People have enjoyed ethyl alcohol for 10,000 years, but today it holds a new
fascination. It carries energy, and it works like this. First, capture solar
energy and CO2 in an ear of corn. Then, ferment the corn. Put it in
your gas tank and drive around thumbing your nose at the rich oil sheiks and
terrorists. Now that's an energy policy.
In 2006, the US produced 4.9 billion gallons of ethanol,
and subsidized every one with a federal 51˘ blender's credit. On top of that
$2.5 billion, the USDA paid $0.9 billion in subsidies for corn used to make
ethanol. But drivers outdid the federal government by paying $3.9 billion
extra at the gas pump, on an energy equivalent basis, to let their cars sip
corn whisky. In return, we are 1.1% more energy independent, and GHGs were
reduced 1/19 of 1%.
Is it worth it? Surprisingly, this question has been
preempted by a controversy over whether ethanol has a "negative net energy
balance." The controversy stems from the fact that it takes fossil energy, as
well as corn, to make ethanol. So replacing a gallon of gasoline with ethanol
both saves and consumes fossil fuel. If the production process uses more
energy than the ethanol saves, the net energy balance of ethanol is negative.
While net energy is an interesting question, it's not the
question that needs answering. Even if it were negative, ethanol could be
produced with American coal and would replace foreign oil. This would still
help make the US energy independent. And if the energy balance is positive,
ethanol might still be a bad idea. If it saves too little and costs too much,
it's just not worth it. There are many better possibilities.
Just for the record, an article in the July 2006 issue of
the Proceedings of the National Academy of Science (Hill, 2006) puts ethanol's
net energy balance at +25%. It takes 1 GGE of non-corn energy to make 1.25 GGE
of ethanol. This clears the way for the two basic energy-policy questions: (1)
how much does it cost to reduce GHG emissions with ethanol? (2) How much does
it cost to reduce energy imports with ethanol?
Reducing Energy Imports
Ethanol faces two challenges as it replaces fossil imports: First, ethanol
contains less than 2/3 the energy of gasoline on a gallon-for-gallon basis.
Second, producing ethanol uses a significant amount of natural gas, which
increase fossil imports. This is a problem because imports now account for 30%
of total US energy use.
In January 2007, testifying before Congress, Keith Collins,
the chief economist of the US Department of Agriculture testified that "In
2006, ethanol production, on an energy content basis, was equivalent to only
1.5 percent of U.S. crude oil imports." (USDA, 2007) In March he
presented a graph predicting ethanol output would increase rapidly through
2010 and then gradually increase to 12 billion gallons in 2017 (USDA, 2007b),
which would save 3.7% of oil imports if those stayed constant over the next
But his figure is for
oil independence, not
The US is also dependent on natural gas imports. "Imports of natural gas are
projected to rise to meet an increasing share of domestic consumption,"
according to DOE (2007b). That increase is already happening and it's LNG,
liquefied natural gas, from overseas, not Canadian gas, which is declining.
LNG imports will have all the same problems as oil imports. Because making
nitrogen fertilizer for corn uses a lot of natural gas, corn ethanol scores
worse on energy independence than normally assumed. Correcting for natural gas
imports reduces the USDA's 1.5% to 1.1% for 2006, and reduces the impact from
3.7% in 2017 to only 2.8%.
USDA projections indicate corn
ethanol will contribute only 2.8% to energy independence by 2017, with little
Although higher estimates for ethanol's contribution can be found, they are
based on one of two errors. Some count only imports used to make gasoline, and
some ignore the fact that a gallon of ethanol contains less energy than a
gallon of gasoline.
Reducing GHG Emissions
In theory, use of ethanol releases no net CO2, because all of the
carbon in corn ethanol was taken out of the atmosphere by the growing corn.
The corn plant sequesters even more CO2 in its stalk, leaves and
roots, but this has no net effect because these plants are not stored, they
are ploughed under or fed to animals. Within a year or two they have
decomposed and the carbon has returned to the atmosphere. The overall zero net
effect is the meaning of "carbon neutral." In practice, however, several steps
in the production of ethanol are energy intensive, and thus result in the net
production of GHG emissions, even when compared to the production of other
fossil fuels. The energy-intensive steps in ethanol production include
processes such as making nitrogen fertilizer and burning coal for heat in
The National Academy of Sciences' paper cited above
includes an estimate of net impact on GHG emissions from growing corn and
Relative to the fossil fuels they
displace, greenhouse gas emissions are reduced only 12% by the production and
combustion of ethanol. (Hill, 2006)
One unexpected reason for this meager result is that nitrogen fertilizer and
soil microbes can work together to release N20, a potent GHG. UC
Berkeley's Renewable and Appropriate Energy Laboratory published a slightly
higher GHG reduction rate, but soon corrected it down to 8% (Farrell, 2006).
Using Hill's 12% values, the impact of ethanol on GHGs in 2006 was less than
0.054% (about one-twentieth of 1%). By 2017, this will grow to just over
one-tenth of 1%.
Estimates of corn ethanol's
contribution to GHG abatement, published by the National Academy of Sciences,
place its total contribution in 2017 at just over 1/10th of 1%,
with little increase thereafter.
Who Gets the Subsidies?
From the start, the corn ethanol industry was built on subsidies. Without them,
it would not exist. So, to understand the instustry we must follow the
subsidies. In an ideal subsidy program the money will go to pay for the costs of
producing the product being subsidized. It will pay for fertilizer, coal, bricks
and so forth, and it will not go to windfall profits. Of course, even if the
subsidy goes where it should, this does not prove the subsidy is a good idea. It
only proves we are getting what we paid for. Now let's follow the subsidies. In
order to understand the true cost of ethanol, we have to distinguish subsidies
that actually get spent on additional resources used to produce ethanol --
fertilizer, coal, and so forth -- from subsidies that are needed to induce
farmers and manufacturers to produce ethanol. To do this we need to
examine the various subsidies available for ethanol production.
Direct subsidies are paid out of taxes. As mentioned earlier, in 2006 ethanol
received $2.5 billion in direct subsidies paid to blenders. The 51˘ per gallon
"blender's credit" is paid to those who blend ethanol with gasoline before
selling it to gas stations. Although it's paid to blenders, this is a
competitive business and the market prevents them from profiting from it.
Instead, the credit is passed on to producers or consumers depending on the
relative price of gasoline and ethanol. Since markets often play tricks on
regulators, this is worth a closer look.
Suppose oil prices are high enough that ethanol and
gasoline cost the same to produce; say
that's $2.00 per gallon. Ethanol producers will take advantage of the fact
that blenders want the 51˘ credit, so they will push the wholesale price of
ethanol all the way to $2.51, at which point blenders will still see it as
just as costly as gasoline in spite of the subsidy. The USDA notes that over
the past 25 years, the ethanol producers did in fact push the price this high,
in fact, they pushed it about 3˘ higher. The result is that producers have
captured all of the subsidy paid to blenders. This was probably the intention,
but notice that with gasoline costing just as much as ethanol, the producers
don't need any subsidy—the subsidy simply provides them with windfall profits.
Now suppose the producers did need the full subsidy because
ethanol actually cost $2.51 to produce. They would still charge $2.51 and the
blenders would still get the 51˘ credit so the ethanol would have a net cost
to blenders of $2.00 ($2.51 less the $0.51 credit) just as before. But this
time the benefit goes to the consumer. Without the subsidy, the consumer would
have to pay $2.51 (plus a markup) for the ethanol, the full wholesale price.
With the subsidy, the consumer only pays $2.00 (plus a markup), so the
consumer gets the full benefit of the subsidy.
If ethanol costs the same as gasoline, the
subsidy actually is not needed; it goes to producers as windfall
If ethanol costs more to produce than
gasoline, and the full subsidy is needed, the ethanol subsidy goes to the
When ethanol costs more to produce than gasoline, but the consumer captures
the blender's credit, the producers still do just fine. The demand for
ethanol, partially the result of state requirements, will assure that the
price ethanol producers are paid will be driven up to a level that covers
Corn subsidies, like other agricultural subsidies,
are enormously complicated. Collins (USDA, 2007) values them at about $8
billion in 2006 and $4.5 billion in 2005. But only 20% of the 2006 corn
harvest was used for ethanol (USDA, 2007), and less was used in 2005. So the
subsidy for ethanol corn fell from $1.3 billion in 2005 to under $0.9 billion
in 2006. Part of the corn subsidy goes away when corn prices are high, as they
were in 2006.
Indirect subsidies are paid by consumers through high prices at the pump. The
USDA found that between 1982 and 2006 the wholesale price of ethanol averaged
57˘ more than the wholesale price of gasoline (USDA 2007c). The average
subsidy during that period was 54˘. From the blender's perspective, after the
subsidy, the price of ethanol was just 3˘ more than the cost of gasoline.
Apparently there is a strong tendency for the price of ethanol to equal the
price of gasoline, but something is giving the ethanol price a little boost.
Although it may seem obvious that ethanol and gasoline
would sell for the same price per gallon, the USDA's chief economist points
out that with more supply, the premium could "decline toward ethanol’s energy
equivalent with gasoline." (USDA, 2007) In other words, Collins is saying that
in a balanced market, ethanol and gasoline will tend to sell for the same
price per energy, not the same price per gallon. That seems reasonable since
it's energy that powers a car, and not just gallons. There is already some
downward price pressure on the E85 market where people are noticing that they
get fewer miles per gallon, because with 85% ethanol, its a big effect.
But the USDA found that for the last 25 years there was no
tendency towards this balance. Ethanol and gasoline have sold at the same
price per gallon (after subtracting the subsidy) and not at the same price per
energy. Ethanol selling at the same price per energy as $2.00 gasoline would
not sell at $2.00 per gallon but at $1.33 per gallon. At $2.00 per gallon,
ethanol is getting a 67˘ price subsidy simply because its lack of energy is
ignored by the market.
Why does the market make this mistake? First, consumers
often don't know they are buying the ethanol--it's just blended in for smog
control. Second, they have no choice because all gasoline has it included.
Third, very few people know it has less energy. These market anomalies are the
source of the mis-pricing and the primary source of ethanol's indirect
subsidy. In 2006, because of the MTBE phaseout and the switch to ethanol as an
additive, wholesale ethanol sold (after subtracting the subsidy) for 13˘ more
per gallon than gasoline. This added to the subsidy from mis-pricing.
In 2006, the effective wholesale
price of ethanol, after subtracting the blender's subsidy, was 75˘ higher than
the price of gasoline with the same energy content, hence the indirect subsidy
to ethanol, paid at the pump, was 75˘ per gallon of ethanol. (Note: the
75˘ includes a
5˘ adjustment for possilbe octane
Total Direct and Indirect Subsidies
The indirect subsidy to ethanol on the 4.9 billion gallons produced in 2006
comes to $3.6 billion. Together with the direct subsidies of $0.9 billion for
corn and $2.5 billion for ethanol the grand total is $7.0 billion. That's
$1.45 per gallon of ethanol, or $2.21 per gallon of gasoline replaced.
These subsidies have produced an enormous boom in ethanol. Between
August 2006 and January 2007, the capacity of existing plants and plants under
construction grew from 7.4 billion gallons to 11.4 billion, a 54% increase in
six months. Collins (USDA, 2006) describes the state of the market as ethanol
In 2006, the total subsidies for
ethanol came to roughly $7 billion, which is $1.45 per gallon of ethanol
produced or $2.21 per gallon of gasoline replaced.
The Cost of Subsidies
Subsidies are not the same as social cost. One man's tax payment is another
man's profit. Social cost measures the use of the nation's resources, such as
labor, capital, and energy. Collecting income tax and putting the money into
the pockets of ethanol producers does not use up any resources, and is not a
net cost to society, but it is a cost to taxpayers.
Unfortunately there are no accurate public data on the
excess profits of ethanol producers. For the sake of discussion, suppose the
chief economist of the USDA is right that ethanol costs $1.65 per gallon to
produce (USDA, 2007b). Gasoline with the same energy cost 38˘ less in 2006, so
the social cost of using ethanol instead of gasoline is 38˘ per gallon of
ethanol. This does not include the costs and benefits of externalities; those
must be compared against this market-based social cost. The rest of the $1.50
per gallon subsidy, or $5.4 billion in total, lines the pockets of real
farmers, corporate farmers, and ethanol distillers. In the following table,
the "Apparent Cost" refers to the total cost of subsidies and the "Real Social
Cost" refers to the extra, market-determined cost of using ethanol in place of
gasoline. The costs shown are based on the calculations of GHG and energy
import reductions discussed above.
2006 Cost Increase
Real Social Cost
Reducing fossil imports by the energy in
1 barrel of crude oil
Reducing CO2 emissions by 1 ton
The reader may believe the USDA has misestimated the cost of ethanol
production. In this case, the choice is between believing more than $5.4
billion went to windfall profits, or believing real social costs are higher
than indicated in the table above. They cannot both be lower; the $7 billion
in subsidies went somewhere.
The corn-ethanol subsidies create a net flow of money from
the rest of the country to the corn states. Just as advertised, this creates
wealth and jobs in these states. But spending more in corn states means
spending less in other states, which reduces employment in the states that pay
for the corn-ethanol market
The first rule of subsidies is to pay for performance. That means: pay for
outcome not for input. The desired outcome is not ethanol. Ethanol is
the input, the means of achieving the outcome. The principal outcomes we are
interested in are reductions in GHG emissions and reduction in energy imports.
If we pay for ethanol we will get ethanol, but it may be made with coal and
actually increase the GHG problem. To get a reduction in GHGs, pay only for
reductions. In fact there are many ways to grow corn and produce ethanol, some
much better than others. Because the subsidies are not tied to GHG
performance, billions are given away without providing the least incentive for
As an energy policy, ethanol subsidies are way off track
and deeply entrenched, but there is one simple fix that would help a great
deal—just stop the 51˘ blenders credit. Between the high price of gas and the
state ethanol requirements, there will still be more ethanol produced than
makes sense. Yes ethanol is a help, but it provides way too little help for
too much cost. A little less ethanol will be produced—which would be a good
thing for the environment and our pocketbooks—but mainly we would fork over
several bilion dollars per year less to pay for windfall profits.
Ethanol from Cellulose
To end on an upbeat note, consider cellulosic ethanol, which is just ethanol
made from cellulose, the part of plants we cannot digest because we are three
stomachs short of the standard set by cows and because we are not in the same
league with termites. Currently the best thing about cellulosic ethanol is
that it is not made from corn, which means it does not require the most
nitrogen fertilizer of any crop or heavy doses of insecticides. In fact, it
requires no nitrogen fertilizer and no pesticides because it is made from the
parts of crops, and non-crops that are not used.
For example the new plant being built by Celunol, in
Jennings, Louisiana, will make ethanol from bagasse, which is what is left
over when sugar cane is processed. Corn stems and leaves, switch grass, and
wood chips, are just a few of the other good candidates. Although the Jennings
plant is sure to work, just as a much smaller plant in Canada has been working
for a few years, it is unlikely to be competitive with corn ethanol. The
problem is that currently-available technologies for converting cellulose to
ethanol are themselves not in the same league with termites, which know how to
use a plethora of specialized gut bacteria to do an efficient job of breaking
down cellulose in a way that our guts -- and our factories, so far -- cannot
manage. But there is much current research aimed at replicating termites'
trick; thus there is a good chance of getting cost effective GHG reductions
from cellulosic ethanol in ten years.
Farrell, 2006. Supporting Online Material for: Ethanol Can Contribute To
Energy and Environmental Goals. Version 1.1, May 12, 2006. Article published in
Science 27 January 2006: Vol. 311. no. 5760, pp. 506 - 508.
Hill, 2006. "Environmental, economic, and energetic costs and benefits of
biodiesel and ethanol biofuels." Proceedings of the National Academy of Science,
July 25, 2006 | vol. 103 | no. 30 | 11206-11210.
USDA, 2006. U.S. Agriculture and the Emerging Bioeconomy Presentation by Dr.
Keith Collins Chief Economist, United States Department of Agriculture
“Advancing Renewable Energy: An American Rural Renaissance” Thursday, October
USDA, 2007. Statement of Keith Collins Chief Economist, U.S. Department Of
Agriculture Before The U.S. Senate Committee On Agriculture, Nutrition And
Forestry January 10, 2007.
USDA, 2007b. The New World of Biofuels: Implications for Agriculture and Energy
Keith Collins, Chief Economist, USDA EIA Energy Outlook, Modeling, and Data
Conference March 28, 2007.
USDA, 2007c. Feed Grains Backgrounder, USDA, FDS-07c-01 March