SREs Equal Demand Destruction? Look at the Data, Both Sides Argue
Source: By Jordan Godwin, OPIS • Posted: Friday, September 21, 2018
Most ethanol and corn proponents say yes, while those on the refiner side of RFS compliance obligation say no. Searing for tangible evidence and truth in the data released by the U.S. Energy Information Administration (EIA), both sides seem to find ways to use the same numbers to support their claims.
A look at EIA’s weekly refiner and blender net input of fuel ethanol into the gasoline pool data released Wednesday morning showed that through the first 37 weeks of 2018, demand for the biofuel has averaged 912,324 b/d, marginally higher than the average from the same period of 2017, 911,405 b/d. Recent studies, however, have cautioned against purely relying on the weekly figures to gauge demand, evaluating demand with more nuanced approaches.
Two analytical studies released at the end of last week — one from the University of Illinois Urbana-Champaign and the other from Charles River Associates (CRA) — largely contend that demand destruction has been minimal to non-existent. The Renewable Fuels Association (RFA) rebutted both reports on Tuesday, continuing to argue that the EPA’s nearly 50 SREs granted for compliance years 2016 and 2017 have eliminated some 2.25 billion gal of RFS blending requirements.
“Not coincidentally, there have been announcements in the last week that three ethanol plants are closing and at least one more is reducing production,” RFA said, pointing to idled plants from Green Plains and an upcoming plant closure from Ergon. “How can anyone argue this isn’t demand destruction?”
The University of Illinois Urbana-Champaign analysis paper, “Small Refinery Exemptions and Ethanol Demand Destruction,” was written by Scott Irwin, chairman of agricultural marketing in the school’s Department of Agricultural and Consumer Economics.
Irwin acknowledged that the SREs have increased the supply of RINs substantially, causing a decline in RIN prices, which ethanol proponents argue have reduced incentives for physical blending of ethanol.
Irwin evaluated three measures of the ethanol blend rate — monthly net input of ethanol as a percent of net U.S. production of motor gasoline blended with ethanol, monthly implied domestic consumption of ethanol as a percent of U.S. finished motor gasoline supplied and monthly implied domestic consumption of ethanol as a percent of U.S. finished motor gasoline supplied and motor gasoline exports.
“There is little if any evidence that the blend rate for ethanol was reduced as the waivers went into effect,” Irwin concluded. “If there has been any ethanol ‘demand destruction’ to date it was very small.”
Irwin estimated that a drop in the ethanol blend rate of as little as one-tenth of a percent would equate to only about 140 million gal of ethanol consumption on an annual basis.
Irwin said that E15 and E85 demand has likely seen a drop-in demand since the extent of the SREs became known, but added that the consumption of E15 and E85 is so small and difficult to measure that it barely registers in the aggregate statistics in physical ethanol consumption.
Irwin, however, warned that if the price of ethanol increases sharply at some point in the future, ethanol could become expensive enough relative to gasoline that SREs could result in some destruction of physical demand for ethanol. RFA says ethanol prices are at a 13-year low.
In its response, RFA said that only one of Irwin’s measures of the blend rate was suitable — the monthly domestic consumption of ethanol as a percent of the domestic consumption of gasoline. And it added that using that method should have given a 9.85% blend rate for the five months from February through June based on the most recent EIA figures, starting with the post-SRE period, a number that is well below the 10.17% average blend rate for the prior 12 months and the 10.37% average for the prior five months.
The ethanol industry trade group calculated this would amount to a reduction in ethanol consumption of approximately 450 million gal versus if the 12-month blend rate had been maintained and 730 million gal loss compared with the five-month blend rate.
The 15-page report from CRA, “Economics of Small Refinery Exemptions under the RFS,” explored the impact the SREs have had on RINs prices as well as the ethanol blending impacts of SREs. While CRA disclosed that the study was commissioned by Valero Energy, an independent refiner and biofuel producer, it said the research, analysis, results and conclusions were all developed independently by the authors.
On the pricing impact, CRA said the nearly 50 SREs EPA awarded this year for 2016 and 2017 obligations may have helped hold ethanol RINs prices slightly below biodiesel RINs prices, but they did not lead to D6 credit prices falling below the level needed to incentivize ethanol blending at volumes up to the blend wall. In current market conditions, that “needed” RIN price is actually below zero, CRA said.
The consultancy said that the key non-RFS drivers of blending ethanol are the biofuel’s ability to serve as an oxygenate, enhance octane levels in motor gasoline blends and compete competing directly on price with petroleum feedstocks. If those non-RFS drivers led to an ethanol blend rate above the RFS mandate, the price of ethanol RINs would be at or near zero as they were for much of the early part of the program, CRA said.
CRA pointed to EIA monthly data that it said shows the ethanol/gasoline blend rate over the first six months of 2018 was 9.87%, above the same period in any other year since the RFS program began. CRA said historical data suggest that blend rates typically do not move with RINs prices.
The report concluded that while the SREs may have contributed to the RINs price decline, they have not impaired the incentive to blend ethanol up to the blend wall and because of that have not eroded ethanol demand.
“We verified this finding with an analysis of historical and recent blend rates, which have not shown the drop cited by opponents of SREs,” CRA said.
“Therefore, SREs have provided relief to small refineries while not impacting ethanol volumes blended into motor gasoline. In fact, the volume of ethanol blended continues to rise.”
But RFA argued that CRA failed to take into account adjustments EIA makes in its monthly ethanol balance table needed to calculate consumption properly and calling its estimates “erroneous.”
“The logic in the CRA report is convoluted, there are misstatements regarding basic RIN mechanics, and the report demonstrates a lack of understanding of ethanol/RFS economics,” the organization said.
In this battle of dueling statistics, RFA has repeatedly cited an August report compiled by the University of Missouri’s Food and Agricultural Policy Research Institute (FAPRI) that it said showed 4.6 billion gal of U.S. ethanol demand, valued at roughly $20 billion, could be lost to the industry if EPA continues its more relaxed policy toward granting SREs. The FAPRI report, which was published as an update to its March Baseline Outlook for Agricultural and Biofuel Markets, said that assuming no change in SRE policy, the average ethanol inclusion rate in gasoline would fall below 10% next year and steadily decline to 9.5% by 2023.
Marty Ruikka, principal analyst at ProExporter, said in an interview with OPIS that while he believes the SREs have caused significant demand destruction in RINs, the data do not suggest a substantial decline in the physical blending of ethanol.
“Everybody that’s having these discussions can cherry pick their numbers,” Ruikka said. “I have very close relationships with corn growers and ethanol associations, and I know there are problems [in these high numbers of demand destruction]. I have made clear to them that I agree there is demand destruction in RINs, but not in physical.”
Ruikka estimated that if nothing changes this year or the next, he believes there will be even more degrading of RINs prices to a sub-10ct level. He said that since the RFS limits carryover RINs to no more than 20% in the following compliance year, the program will likely be at “full carry” in 2019.
–Jordan Godwin, jgodwin@opisnet.com