July 25, 2016

July 25, 2016 | Backgrounder on Energy and Environment

Eliminate Favorable Treatment of Biofuels

Since 2002, farm bills have contained an energy title with biofuel programs, but the federal government has a long history of using policy to inflate the use of biofuels. Over time, Congress and both Republican and Democratic Administrations have put in place a variety of subsidies—from tax credits, import tariffs, and grants to outright volumetric mandates—to increase the production, sale, and use of biofuels. Favoritism toward biofuels and bioenergy has promised much but delivered very little. While a select few benefit from special treatment, bioenergy policies have imposed considerable costs on taxpayers, energy consumers, the environment, the world’s poor, and the large segment of the agricultural community that does not profit from the subsidies and Renewable Fuel Standard. The RFS is the main source of U.S. biofuel policy, which mandates that billions of gallons of ethanol be blended into gasoline each year, with a peak of 36 billion gallons in 2022. Policy reforms that removed these handouts would promote competition and fuel choice.

Key Points

  1. Many biofuel programs designed to jumpstart new technologies, reduce dependence on oil, and improve the environment have instead created a biofuels industry that depends on preferential treatment, concentrating benefits among a select group of companies and dispersing the costs onto the rest of the American people.
  2. Congress should repeal all of the energy programs in the farm bill: Title IX as well as the Sun Grant program in Title VII. Congress should also remove preferential treatment for all transportation fuels and technologies.
  3. Repealing the RFS mandate would encourage a healthier market that promotes risk-taking and entrepreneurial activity rather than dependence on government for near-term survival through favorable policies and tax treatment.
  4. Repeal of the RFS should be used as momentum for greater reform that should include a further leveling of the playing field for all energy companies and technologies.
The federal government provides a wide range of subsidies to boost the production and consumption of biofuels. Throughout the years, Congress has enacted special tax breaks, direct grants, government-backed loans and loan guarantees, and a mandate to generate a larger biofuel and biodiesel market.[1] To justify biofuels programs, policymakers have promised reduced dependence on foreign oil, a new source of cleaner energy to lower gas prices, a stronger economy, and an improved environment. None of this has materialized.

The problem is not the use of biofuels themselves but rather a set of policies and programs that pick winners and losers—a subsidization of production that benefits a select few while spreading the costs among American families and businesses. Even within the agricultural community, biofuel handouts reward those who are connected to the policy and adversely affect large parts of rural America. Having politicians centrally plan energy decisions has caused market distortions and demonstrated the high costs and unintended consequences of government intervention. The farm bill energy title and other biofuel policies, in particular the Renewable Fuel Standard (RFS), affect commodity production, prices, the economy, and the environment.

All of the biofuel programs, not just those in the farm bill, must be part of the discussion for agricultural reform. Policy recommendations for Congress include steps to eliminate the federal government’s role in the forced production and consumption of biofuels and to empower individuals so that they can maximize the value of America’s land and resources.

What Are Biofuels and How Are They Used?

The Environmental Protection Agency (EPA) classifies biofuels as “fuels produced from renewable organic material.”[2] Producers ferment sugar (sugarcane, sugar beets) and starch products (corn, potatoes) to create bioalcohols and ferment oilseed crops (soybeans, sunflower seeds) and animal fats to create biodiesel.[3]

Ethanol, the most common biofuel, is made from corn, sugarcane, potatoes, soybeans, and other biomass. In the United States, the most common form of ethanol is corn-based. Before any subsidies and the current biofuels mandates were put in place, ethanol already was a valuable additive to gasoline, allowing fuel to burn more cleanly and more efficiently.[4] The use of biofuels is not new and is not the product of any government policy jumpstarting an infant industry: Henry Ford originally planned for the Model T to run on ethanol, and in 1897, Rudolf Diesel showcased a diesel engine running on peanut oil.[5]

Fuel suppliers mix biofuels into gasoline and diesel at blending stations. The fuel system in most vehicles can only contain gasoline blended with 10 percent ethanol (E10) and 90 percent gasoline. In 2011, the EPA approved a blend of 15 percent ethanol and 85 percent gasoline for model year 2001 and newer vehicles, but it is damaging to engines in older vehicles.[6] In addition, ethanol has proven to be harmful to smaller engines, such as lawnmowers, motorcycles, and boats.[7] Another fuel blend is E85, used in flex-fuel vehicles, which contains “51%–83% ethanol, depending on geography and season.”[8] Flex-fuel vehicles have engines that can run on a range of blends of gasoline, including E85. Some gasoline stations offer “blender” pumps that allow consumers to choose which blend to use.[9]

The federal government distinguishes between conventional, first-generation biofuels and advanced, second-generation biofuels, also known as cellulosic ethanol. Producers generate advanced biofuels from non-food parts of crops and other biomass such as leaves, switchgrass, algae, and woodchips. However, commercial development of fuel from these resources has proven to be difficult.

 

U.S. Biofuel Policy: Farm Bills and the RFS

Since 2002, farm bills have contained an energy title with biofuel programs, but the federal government has a long history of using policy to inflate the use of biofuels. Over time, Congress and both Republican and Democratic Administrations have put in place a variety of subsidies—from tax credits, import tariffs, and grants to outright volumetric mandates—to increase the production, sale, and use of biofuels.

In response to the oil crisis of the 1970s, Congress passed the first ethanol tax credit—the Energy Tax Act of 1978—in an attempt to reduce dependence on foreign oil. Legislation such as the Biomass Research and Development Act of 2000, Healthy Forests Restoration Act of 2003, and American Jobs Creation Act of 2004 introduced or expanded an assortment of direct and indirect subsidies for biofuels. The federal government awards subsidies not just for the production of biofuels and ethanol plants, but also for biofuels infrastructure.[10] The 2002 farm bill continued to force the growth of a market for biofuel production and use; many of these programs were expanded in the 2008 and 2014 farm bills. The main source of U.S. biofuel policy is the RFS mandating billions of gallons of ethanol be blended into gasoline each year, with a peak of 36 billion gallons in 2022.[11]

Many of the farm bill’s biofuel programs are designed to jumpstart new technologies, reduce dependence on oil, and improve the environment. Instead, they have created a biofuels industry that depends on preferential treatment, concentrating benefits among a select group of companies and dispersing the costs onto the rest of the American people, both as taxpayers and as energy consumers.

 

Beyond the farm bill, the federal government routinely intervenes in agriculture markets. One of the most pervasive instruments of this intervention is the Renewable Fuel Standard, which affords preferential treatment to the production of corn and soybeans at the expense of other agricultural products and significantly reduces the risk and competition necessary to drive innovation and economic growth.

The Energy Policy Act of 2005 first mandated that renewable fuels be mixed into America’s gasoline supply, primarily by using corn-based ethanol. The 2007 Energy Independence and Security Act increased the quotas significantly. By 2022, 15 billion gallons (and no more toward meeting the mandate) of corn-based ethanol and a total of 36 billion gallons of biofuels must be blended into the nation’s fuel supply, including soybean-based biodiesel. Moreover, the program does not end: The EPA has authority to set yearly targets beyond 2022.[12]

The economic and environmental problems caused by the RFS have led a diverse range of environmental organizations, world hunger activists, economists, energy companies, and many in the agricultural community to oppose the mandate. Within the agriculture community, the National Chicken Council, National Cattlemen’s Beef Association, National Pork Producers Council, National Turkey Federation, and Milk Producers Council, and many other groups[13] have called on Congress to repeal the standard. Other prominent organizations like the American Petroleum Institute, National Resource Defense Council, American Fuel and Petrochemical Manufacturers, Environmental Working Group, Oxfam, and the United Nations have decried preferential treatment for corn ethanol.[14]

Besides the nearly universal outcry, the policy itself is reaching a breaking point as basic assumptions about the future on which it was built, such as national gasoline consumption and the commercial viability of advanced biofuels, prove to be invalid. Yet powerful biofuel lobbies have still been able to get Congress to withhold action on the RFS and its destructive economic and environmental effects.

Free Markets vs. Government Intervention in Energy Consumption

While the exact relationship between energy consumption and gross domestic product (GDP) can vary, one fact is clear: Energy is important to a nation’s economic growth.[15] When the free market operates, resource extraction and production expand greatly, innovative technologies generate promising opportunities, and both job creation and overall economic growth are robust.

Over the years, federal policies have blocked access to opportunities, unnecessarily delayed projects, mandated expensive energy production, restricted choice, and given handouts to politically connected energy technologies. Politicians tout these programs as a way to usher in new technologies that will provide jobs and stimulate the economy. In reality, rather than providing an opportunity for all to compete, these policies allocate special benefits to the well-connected. Biofuel policy, through the farm bill and other pieces of legislation, has certainly been an example of such favoritism.

Perhaps the most perverse consequence of these subsidies is that they obstruct the long-term success and viability of the technologies and energy sources they are ostensibly intended to promote. Instead of relying on a process that rewards competition, taxpayer subsidies prevent a company from truly understanding the price point at which the technology will be economically viable. When the government plays favorites, it traps valuable resources in unproductive places and allocates labor and capital away from other investments.

If biofuels manage to succeed as a competitive source of transportation fuel, it will not be as a result of any taxpayer-funded handout or government-imposed mandate. Whether the industry flourishes or fails is for private actors, using their own resources, to determine. This holds true not just for biofuels, but for all energy resources and technologies.

The sustainable use of any transportation fuel will not be the result of any government program; it will be the result of market viability that makes all of these handouts wasteful and unnecessary. The United States has a robust, diverse energy market that can supply consumers with affordable and reliable energy—without the taxpayers’ help. Each of these government programs in the farm bill represents problems (or opportunities) that the market can solve or capture.

The Biomass Crop Assistance Program (BCAP), for example, is a handout to farmers and ranchers who produce biomass for heat, power, bio-based products, or biofuels. As the U.S. Department of Agriculture (USDA) describes the program:

BCAP addresses a classic chicken-or-egg challenge around the start up of commercial- scale bioenergy activities. If commercial-scale biomass facilities are to have sufficient feedstocks, then a large-scale energy crop must exist. Conversely, if profitable crop production is to occur, then viable consumers must exist to purchase the crop.… Many bioenergy facilities need several years to reach commercial scale. BCAP serves as a catalyst to unite these dynamics by reducing the financial risk for landowners who decide to grow unconventional crops for these new markets.[16]

Good ideas overcome chicken-and-egg challenges all the time without government assistance. It does not matter how many cell phones there are if there is no place to obtain a signal, but producers built cell phone towers and sold cell phones without a massive subsidy or government program initiated by Washington. The same can happen with biofuels if they are economically viable and meet real market needs. American households spend $2,000 to $2,500 a year on gasoline.[17] Globally, the transportation fuels market is a multitrillion-dollar opportunity. Any technology or fuel source that can capture just a sliver of that market will benefit tremendously, but it will not be the result of any federal government program. This holds true for all transportation fuels.

 

Evidence indicates that certain biofuels are cost competitive with traditional fuels and make a useful addition to gasoline—without special privileges from Washington. In the year before the federal government mandated the production of ethanol, American companies produced over 81 million barrels of ethanol.[18] Furthermore, ethanol is a cost-effective gasoline oxygenate, a gasoline additive that improves efficiency and helps to meet fuel emissions requirements.[19] A recent University of Tennessee Institute of Agriculture report estimates that in a market with no RFS and no ethanol tax credit, demand for corn ethanol as an oxygenate would have been 4.34 billion gallons in 2014, or about 30 percent of corn ethanol production that year.[20]

Reducing government intervention in the biofuel sector and agricultural economy broadly would allow the most competitive elements of the biofuel industry to thrive in a free market. Competition driven by individuals would drive economic growth and benefit all of rural America, not just those special interests that are well-connected in Washington

Unintended Consequences of U.S. Biofuel Policy

U.S. biofuel policy is a case study in the unintended consequences of government intervention. In contrast to what politicians and special interests promised, biofuel policies have increased costs for taxpayers and drivers, had little to no impact on oil prices, hurt rural economies, and resulted in unforeseen environmental costs.

Higher Costs for American Taxpayers and Drivers. Federal biofuel policies cost taxpayers $7.7 billion in 2011 and $1.3 billion in 2012 after the expiration of the ethanol blenders tax credit, a 45-cent per gallon tax credit for blending ethanol into gasoline.[21] Over a 30-year period, ethanol subsidies have diverted $45 billion in taxpayer money for ethanol.[22]

Furthermore, ethanol has done little or nothing either to keep fuel prices down, despite the arguments of proponents,[23] or to achieve the nebulous goal of independence from foreign oil. Even though ethanol production has increased as mandated and has accounted for nearly one-third of the increase in domestic fuel production over the past few years, biofuels still constitute a very small overall percentage of domestic gasoline consumption while increasing costs to consumers.

By its very nature, ethanol is not a perfect substitute for oil. Ethanol’s energy content is only two-thirds the energy content of petroleum-based gasoline, and while biodiesel is closer to an even exchange at 92 percent of regular diesel’s energy content, it is more expensive to fabricate.[24] During times of high gas prices, ethanol may appear to be less expensive, but after adjusting for the difference in energy content, higher concentrations of ethanol fuels are still more expensive. For instance, as of February 2016, the national average price of regular gasoline was $1.71 per gallon, and E85 was $1.52 per gallon.[25] But adjusting for E85’s weaker energy density pushes its price to $1.99 per gallon.[26] The U.S. Department of Energy’s Energy Information Administration (EIA) estimates that gasoline’s energy content has decreased 3 percent from 1993–2013 as ethanol use has increased because of federal mandates.[27]

The joint EPA/U.S. Department of Energy website, FuelEconomy.Gov, provides eye-popping documentation of these costs. The size of the additional costs varies depending on ethanol and gasoline prices, but the big picture is always the same: The higher the ethanol content, the worse a car’s gas mileage is and the more drivers have to spend to go the same distance. As of September 2015, depending on make and model, the typical motorist could spend as much as an additional $450 per year to run his flex-fuel vehicle on E85 rather than regular gasoline blended with E10.[28] Even when vehicles use premium gasoline, E85 is more expensive for drivers.

 

Failure to Reduce Dependence on Oil. In addition to forcing drivers to pay for a less efficient fuel, the RFS has not delivered on the promise that it would reduce dependence on oil and afford protection from high prices. In 2014, ethanol contributed a mere 5 percent of the overall transportation fuel market. (See Chart 2.) Because it contributes such a small percentage of the overall market, ethanol failed to tamp down prices, which mostly continued to climb from 2002 to 2012—despite increased mandated ethanol use and high oil prices that allegedly made ethanol more competitive.[29] Conversely, ethanol production has had little to do with the dramatic decrease in fuel prices that began in 2013 as a result of access to vast new energy resources in the U.S., a decrease that highlighted the disparity in cost and efficiency between ethanol and petroleum-based fuel.

The large majority of transportation fuel has come from petroleum; even the relative explosion of growth in biofuels as a result of the mandate is dwarfed by the actual demand for fuel. Conversely, ethanol consumes a large share of the corn crop and diverts valuable cropland away from other agricultural products, so while the impact of biofuels on fuel consumption is small, the impact on agriculture is large. The problem is that the diversion of land was a result of the mandates and subsidies. Market forces may very well have moved farmers in this direction, though not likely to such an extent. Nevertheless, the private sector will allocate those resources most efficiently.

 

Negative Consequences of Diverting Food to Fuel. The federal government’s biofuel policy has diverted food away for fuel, increasing the cost of corn, soybeans, and feedstocks, as well as overall food prices. This increase has hurt both rural America and the world’s poorest citizens.

From 2010–2012, 49 percent of the U.S. corn crop was used in the food industry and feed for livestock; another 12 percent was exported. Over 40 percent was used to fabricate ethanol fuel to meet the RFS standard.[30] In 2012, the amount of corn used to produce ethanol in the U.S. exceeded the entire corn consumption of the continent of Africa and in any single country with the exception of China.[31] While the majority of biofuel-related food price increases have resulted from the diversion of corn to fuel, diverting soybean crop to biodiesel has had similar effects.

 

Inflated demand created by the RFS and higher corn prices have incentivized farmers to grow more corn by adding acreage, increasing productivity, or devoting less existing farmland to other crops, but increasing supply to meet higher demand has its own costs. Pressure on the price of corn is exacerbated by the mandate, which requires the use of ethanol or available credits (called RIN credits) regardless of cost, while ranchers, farmers, the food industry, and motorists must take increased corn prices into account. Those who perhaps bear the costs of increased corn prices most acutely are farmers and ranchers who use corn for feed and countries that import American corn, which accounts for over 50 percent of the world’s corn exports.[32]

The USDA’s Economic Research Service notes that “increased corn prices draw land away from competing crops, raise input prices for livestock producers, and put moderate upward pressure on retail food prices.”[33] These side effects were all too apparent during the 2012 drought.

The 2012 summer drought destroyed a significant amount of America’s crops, drove corn prices up 33 percent, and heightened concerns that the RFS and existing subsidies were needlessly diverting food to fuel.[34] Since corn is a staple ingredient for many foods and an important feedstock for animals, many in the food industry (from cattle and chicken farmers to restaurant associations) expressed concern regarding the mandate’s effect on food prices. Rather than going to where market demand valued corn, roughly 40 percent of the corn crop in 2012 was used to create 12.98 billion gallons of corn-based biofuels, or 95 percent of the mandate.[35]

Between July 2012 and August 2012, governors from Arkansas, Delaware, Florida, Georgia, Maryland, New Mexico, North Carolina, Texas, Utah, Virginia, and Wyoming petitioned the EPA for a waiver of the RFS standards, which the EPA denied.[36] According to a recent study by economists from the University of Nebraska–Lincoln, “the drought’s impact on corn prices could have been ‘fully negated’ by reducing the Renewable Fuel Standard by 23 percent that year.”[37]

Higher prices resulting from government-created market distortions have a ripple effect well beyond the U.S. A number of organizations have demonstrated a link between biofuel policies and food prices and the adverse consequences of these policies for the world’s poorest citizens. The Food and Agriculture Organization of the United Nations, ActionAid, the World Resources Institute, the Organisation for Economic Co-operation and Development, and the World Bank have all listed higher food prices as a resultant concern.[38]

The magnitude of the ethanol mandate’s effect on corn prices and overall agricultural products is difficult to determine, partly because of the uncertainty of estimates regarding how much ethanol would be used for fuel absent a mandate, the price impacts of other factors affecting the price of corn, and what other agricultural products farmers would grow absent the mandate. While the magnitude of the mandate’s impact on corn prices may not be certain, however, the direction is clear: The RFS has increased demand for corn and consequently has increased prices. According to separate analyses by University of California–Davis economists and a Heritage Foundation economist, the mandate accounts for an increase in corn prices of 30 percent or even as much as 68 percent, respectively.[39] Though other factors such as weather, global markets, and changing food preferences are at work in the price of corn, the RFS has certainly contributed to increased prices.[40]

Proponents of the RFS and preferential treatment for biofuels sold these policies as a way to support economic growth in rural communities. Instead of supporting rural communities, however, the federal government has supported corn growers at the expense of livestock producers and has diverted resources to an industry that is not self-sustaining. Taking away such a crutch would doubtless be painful for farmers.

Furthermore, because of the RFS, fuel now competes indirectly with corn producers,[41] and this connection is not insignificant: Some 41 percent of the U.S. corn crop was dedicated to ethanol production in 2010–2012, compared to 14 percent when Congress mandated the original quota in 2005.[42] Without the mandate, ethanol, and thus corn-for-fuel, becomes less competitive, especially if more energy-efficient gasoline remains inexpensive.

Ethanol consumption is at historic highs for one simple reason: The federal government mandates its consumption. According to the Institute for Energy Research:

If someone forces vegetarians to buy hamburgers, or non-smokers to buy cigarettes, that might look like “economic growth” and “job creation” but it doesn’t actually make Americans better off. By the same token, if the government forces people to use ethanol, that’s not genuine prosperity.[43]

The fact that the EPA can use its own discretion to set biofuel targets after 2022 is all the more reason for Congress to act now.

Ultimately, the RFS has less to do with price or customer choice and much more to do with meeting a government quota regardless of costs. Although biofuel technologies may someday prove to be a preferred fuel choice, biofuels have proved to be expensive to produce and less energy dense than gasoline and diesel. Federal subsidies and mandates have shifted those costs to motorists, the food industry, and sectors of the agriculture community that depend on corn and soy for feed, while benefits are concentrated among a select few.

Unintended Adverse Environmental Consequences. Policymakers sold biofuel programs and the RFS in part by promising several important benefits, including cleaner fuel and a reduction in the greenhouse gas emissions that allegedly contribute to climate change. Yet the ability of biofuels, particularly ethanol, to improve the environment and reduce greenhouse gas emissions—regardless of the benefits of such goals—has been unclear and controversial at best.

According to the EIA, biofuel carbon dioxide emissions are “considered to be part of the natural carbon cycle.”[44] However, this assumption may be too broad. For example:

  • After accounting for land-use conversion and the use of fertilizers, insecticides, and pesticides, as well as the fossil fuels used for production and distribution, biofuel production is quite carbon intensive.[45]
  • The growing popularity of biofuel policies led the U.N.’s Food and Agriculture Organization (FAO) to focus on the issue in its 2008 State of Food and Agriculture report. Citing several studies published in Science, the FAO noted that converting non-cropland to the production of corn ethanol released at least 17 times more emissions than the amount that is cut in carbon dioxide emissions by using biofuels, or a “carbon debt” of 48 years.[46]
  • University of Michigan Energy Institute Professor Dr. John DeCicco finds that even without accounting for indirect changes in land use, biofuels increase the amount of carbon dioxide released into the atmosphere compared to regular gasoline.[47]
  • Despite once hailing biofuels as an important tool in mitigating climate change, the U.N.’s Intergovernmental Panel on Climate Change reversed positions and acknowledged in 2007 that biofuel policy negatively affects the lives of the poor, diverts land to the production of biofuels, has environmental consequences, and has dubious climate impacts.[48]

Meanwhile, Congress has seemingly ignored apparent increases in real pollutants attributed to the RFS. Ethanol does have some benefits as a fuel additive that helps gasoline burn more cleanly and efficiently. The EPA acknowledged that increased renewable fuel would result in higher emissions of air pollutants such as particulate matter and nitrogen oxides and stated that “[i]n addition to air quality, there are also expected to be adverse impacts on both water quality and quantity as the production of biofuels and their feedstocks increase.”[49] A study by Iowa State University researchers concluded that incentivizing more biofuel production with government policies leads to more adverse environmental consequences caused by farming, the use of fertilizers, and land-use conversion for agricultural production, resulting in increased soil erosion, sedimentation, and nitrogen and phosphorous runoff into lakes and streams.[50]

The unwanted environmental costs of agricultural production are a solvable problem. Almost all industrial output results in unwanted byproducts, whether air pollutants or runoff and discharge from the use of fertilizers. These byproducts are not necessarily a reason to eliminate an activity; doing so could reverse hard-won prosperity and progress. The real problem is that biofuels have been sold to policymakers and the public as “green” fuels, whereas in practice, they can be more environmentally damaging than petroleum-based fuels.

The Folly of Central Planning

The Renewable Fuel Standard mandate demonstrates just how bad the government is at understanding what the market can bear in terms of production and consumption. As Austrian economist F. A. Hayek once said, “The curious task of economics is to demonstrate to men how little they know about what they imagine they can design.”[51] No matter how brilliant or well-informed with data, politicians and bureaucrats cannot plan markets and consumer needs. Basic assumptions about the RFS have proven to be short-sighted, revealing the inability of government to plan energy markets.

The Blend Wall. As the RFS has reached the midpoint on the path to its final target in 2022, petroleum refiners have come up against what is known as the blend wall. Because overall gasoline consumption has leveled off as a result of a slower economy and increased fuel efficiency, and because the RFS mandates ever-increasing amounts of ethanol, continued compliance with the RFS would force refiners to blend more ethanol than the market will bear.

According to the RFS, each refiner in the United States has to meet a requirement that a certain percentage of domestic sales contain blended ethanol, called a renewable volume obligation (RVO).[52] Refiners have an option to meet part of their requirement by buying credits instead of blending more ethanol. In order to track the renewable fuel quotas, the EPA requires a renewable identification number (RIN) to track the amount of biofuel reaching the market and to hold refiners accountable for blending enough ethanol. Refiners can either hold on to these credits and meet up to 20 percent of the RFS requirement in RIN credits or purchase RIN credits from other refiners when they fail to meet the requirement. Different RIN prices exist for different forms of biofuels.

The RIN trading system has resulted in numerous instances of fraud in which refineries bought fake credits with made-up RIN numbers for millions of dollars. Since refineries now face the blend wall, increased trading for RIN credits has driven up the price of the credit from pennies to over a dollar in 2013.[53] Bloomberg projects that overmandating (requiring the use of more ethanol than can be blended) and forcing the purchase of RINs could cost consumers an additional $13 billion at the pump—an artificial increase of 10 cents per gallon if RIN credit prices stay above one dollar.[54] But even if the price of RIN credits falls to 50 cents per credit, consumers will still be slapped with a multibillion-dollar bill.[55]

The economic consulting firm NERA warns that attempting to increase requirements to where the targets were set originally in the Energy Independence and Security Act of 2007 would result in intensified economic damage:

When the required biofuel volume standards are too severe, as with the statute scenario, the market becomes disrupted because there are an insufficient number of RINs to allow compliance. “Forcing” additional volumes of biofuels into the market beyond those that would be “absorbed” by the market based on economics alone at the levels required by the statute scenario will result in severe economic harm.[56]

The possibility of “too much” ethanol creates an economic problem for ethanol producers that will become more pressing as corn-based ethanol reaches the statutory cap of 15 billion gallons and if gas prices remain low. According to the Congressional Research Service (CRS):

In volumes above the RFS total renewable mandate, biofuels use is no longer obligatory and it must compete directly in the marketplace with its petroleum-based counterpart. As a result, once they have met their RFS blending mandates, fuel blenders, seeking to maximize their profits, are very sensitive to price relationships between petroleum-based fuels and biofuels. This is particularly important for ethanol since it contains only about 68% of the energy content of gasoline. As a result, value-conscious consumers could be expected to willingly pay only about 68% of the price of gasoline for ethanol.[57]

Higher economic growth, and therefore higher fuel consumption, could alleviate some blend wall concerns, but increased fuel-efficiency standards and higher volume targets for biofuels could cause the blend wall problem to persist. Flex-fuel vehicles capable of using E85 offer little economic relief for the blend wall. Demand for these vehicles is very low,[58] and drivers who own flex-fuel vehicles often fill their tanks with E10 as opposed to E85 because the energy content in E85 is lower. Adjusted for energy content, E10 makes more financial sense than E85. Most important, no one knows what the future holds for economic growth and fuel consumption, which is why the government should not predict what markets will bear in 2022 with a law in 2005.

Ethanol and Price Volatility. Price volatility by itself is no reason to stop using biofuels in transportation fuel. Proponents of alternative fuel have used oil-market volatility to champion the government’s use of biofuels, but ethanol has been subject to its own price volatility, especially since passage of the RFS, and has done little to curb the effects of oil price volatility. Most important, although agricultural commodities are subject to price volatility just as other commodities are, markets free of government intervention can respond most effectively to any price volatility, large or small.

As shown by Chart 5, corn prices reached record highs in 2008 only to free fall during the financial crisis. Again in 2012, drought in the U.S. caused corn prices to rise steeply and sparked the first decline in U.S. ethanol production since 1996 as ethanol producers stalled plants.[59] As CRS has noted about the 2008 price spike, “The experience of $7.00-per-bushel corn, albeit temporary, shattered the idea that biofuels were a panacea for solving the nation’s energy security problems and left concerns about the potential for unintended consequences from future biofuels expansion.”[60]

Problems with Advanced Biofuels. While corn-based ethanol production has outpaced the blend wall, the production of other biofuels to meet the RFS mandate has woefully underperformed.[61] The production of cellulosic ethanol, made from non-food sources, is nowhere near to meeting its targets, even though the RFS mandates that 16 billion gallons must be used by 2022. High capital costs and difficulty scaling up cellulosic biofuel conversion plants to meet large-scale demand have prevented non-food-sourced ethanol from being an economically viable option.

 

The EPA, which administers the RFS, has had to reduce Congress’s original annual quotas for cellulosic ethanol every year since they were required by the mandate because not enough was available on the market. The EPA adjusted Congress’s first cellulosic target down from 100 million gallons in 2010 to just 6.5 million. However, even the adjusted mandate was a stretch compared with reality: Zero gallons were produced that year and the following year.[62]

Consequently, refiners had to pay millions of dollars in waiver credits or surcharges for failing to comply with the EPA’s minimum volume requirements, and they necessarily passed those costs on to the consumer. In January 2013, the D.C. Circuit Court of Appeals ruled that the EPA “let its aspirations for a self-fulfilling prophecy divert it from a neutral methodology” and that the target was an “unreasonable exercise of agency discretion.”[63] The court vacated the cellulosic ethanol requirement required by the RFS for 2012. The EPA has since proposed cellulosic mandates for 2014–2016 that are equally as out of touch with market realities.

 

Private Benefits, Dispersed Costs. The strong lobbying of corn producers and the political importance of the geographic region where America produces corn make ethanol policy the perfect example of a focus on political profit as opposed to economic progress. They have been successful despite the unique and diverse mix of organizations opposed to the ethanol mandate.

The RFS essentially mandates a market for corn, soybeans, and biofuels that eliminates much of the risk of investing in biofuels—risk that every industry manages as a matter of doing business and that ultimately is necessary for a healthy and growing economy. Not only does it favor a select few commodities, but the mandate also benefits just a few states at the expense of the vast majority. Over 50 percent of ethanol production is concentrated in three states: Illinois, Iowa, and Nebraska.[64]

Ultimately, however, the benefits enjoyed by biofuel interests are limited and do not help the industry in the long run. The dependence on government to remain viable stunts the industry’s long-term growth by propping up bioenergy and distorting the true price point at which biofuels will be competitive in the market.

 

What Needs to Be Done

Longtime proponents of the ethanol mandate have come to recognize the problems of corn-based ethanol. In fact, several Members of Congress have introduced legislation to repeal only the corn requirement of the Renewable Fuel Standard.[65]

Removing corn’s share of the requirement, perhaps the most economically viable part of the mandate, is problematic for several reasons. Biodiesel generated from soybeans presents the same food-for-fuel problem as the corn-ethanol mandate presents. Advanced biofuels from non-food-based sources are the least economically competitive of all such fuels and demonstrate just how incompetent the federal government is at centrally planning what the market can bear. And both the Renewable Fuel Standard and the federal government’s promotion of biofuels create unintended environmental concerns.

Consequently, Congress should:

  • Eliminate the bioenergy programs in the farm bill. Congress should repeal all of the energy programs in the farm bill: Title IX as well as the Sun Grant program in Title VII.
  • Repeal the mandate in its entirety and allow consumers a choice at the pump. Biofuels existed long before the Renewable Fuel Standard and, if economically competitive, will remain long after it is gone. Removing the mandate would encourage a healthier market that promotes risk-taking and entrepreneurial activity rather than dependence on government for near-term survival through favorable policies and tax treatment. It is also important that policymakers not just repeal the corn-based part of the ethanol mandate and leave the least competitive part, the cellulosic requirement, intact.
  • Let producers drive alternative fuel innovation. Use repeal of the mandate as momentum for greater reform in the energy sector. Such future reform should include a further leveling of the playing field for all energy companies and technologies. Congress should also remove preferential treatment for all transportation fuels and technologies.

Conclusion

Favoritism toward biofuels and bioenergy has promised much but delivered very little. While a select few benefit from special treatment, bioenergy policies have come at significant cost to taxpayers, energy consumers, the environment, the world’s hungriest citizens, and the large segment of the agricultural community that does not profit from the subsidies and Renewable Fuel Standard. Policy reforms that removed handouts would promote competition and fuel choice.

—Nicolas D. Loris is Herbert and Joyce Morgan Fellow in Energy and Environmental Policy in the Thomas A. Roe Institute for Economic Policy Studies, of the Institute for Economic Freedom and Opportunity, at The Heritage Foundation.

About the Author

Nicolas Loris Herbert and Joyce Morgan Fellow in Energy and Environmental Policy
Thomas A. Roe Institute for Economic Policy Studies

Show references in this report

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[8] U.S. Department of Energy, “Ethanol Blends.”

[9] Ibid.

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[12] Ibid.

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[14] News release, “API and AFPM Tell EPA to Put Consumers First When Setting Ethanol Mandates,” American Petroleum Institute, July 27, 2015, http://www.api.org/news-and-media/news/newsitems/2015/july-2015/api-and-afpm-tell-epa-to-put-consumers-first-when-setting-ethanol-mandates (accessed July 20, 2016); Natural Resources Defense Council, “Let the VEETC Expire: Save Billions in Tax Dollars Better Spent on Non-Polluting Energy Technologies,” Green Jobs Facts, June 2010, http://www.nrdc.org/globalwarming/files/VEETCfs.pdf (accessed July 20, 2016); Sarah Kalloch, “Burning Down the House: Corn as Fuel, Not Food,” Oxfam America, October 4, 2012, http://politicsofpoverty.oxfamamerica.org/2012/10/corn-as-fuel-not-food/ (accessed July 19, 2016); news release, “EPA’s Biofuels Mandates Are Unworkable,” Environmental Working Group, February 7, 2013, http://www.ewg.org/release/epa-s-proposed-biofuels-mandates-are-unworkable (accessed July 20, 2016).

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[18] U.S. Department of Energy, Energy Information Administration, “Petroleum & Other Liquids: Oxygenate Production.”

[19] U.S. Department of Energy, Office of Energy Efficiency and Renewable Energy, Alternative Fuels Data Center, “Ethanol Fuel Basics,” March 30, 2016, http://www.afdc.energy.gov/fuels/ethanol_fuel_basics.html (accessed July 23, 2016).

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[21] Randy Schnepf, “Agriculture-Based Biofuels: Overview and Emerging Issues,” Congressional Research Service Report for Congress, May 1, 2013, p. 29, http://nationalaglawcenter.org/wp-content/uploads/assets/crs/R41282.pdf (accessed July 19, 2016).

[22] Nicolas D. Loris, “Congress Should Scale Back the Renewable Fuel Standard—to Zero,” Heritage Foundation Issue Brief No. 4012, August 13, 2013, http://www.heritage.org/research/reports/2013/08/renewable-fuel-standard-congress-should-scale-back-to-zero#_ftn5.

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[25] AAA, “Daily Fuel Gauge Report: National Average Gas Prices,” http://fuelgaugereport.aaa.com/todays-gas-prices/ (accessed February 8, 2016).

[26] Ibid.

[27] U.S. Department of Energy, Energy Information Administration, “Increasing Ethanol Use Has Reduced the Average Energy Content of Retail Motor Gasoline,” Today in Energy, October 27, 2014, http://www.eia.gov/todayinenergy/detail.cfm?id=18551 (accessed July 21, 2016).

[28] U.S. Department of Energy, Office of Energy Efficiency and Renewable Energy, and U.S. Environmental Protection Agency, Office of Transportation and Air Quality, “New Flex-Fuel Vehicles,” http://www.fueleconomy.gov/feg/PowerSearch.do?action=noform&path=1&year1=2014&year2=2015&vtype=E85&srchtyp=newAfv (accessed July 21, 2016).

[29] U.S. Department of Energy, Energy Information Administration, “U.S. Regular All Formulations Retail Gasoline Prices (Dollars per Gallon),” July 18, 2016, http://www.eia.gov/dnav/pet/hist/LeafHandler.ashx?n=PET&s=EMM_EPMR_PTE_NUS_DPG&f=A (accessed July 23, 2016).

[30] Numbers exceed 100 percent due to rounding. Schnepf, “Agriculture-Based Biofuels,” p. 10.

[31] Colin Carter, Gordon Rausser, and Aaron Smith, “Commodity Storage and the Market Effects of Biofuel Policies,” University of California–Davis, Department of Agricultural and Resource Economics, http://arefiles.ucdavis.edu/uploads/filer_public/81/ba/81ba961d-fe7b-4629-8511-1b78fdf3b527/carter_rausser_smith.pdf (accessed July 21, 2016).

[32] U.S. Department of Commerce, U.S. Census Bureau, Statistical Abstract of the United States: 2012, p. 548, Table 852, “Selected Farm Products—U.S. and World Production and Exports: 2000 to 2010,” https://www.census.gov/prod/2011pubs/12statab/agricult.pdf (accessed July 21, 2016).

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[34] Steve Hargreaves, “Calls to Scrap Ethanol Mandate Intensify with Drought,” CNN Money, August 6, 2012, http://money.cnn.com/2012/08/06/news/economy/ethanol-drought/ (accessed July 19, 2016).

[35] U.S. Department of Agriculture, Economic Research Service, “U.S. Bioenergy Statistics: Overview,” Table 5, “Corn Supply, Disappearance, and Share of Total Corn Used for Ethanol,” last updated July 6, 2016, http://www.ers.usda.gov/data-products/us-bioenergy-statistics.aspx (accessed July 21, 2016); U.S. Environmental Protection Agency, “Fuels Registration, Reporting, and Compliance Help,” April 28, 2016, http://www.epa.gov/otaq/fuels/rfsdata/2012emts.htm (accessed July 23, 2016).

[36] Letter from Michael C. Formica to Lisa Jackson, “RE: Petition for Waiver or Partial Waiver of Applicable Volume of Renewable Fuel.”

[37] Sunil Dhoubhadel, Azzeddine Azzam, and Matthew Stockton, “The Impact of Biofuels Policy and Drought on the U.S. Grain and Livestock Markets,” Journal of Agricultural and Applied Economics, Vol. 47, No. 1 (2015), pp. 77–103, http://journals.cambridge.org/download.php?file=%2F3152_77B27E1A13C3BE5D0D0D0E0518D7674B_journals__AAE_AAE47_01_S1074070814000066a.pdf&cover=Y&code=8cf94e31d1162a01454f2789ffa4ab4d (accessed July 21, 2016).

[38] See Aziz Elbehri, Anna Segerstedt, and Pascal Liu, Biofuels and the Sustainability Challenge: A Global Assessment of Sustainability Issues, Trends and Policies for Biofuels and Related Feedstocks, United Nations, Food and Agriculture Organization, Trade and Markets Division, 2013, http://www.fao.org/docrep/017/i3126e/i3126e.pdf (accessed July 21, 2016); Tim Searchinger and Ralph Heimlich, “Avoiding Bioenergy Competition for Food Crops and Land,” World Resources Institute Working Paper, January 2015, http://www.wri.org/sites/default/files/avoiding_bioenergy_competition_food_crops_land.pdf (accessed July 21, 2016); Richard Doornbosch and Ronald Steenblik, “Biofuels: Is the Cure Worse than the Disease?” Document SG/SD/RT(2007)3/REV1, prepared for Organisation for Economic Co-operation and Development, Round Table on Sustainable Development, September 11–12, 2007, http://www.oecd.org/sd-roundtable/39411732.pdf (accessed July 21, 2016); World Bank, “How Global Biofuel Expansion Could Affect the Economy, Environment and Food Supply,” Data & Research, June 27, 2011, http://econ.worldbank.org/WBSITE/EXTERNAL/EXTDEC/0,,contentMDK:22946809~pagePK:64165401~piPK:64165026~theSitePK:469372,00.html (accessed July 21, 2016).

[39] Colin A. Carter and K. Aleks Schaefer, “US Biofuels Policy, Global Food Prices, and International Trade Obligations,” American Enterprise Institute Economic Perspectives, May 2015, https://www.aei.org/wp-content/uploads/2015/05/US-biofuels-policy.pdf (accessed July 21, 2016); David W. Kreutzer, “The Renewable Fuel Standard, Ethanol Use, and Corn Prices,” Heritage Foundation Backgrounder No 2727, September 17, 2012, http://www.heritage.org/research/reports/2012/09/the-renewable-fuel-standard-ethanol-use-and-corn-prices.

[40] “[M]ost economists and market analysts…also are nearly universally agreed that the strong, steady growth in ethanol demand for corn has had an important and sustained upward price effect, not just on the price of corn, but in other agricultural markets including food, feed, fuel, and land.” Schnepf, “Agriculture-Based Biofuels,” p. 14.

[41] U.S. Department of Agriculture Economic Research Service, “Bioenergy: Findings,” http://www.ers.usda.gov/topics/farm-economy/bioenergy/findings.aspx (accessed July 19, 2016).

[42] Schnepf, “Agriculture-Based Biofuels,” p. 9; Carter, Rausser, and Smith, “Commodity Storage and the Market Effects of Biofuel Policies.”

[43] Institute for Energy Research, “How Big Ethanol Hopes You’re a Dope,” September 3, 2013, http://instituteforenergyresearch.org/analysis/how-big-ethanol-hopes-youre-a-dope-2/ (accessed July 21, 2016).

[44] U.S. Department of Energy, Energy Information Administration, “Emissions of Greenhouse Gases in the U.S.,” March 31, 2011, http://www.eia.gov/environment/emissions/ghg_report/ghg_overview.cfm (accessed July 21, 2016).

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[48] Intergovernmental Panel on Climate Change, Working Group II, Climate Change 2014, Impacts, Adaptation, and Vulnerability, IPCC WGII AR5, Final Draft, Chapter 13, “Livelihoods and Poverty,” October 28, 2013, http://ipcc-wg2.gov/AR5/images/uploads/WGIIAR5-Chap13_FGDall.pdf (accessed July 21, 2016).

[49] U.S. Environmental Protection Agency, “Regulation of Fuels and Fuel Additives: Changes to Renewable Fuel Standard Program: Final Rule,” Federal Register, Vol. 75, No. 58 (March 26, 2010), Part II, p. 14683, https://www.gpo.gov/fdsys/pkg/FR-2010-03-26/pdf/2010-3851.pdf (accessed July 21, 2016). Other studies have examined the impact of increased corn or cellulosic ethanol (independent of the mandate) on individual air pollutants like particulate matter or ozone. Jason Hill, Stephen Polasky, Erik Nelson, David Tilman, Hong Huo, Lindsay Ludwig, James Neumann, Haochi Zheng, and Diego Bonta, “Climate Change and Health Costs of Air Emissions from Biofuels and Gasoline,” Proceedings of the National Academy of the Sciences, Vol. 106, No. 6 (February 10, 2009), http://www.pnas.org/content/106/6/2077.full.pdf+html (accessed July 21, 2016); Diana L. Ginnebaugh and Mark Z. Jacobson, “Examining the Impacts of Ethanol (E85) Versus Gasoline Photochemical Production of Smog in a Fog Using Near Explicit Gas- and Aqueous-Chemistry Mechanisms,” Environmental Research Letters, Vol. 7, No. 4 (November 6, 2012), http://iopscience.iop.org/article/10.1088/1748-9326/7/4/045901/pdf (accessed July 21, 2016).

[50] Amani Elobeid, Miguel Carriquiry, Jacinto F. Fabiosa, Kranti Mulik, Dermot J. Hayes, Bruce A. Babcock, Jerome Dumortier, and Francisco Rosas, “Greenhouse Gas and Nitrogen Fertilizer Scenarios for U.S. Agriculture and Global Biofuels,” Iowa State University, Center for Agricultural and Rural Development Working Paper No. 11-WP 524, June 2011, http://ageconsearch.umn.edu/bitstream/107043/2/11-WP_524.Jun6Revise.pdf (accessed July 19, 2016).

[51] Friedrich Hayek, The Fatal Conceit: Errors of Socialism, Vol. 1 of The Collected Works of Friedrich August Hayek, ed. W. W. Bartley III (London: Routledge, 1988), p. 76, http://www.libertarianismo.org/livros/fahtfc.pdf (accessed July 19, 2016).

[52] U.S. Department of Energy, Energy Information Administration, “RINs and RVOs Are Used to Implement the Renewable Fuel Standard,” Today in Energy, June 3, 2013, http://www.eia.gov/todayinenergy/detail.cfm?id=11511 (accessed July 21, 2016).

[53] U.S. Department of Energy, Energy Information Administration, “What Caused the Run-Up in Ethanol RIN Prices During Early 2013?” Today in Energy, June 13, 2013, http://www.eia.gov/todayinenergy/detail.cfm?id=11671 (accessed July 21, 2016).

[54] Bradley Olson and Dan Murtaugh, “Ethanol Upending Refiners Pushes $13 Billion on U.S. Drivers,” Bloomberg, March 19, 2013, http://www.bloomberg.com/news/2013-03-18/refiners-pay-price-as-traders-hoard-ethanol-credits-valero-says.html (accessed July 19, 2016).

[55] For an up-to-date display of RIN prices and trading, see Progressive Fuels Limited, “PFL Weekly RIN Recap,” http://www.progressivefuelslimited.com/web_data/PFL_RIN_Recap.pdf.

[56] Nera Economic Consulting, “Economic Impacts Resulting from Implementation of the RFS2 Program,” July 27, 2015, http://www.nera.com/content/dam/nera/publications/2015/NERA_FINAL_API_RFS2_July27.pdf (accessed July 21, 2016). Prepared for the American Petroleum Institute.

[57] Schnepf, “Agriculture-Based Biofuels.”

[58] U.S. Department of Energy, Office of Energy Efficiency and Renewable Energy, Alternative Fuels Data Center, “Flexible Fuel Vehicles,” last updated May 13, 2016, http://www.afdc.energy.gov/vehicles/flexible_fuel.html (accessed July 21, 2016).

[59] Schnepf, “Agriculture-Based Biofuels,” pp. 11, 13, and 17.

[60] Ibid., p. 14.

[61] Purportedly, one of the reasons why Congress capped corn-based ethanol targets at 15 billion gallons annually was to address concerns that the mandate would divert corn used for fuel. Consequently, cellulosic biofuels were introduced into the mandate.

[62] U.S. Environmental Protection Agency, “Fuels Registration, Reporting, and Compliance Help.”

[63] American Petroleum Institute vs. Environmental Protection Agency, 906 F.2d 729 (2013) [D.C. Circuit Court].

[64] Schnepf, “Agriculture-Based Biofuels,” p. 18.

[65] News release, “Toomey, Feinstein Introduce Bill to Repeal Ethanol Mandate,” Office of Senator Pat Toomey, February 26, 2015, http://www.toomey.senate.gov/?p=news&id=1496 (accessed July 21, 2016).