October 16, 2002

October 16, 2002 | Backgrounder on Energy and Environment

Ethanol Producers Get a Handout from Consumers

Members of the House and Senate are meeting in conference to reconcile the differences between their versions of comprehensive energy legislation (H.R. 4). An issue of significant concern is a federal mandate in Title VIII of the Senate-passed version of the bill2 that would nearly triple the use of ethanol by 2012. Ethanol is a corn-based additive that serves as a fuel oxygenate.3 Fuel oxygenates are required in certain areas of the country with excessive carbon monoxide or ozone pollution, as mandated by the Clean Air Act.4 In short, this provision would grant ethanol a "captive" market.

Many feel the ethanol provision is essentially a deal forged between oil companies and the corn lobby that has won the support of the White House and Senate Majority Leader Thomas Daschle (D-SD),5 despite ethanol's economic and environmental drawbacks. Based on the available evidence, it is clear that mandating additional fuel-ethanol subsidies and use is entirely unnecessary.

There is no justification for including any such provision in a national energy policy, either now or in the future.

The chief reason for imposing an ethanol program on motorists is to enrich farmers and food processors under the guise of environmental enhancement.

Ethanol is not environmentally safe. Oxygenates such as ethanol may reduce emissions of carbon monoxide (CO) and other volatile organic compounds (VOCs), but can also result in increased emissions of nitrogen oxides (NOx), a main precursor of smog pollution; and ethanol-blended gasoline can lead to increased emissions of acetaldehyde, a toxic pollutant.

A study by Cornell University scientist David Pimentel shows that producing ethanol from corn actually requires more energy than the fuel produces, making the United States more fossil-fuel-dependent, not less.6

The ethanol mandate amounts to blatant "corporate welfare." Only a handful of large agribusinesses would gain from this ethanol mandate.

Mandating an increase in the use of ethanol would burden both taxpayers and consumers. Expensive production costs, lengthy transportation times, further infrastructure construction, and added blending/production procedures would be absorbed by consumers paying higher prices at the pump.

A BURDEN ON TAXPAYERS AND CONSUMERS

Ethanol is more expensive to produce than gasoline and costs about twice as much as gasoline.7 Over the years, the federal government has adopted various policies to encourage its use, including a tax incentive that partially exempts ethanol-blended fuels from the standard excise tax on gasoline.8

Currently, ethanol-blended fuels receive a 5.3 cent per gallon exemption from the excise tax.9 This represents a federal subsidy of 53 cents per gallon of pure ethanol.10 Yet, despite this preferential tax treatment, use of ethanol has failed to expand significantly.11 Clearly, ethanol's failure to penetrate the marketplace explains the push by the ethanol industry and its friends in Congress to award ethanol a guaranteed market share.12

The ethanol provision included in Title VIII of the Senate-passed version of H.R. 4 would increase the price of gasoline by 4 to 10 cents per gallon throughout the United States, essentially burdening consumers with a "new gas tax."13 Mandating an increase in the use of ethanol would burden both taxpayers and consumers. While taxpayer dollars would be used to pay even higher subsidies to a handful of companies that control the ethanol market,14 consumers would be saddled with price increases at the pump.

SIPHONING FUNDS FROM THE HIGHWAY TRUST FUND

Financing for the Highway Trust Fund (HTF) is derived from a variety of federal highway user taxes including excise taxes on motor fuels.15 Under current law, an ethanol-blended fuel, gasohol,16 is exempt from 5.3 cents of the federal excise tax on motor fuels. This represents a more than 25 percent break from the standard 18.4 cent excise tax on gasoline. An additional 2.5 cents of the tax received on each gallon is transferred to the General Fund instead of the HTF.17 Thus, the total loss to the HTF resulting from ethanol-blended fuels as compared to gasoline is 7.8 cents per gallon.18

In fact, in July 2002, House Transportation Committee leaders sent a letter to energy bill conferees, stressing the negative effect of ethanol subsidies on the Highway Trust Fund.19 The letter specifies that

Due to ethanol's federal tax incentive, purchasers of gasohol...contribute less to the maintenance and improvement of the nation's highway and transit systems than do purchasers of gasoline.... Currently, the combined effect of these separate policies results in well over $1 billion per year in foregone Highway Trust Fund revenues.20

Currently, approximately 1.7 billion gallons of the 2.0 billion gallons of ethanol produced in the United States each year are consumed.21Title VIII of the Senate-passed version of H.R. 4 would nearly triple the use of ethanol by 2012, with increases of 2.3 billion gallons by 2004 and 5.0 billion gallons by 2012.22 While the current tax exemptions for ethanol-blended gasoline already have a significant negative impact on the Highway Trust Fund, this mandate to increase ethanol use by nearly 200 percent would result in an even greater depletion of highway funds.

At a House Subcommittee on Highways and Transit hearing on fuel taxes, Dr. Peter Ruane, President and CEO of the American Road and Transportation Builders Association, testified that ethanol exemptions would reduce funding to the Highway Trust Fund by approximately $4 billion by 2012.23 Some estimates are even larger. A comprehensive study by Hart Downstream Energy Services reports that "The level of ethanol blending stipulated in [the Senate-passed version of H.R. 4] would reduce [Highway Trust Fund] receipts by approximately $10 billion over the aggregate cost associated with continued use of ethanol under current regulations over the same period."24

Others have warned of the devastating impact of legislated market manipulation as well. For example, Marlo Lewis, Jr., of the Competitive Enterprise Institute predicts that

Starting in 2013, the mandate requires refiners to increase the 5 billion gallon target to guarantee ethanol a fixed market share as the nation's overall fuel usage expands.... [T]ripling the sale of ethanol will diminish highway trust fund revenues.... States will not be able to afford new roads, bridges, and other critical infrastructure projects needed to relieve congestion and improve auto safety.25

The proposed ethanol mandate will certainly leech needed funds from the Highway Trust Fund, which enables states to keep our nation's critical transportation infrastructure viable. This potential drain on the Highway Trust Fund is yet another significant price that the nation would pay for this irresponsible mandate.

LACK OF INFRASTRUCTURE TO TRANSPORT ETHANOL FUEL

At present, the infrastructure needed to produce, store, and blend more ethanol does not exist. Given that it is most cost-effective to produce ethanol close to its source--corn--approximately 90 percent of the nation's ethanol is produced in five states: Illinois, Indiana, Iowa, Minnesota, and Nebraska.26 Likewise, the greatest use of ethanol-blended fuel is currently in the Midwest.27

Providing other regions of the country with ethanol-blended gasoline would increase its cost, since additional transmission and distribution lines would be needed to transport blended fuel to these areas. Given that ethanol cannot be transmitted through petroleum pipelines, the costs of transporting ethanol to other regions of the country will be high.28 Ethanol will have to be transported to other regions by truck, rail, or barge and then blended at a local production facility.29

Nationwide use of fuel ethanol would not be cost-effective. The availability and price of ethanol-blended fuel would be affected by lengthy transportation times, further infrastructure construction, and added blending/production procedures. Consumers would be sure to pay more per gallon at the gas station as a result of this legislation. The California Energy Commission reports that states in which ethanol is not produced, including California, could suffer gas prices as high as $4.00 per gallon.30 Thus, while large and profitable agribusiness gained from a legislated demand for their byproducts, taxpayers and consumers would bear the burden.31

ETHANOL'S ENVIRONMENTAL DRAWBACKS

Contrary to widespread misconception, ethanol is not environmentally safe, nor does it necessarily reduce poisonous emissions. While oxygenates such as ethanol do reduce emissions of carbon monoxide (CO) and other volatile organic compounds (VOCs), they can also result in increased emissions of nitrogen oxides (NOx), a main precursor of smog pollution.32 In addition, ethanol can increase the likelihood that toxins found in gasoline, such as benzene, will seep into groundwater.33

During floor debate, Senator Dianne Feinstein (D-CA) noted that the "evidence suggests that...reformulated gasoline with ethanol produces more smog pollution than reformulated gas without it."34 Senator Feinstein also cited a 1999 National Academy of Sciences report, which found that "[ethanol-blended gasoline] will lead to increased emissions of acetaldehyde" (a toxic pollutant).35

CORPORATE WELFARE: SUBSIDIES AND PROTECTIONS

The greatest beneficiaries of the ethanol mandate in the Senate-passed version of H.R. 4 would be the handful of companies that control the ethanol market. Many experts feel that the ethanol mandate in the Senate legislation's Title VIII amounts to blatant "corporate welfare."36

Of the companies producing ethanol, the top five produce almost 60 percent and the top 10 produce approximately 75 percent of the chemical.37 One company alone, Archer Daniels Midland, currently produces 41 percent of the nation's ethanol.38 Reacting to subsidies targeted to this industry, Senator Charles Schumer (D-NY) declared, "Our citizens' health and the environment are being held hostage to the desire of the ethanol lobby to make ever larger profits."39

Not only does Title VIII of the Senate-passed version of H.R. 4 award these companies more subsidies by means of a mandate that would almost triple ethanol use, but it also awards them a "Renewable Fuels Safe Harbor" provision that protects big agribusiness from environmental liability by "protecting industry from suits arising out of defective additives in gasoline...."40 Senator Schumer states it best:

The Safe Harbor provision gives unprecedented product liability protection against consumers and communities that seek legal redress from the manufacturers and oil companies that produce and utilize defective additives in their gasoline. Not just ethanol; all of them.41

INSIGNIFICANT CONTRIBUTION TO NATIONAL ENERGY SECURITY

Mandating an increase in the use of fuel-blended ethanol will not contribute to the nation's energy security. Although ethanol has been touted as a "renewable resource," this is not the case. In the course of its production, fuel ethanol must be denatured through a process that uses gasoline.42 This raises production costs, significantly devalues ethanol as a renewable resource, and contributes very little to the United States' energy security.

According to the Congressional Research Service, some studies suggest that

the amount of energy needed to produce ethanol is roughly equal to the amount of energy obtained from its combustion, which could lead to little or no reductions in fossil energy use. Thus, if the energy used in ethanol production is petroleum-based, ethanol would do nothing to contribute to energy security.43

Similarly, a recent study by Cornell University scientist David Pimentel shows that producing ethanol from corn actually requires more energy than the fuel produces, thereby making the United States more fossil-fuel-dependent, not less.44 Professor Pimentel's study explains that the amount of energy required to produce 1,000 liters of ethanol is approximately 70 percent more than the amount of energy that the ethanol possesses.45

CONCLUSION

As Senate and House conferees meet to reconcile their respective energy bills, they must be clear about what a mandate for increased subsidies and use of ethanol-blended fuel would and would not do. This mandate clearly defines its winners and losers. Ethanol use neither helps the environment nor improves the nation's energy security. Ethanol is not environmentally friendly and is not an authentic renewable resource; its production may require more energy than the fuel it produces.

Finally, ethanol is not economically advantageous. Mandated increased use would entail additional production costs, transportation costs, infrastructure costs, and environmental costs, the burden of which would fall squarely on consumers.

The ethanol provision in the Senate-passed version of H.R. 4 would simply subsidize a small group of large ethanol producers at the taxpayer's expense. Mandating the use of more fuel ethanol is both costly and unnecessary. The evidence clearly shows that there is no justification for including any such provision in America's national energy policy, either now or in the future.

--Erin M. Hymel is a research assistant in the Thomas A. Roe Institute for Economic Policy Studies at The Heritage Foundation.


1. The author wishes to thank Charli Coon, Senior Policy Analyst for Energy and Environment in the Thomas A. Roe Institute for Economic Policy Studies at The Heritage Foundation, for her significant contribution to this paper.

2. On August 2, 2001, the House passed H.R. 4 (Securing America's Future Energy Act of 2001); on April 25, 2002, the Senate incorporated S. 517 (Senate Amendment 2917) into H.R. 4, Title VIII (Energy Policy Act of 2002).

3. Brent D. Yacobucci and Jasper Womach, "Fuel Ethanol: Background and Public Policy Issues," CRS Report for Congress RL30369, Congressional Research Service, February 21, 2002.

4. Ibid.

5. Zachary Coile, "Senate Oks Ethanol-Rich Energy Bill; Boxer, Feinstein Say State's Gas Prices Will Increase," San Francisco Chronicle, April 26, 2002; see also editorial, "A Stealth Gas Tax," The Wall Street Journal, April 15, 2002.

6. See David Pimentel, "Limits of Biomass Utilization," College of Agriculture and Life Sciences, Cornell University, Ithaca, New York, August 16, 2000 (in manuscript); also see Pimentel's essay in Encyclopedia of Physical Science and Technology, Third Edition (San Diego: Academic Press, September 2001), Vol. 2, pp. 159-171.

7. Ben Lieberman, "The Ethanol Mistake: One Bad Mandate Replaced by Another," Op-Ed in National Review Online, March 12, 2002.

8. Committee Memo, background on hearing on "Long-term Outlook on Highway Trust Fund: Are Fuel Taxes a Viable Measure?" Subcommittee on Highways and Transit, Committee on Transportation and Infrastructure, U.S. House of Representatives, July 16, 2002, p. 2, at http://www.house.gov/transportation/highway/07-16-02/07-16-02memo.html (September 12, 2002).

9. Yacobucci and Womach, "Fuel Ethanol: Background and Public Policy Issues," p. 9.

10. Ibid.

11. Lieberman, "The Ethanol Mistake."

12. Ibid.

13. Senator Hillary Clinton (D-NY), Congressional Record, April 11, 2002, p. S2570.

14. Ibid.

15. In addition to excise taxes on motor fuels, the Highway Trust Fund is financed with truck-related taxes on truck tires, sales of trucks and trailers, and the use of heavy vehicles. See Committee Memo, hearing on "Long-term Outlook on Highway Trust Fund: Are Fuel Taxes a Viable Measure?" p. 1.

16. Gasohol, also known as E10, is a blend of gasoline with up to 10 percent ethanol and constitutes 99.7 percent of the fuel ethanol consumed in the United States.

17. Committee Memo, hearing on "Long-term Outlook on Highway Trust Fund: Are Fuel Taxes a Viable Measure?", p. 2.

18. Ibid.

19. House Committee on Transportation and Infrastructure, "Transportation Committee Leaders Urge Energy Conferees to Address Ethanol Provision's Impact On Highway Trust Fund; Senate Version of Energy Bill Will Cost Trust Fund an Estimated $4 Billion Per Year by 2012," July 29, 2002.

20. House Committee on Transportation and Infrastructure, Letter to Energy Conferees.

21. Yacobucci and Womach, "Fuel Ethanol: Background and Public Policy Issues," p. 5.

22. Ibid., p. 20.

23. House Committee on Transportation and Infrastructure, press release, "Transportation Officials Outline Changes Needed to Ensure a Viable Highway Trust Fund; Ethanol Blend Fuel Tax Exemptions & General Fund Diversions Accounted for $1.1 Billion Less in Highway Improvements for States in 2001," July 16, 2002.

24. Hart Downstream Energy Services Report, Highway Trust Fund Analysis, Impact of S. 517 on the Highway Trust Fund, April 25, 2002, p. 4.

25. Marlo Lewis, Jr., "Heed Hillary's Herald," Op-Ed in Tech Central Station, May 8, 2002.

26. Yacobucci and Womach, "Fuel Ethanol: Background and Public Policy Issues," p. 4.

27. Ibid.

28.Ibid.

29. Ibid.

30. Senator Dianne Feinstein (D-CA), Congressional Record, April 11, 2002, p. S2508.

31. As Cato Institute analyst Jerry Taylor writes, "Oxygenated fuel mandates are a thinly disguised handout to corn farmers, who produce the oxygenate (ethanol) relied upon by the Midwestern market. But ethanol is even more expensive to produce than other oxygenates and it can't be shipped through pipelines." Jerry Taylor, "Bad Policies Fuel Midwest Gasoline Prices," Chicago Tribune, June 21, 2000.

32. Yacobucci and Womach, "Fuel Ethanol: Background and Public Policy Issues," p. 11, and Senator Dianne Feinstein, Congressional Record, April 11, 2002, p. S2510.

33. Lewis, "Heed Hillary's Herald."

34. Senator Dianne Feinstein, Congressional Record, April 11, 2002, p. S2510.

35. National Academy of Sciences, Ozone-Forming Potential of Reformulated Gasoline, Executive Summary, p. 7, 1999, at www.nap.edu/books/0309064457/html/ (October 8, 2002).

36. For example, Marlo Lewis, Jr., of the Competitive Enterprise Institute calls the ethanol mandate "flagrant corporate welfare, transferring billions of dollars from working families to a handful of big companies." Lewis, "Heed Hillary's Herald."

37. The 10 companies producing 75 percent of domestic ethanol are Archer Daniels Midland (ADM), Minnesota Corn Processors, Williams Energy Services, Cargill, New Energy Corporation, Midwest Grain Products, High Plains Corporation, Chief Ethanol, Ag Processing, Inc. AGP, and A. E. Staley.

38. Senator Dianne Feinstein, Congressional Record, April 11, 2002, p. S2509.

39. Senator Charles F. Schumer (D-NY), Congressional Record, April 11, 2002, pp. S2512-S2513.

40. Editorial, "Ethanol's Ambitions," The Washington Post, April 16, 2002.

41. Senator Charles F. Schumer, Congressional Record, April 11, 2002, p. S2513.

42. Yacobucci and Womach, "Fuel Ethanol: Background and Public Policy Issues," pp. 3-4.

43.Ibid., p. 13.

44. Pimentel, "Limits of Biomass Utilization."

45. Ibid, p. 11.

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