Surging credit prices have some asking if ‘blend wall’ is near

Source: Amanda Peterka, E&E reporter • Posted: Tuesday, March 19, 2013

The price of an industry credit for blending a gallon of ethanol with gasoline spiked March 8 to $1.10 — much to the shock of refiners and market watchers that had become accustomed over the last few years to seeing the price languish at less than a nickel a gallon.

Prices for the biofuel production credits then swung last week between 60 cents a gallon and about 90 cents.

“This is the signal that we’re seeing the blend wall, and we have an issue here that’s got to be resolved,” said Joanne Shore, an analyst at American Fuel & Petrochemical Manufacturers.

The “blend wall” is where ethanol makes up 10 percent of the total motor fuel market. Ten percent is the maximum amount of ethanol that U.S. EPA allowed in gasoline until last year, when the agency issued final approval for E15, gasoline containing 15 percent ethanol. But it’s not easy to find a service station selling E15.

The blend wall exists because of how Congress wrote the renewable fuel standard (RFS) into the 2007 Energy Independence and Security Act. The RFS this year requires the blending this year of 13.8 billion gallons of corn-based ethanol into the nation’s fuel supply. Motor fuel consumption in the United States was about 134 billion gallons last year, and it is expected to be about 133 billion gallons this year.

So let’s do the math: 10 percent of 133 billion gallons is 13.3 billion. That’s less than the 13.8 billion mandated by the energy law.

Bottom line: The renewable fuel standard’s target for ethanol this year is greater than the amount of ethanol that is practically available in the marketplace.

The credits in question are known by their 38-digit Renewable Identification Numbers, or RINs. A RIN is used to demonstrate a gallon of ethanol has been blended into gasoline. It is assigned not at an ethanol plant but at a blending facility at the time the corn-based fuel is mixed into gasoline, and it is tracked by EPA through an electronic monitoring system.

Once a RIN is created, it can be traded between refiners to help them meet their RFS obligations. Individual RINs can be carried over between compliance periods to meet requirements.

“The idea was to allow some refiners to blend ethanol beyond what their obligation would be and sell those excess credits to other refiners who may not blend as much ethanol,” said Rich Moskowitz, general counsel at American Fuel & Petrochemical Manufacturers.

Now, RINs have turned into a valuable commodity, said Stephen Brown, vice president for federal affairs at Tesoro Corp.

“If you’re holding RIN credits, you’re now really in the driver’s seat,” he said.

The run-up in RIN prices the last few weeks has not been completely explained — there is no shortage of ethanol in the market. Industry observers say it appears that refiners, spooked by the prospect of not having a market for their physical gallons and not meeting their requirements for future compliance years, have made a run on credits.

In recent weeks, a scarcity of RINs caused by refiners and fuel importers gobbling up available credits likely drove up prices, analysts say.

“The E10 market is saturated,” said Wyatt Thompson, an associate professor of agricultural economics at the University of Missouri. “Fuel blenders that have to have enough RINs to meet their requirements under the RFS may be having a harder time acquiring the RINs than they have before, and they seem to have bid the price higher.”

Oil versus biofuels

While higher RIN prices have come suddenly — the price of a RIN in January was only about 7 cents — the increase was not unexpected.

The demand for gasoline has fallen over the past several years due to the recession and increased fuel efficiency in vehicles; lawmakers had expected fuel use to keep rising when they wrote the RFS into law in 2007. Experts have predicted RIN prices would rise to 70 or 80 cents a gallon as the market nears the blend wall.

It’s unclear yet where the price will settle after the recent market volatility, but if the blend wall has indeed been breached, it’s likely higher prices are here to stay.

Whether that will translate into higher prices at the gasoline pump for consumers or cause ethanol exports to rise is disputed.

Moskowitz said that every refiner will approach the problem from an individual company’s perspective. The higher RIN prices will erode refiners’ margins by some percentage, and some will likely have to be passed on to the consumer, he said.

Ethanol producers, though, dispute the notion that higher RIN prices will lead to higher gas prices.

Ethanol currently sells at a discount to gasoline: For the year so far, a gallon of E10 has averaged $0.058 less than a gallon of straight gasoline, according to the Renewable Fuels Association.

Even if RIN prices averaged 80 cents the rest of the year, RFA economist Geoff Cooper wrote in a blog post last week, E10 would still be 5 cents per gallon cheaper than straight gasoline — though ethanol opponents argue that a car doesn’t go as far on a gallon of E10 as it does on gasoline.

Higher gas prices are due not to ethanol but to high refinery margins and demand for gasoline by other countries, ethanol groups argue.

The blend wall and all the issues associated with it are “a creation of the oil companies’ own making,” said Bob Dinneen, president and CEO of the Renewable Fuels Association.

The ethanol industry argues that oil companies lobbied for the credit-trading system outside the realm of regulation at the time the RFS was put in place in 2007 in order to have flexibility. Oil companies are writing “revisionist history” by complaining of high RIN prices, said Brian Jennings, executive director of the American Coalition for Ethanol.

“The RIN is the idea of these oil companies,” Jennings said. “It’s the credit that they wanted.”

Oil companies, ethanol advocates say, have had several years to prepare for the RFS’s rising ethanol targets. But instead of putting money into updating infrastructure for higher ethanol blends, they’ve put more effort into trying to fight the standard, according to ethanol producers.

When the RFS was expanded in 2007 to require 36 billion gallons of biofuels by 2022, “the expectation was that refiners and markets would invest in the infrastructure to accommodate E85 [the fuel put into flex-fuel vehicles] and other blends,” Dinneen said. “But the oil companies have just refused to make the investments.”

If refiners wanted to get past the issues with the blend wall, the ethanol industry says, they would work to roll out E15, which would expand the ethanol marketplace to about 20 billion gallons, according to RFA.

But oil companies are using the blend wall as a way to maintain their monopoly on the fuel market, said Advanced Ethanol Council Executive Director Brooke Coleman. According to analysts, there are 2.5 billion carry-over RINs already in the market that refiners could use toward their 2013 requirements.

“In essence, the RFS is telling oil companies (because fuel markets are not free markets) to blend more of a domestically produced, renewable and cheaper fuel,” Coleman wrote in response to a Wall Street Journal editorial last week blaming high gas prices on high RIN prices. “The oil industry is responding by leaning too heavily on RIN markets to avoid blending more” of the fuel.

Push for E15

The ethanol industry is hoping the rise in RIN prices will spur refiners toward investing in E15.

But Andrew Soare, a renewable energy analyst at Lux Research, says that the RIN price — high as it is — might not be high enough to push oil companies toward alternatives.

“The argument is that refiners, oil companies, could, instead of paying this high price for RINs, could stimulate the market and help build out the infrastructure for E15 or E85,” Soare said. “In reality, I think it’s cheaper to just pay the RIN or pay the penalty than it is to try to develop E15 infrastructure for these oil companies.”

Refiners have so far largely refused to produce E15 and have taken EPA to court over its approval of the fuel, because they’re worried about liability issues that could arise should any vehicles suffer damage from using the fuel (see related story).

For example, Valero Energy Corp. — which is somewhat of an anomaly in that it is both a refiner and the third-largest ethanol producer in the country — has publicly said that all company-owned and -operated stores would not sell the fuel.

“There’s no liability protection. It’s not approved for use in all vehicles,” Valero spokesman Bill Day said in a recent interview. “So it’s not something that’s practical for petroleum fuels marketers.”

The ethanol industry, though, is skeptical of the oil industry’s arguments. Oil trade groups have made no secret of their distaste for federal biofuel policies and have vowed to dismantle the renewable fuel standard this year on Capitol Hill and in federal courts.

“I think all this stuff is just being used as an excuse to go after the renewable fuel standard,” Tom Buis, CEO of ethanol trade group Growth Energy, said of the RIN price scare. “Obviously, the easy answer to this is to just start blending higher blends.”