corn Ethanol $/gal net VEETC

Gasoline $/gal

Blend Margin

RIN $/gal

Net Margin

Estimated Gross Driver Benefit per Gallon

Estimated Driver Benefit Per Gallon E10

Retail gasoline $/gal

Estimated Consumer BTU Penalty per E10 gallon

Net Driver Impact

Average Driver Impact $/gal

2011

1.84

1.50

2.25

0.75

0.03

0.7175

0.359

0.036

2.88

-0.072

-0.108

 

2012

1.88

1.54

2.36

0.82

0.04

0.7775

0.389

0.039

3.00

-0.075

-0.114

 

2013

1.91

1.57

2.43

0.86

0.07

0.7875

0.394

0.039

3.08

-0.077

-0.116

 

2014

1.96

1.62

2.54

0.92

0.11

0.8075

0.404

0.040

3.19

-0.080

-0.120

 

2015

1.99

1.65

2.63

0.98

0.13

0.8475

0.424

0.042

3.3

-0.083

-0.125

 $   (0.12)

 

Now let’s see what happens if the VEETC and import tariff are allowed to expire. As we saw earlier, oil company compliance costs increase as RIN prices rise. At the same time, oil company blend margins are no longer beefed up by the tax credit. But according to FAPRI, corn ethanol values drop 8% on average from 2011 to 2015 without the VEETC (though their projections still show corn ethanol producers making a pretty healthy net operating returns). Lower priced ethanol means that oil companies can comply with their mandates and still pass on some portion of any positive blending margin to drivers. Assuming they pass on one-half of their net margins (factoring in RIN costs), and accounting for the BTU penalty, drivers remain in the red with a net cost of roughly $0.10 cents per gallon on average over the period, but are just slightly better off than under the VEETC.

VEETC & Tariff Expire

Corn Ethanol $/gal

Gasoline $/gal

Blend Margin

RIN $/gal

Net Margin

Estimated Gross Driver Benefit per Gallon

Estimated Driver Benefit Per Gallon E10

Retail gasoline  $/gal

Estimated Consumer BTU Penalty per E10 gallon

Net Driver Impact

Average Driver Impact $/gal

2011

1.65

2.26

0.61

0.13

0.48

0.240

0.024

2.9

-0.073

-0.097

 

2012

1.7

2.37

0.67

0.2

0.47

0.235

0.024

3.02

-0.076

-0.099

 

2013

1.75

2.44

0.69

0.27

0.42

0.210

0.021

3.11

-0.078

-0.099

 

2014

1.83

2.54

0.71

0.39

0.32

0.160

0.016

3.23

-0.081

-0.097

 

2015

1.91

2.63

0.72

0.36

0.36

0.180

0.018

3.34

-0.084

-0.102

 $   (0.10)

 

Stay tuned for upcoming posts where Sasha will dig into some of the state-specific details around which states win and which states lose under our current VEETC policy and take a look at how the costs and benefits compare between American taxpayers and American drivers.

But for this Memorial Day weekend, the bottom line is whether you’re a tax payer or a driver, you’re losing because of our current corn ethanol subsidies.  

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Comments

Ron SMay 29 2010 07:14 AM

Another good post. But I hope you're prepared for a deluge of attacks from the industry.

Russ FinleyMay 29 2010 12:50 PM

----"drivers saw a small price benefit per gallon of roughly $0.015-$0.018 cents"----

Lower gas prices at the pump are likely to increase consumption of gasoline because consumers are not aware that they are actually paying more because of lower gas mileage. All they see is the price on the pump.

One step forward, three steps backwards.

Comments are closed for this post.

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