N

Blend Wall

Total national consumption of gasoline in the United States was about 140 billion gallons per year in 2009 and is expected to fall over time as a result of increasing fuel economy standards (Tyner and Viteri, 2010). As of 2010, if every drop of gasoline were blended as E10, the maximum ethanol that could be absorbed would be 14 billion gallons. In reality, blending 10-percent ethanol into gasoline is not feasible in all regions and seasons. Most experts consider about 9 percent to be the effective maximum, which amounts to about 12.6 billion gallons per year of ethanol blended (Tyner et al., 2008). U.S. ethanol production capacity already exceeds this level. Thus, the nation’s ability to consume ethanol as fuel has reached a limit called the blend wall.

This physical constraint is the biggest issue facing U.S. ethanol industry in 2010. If the blending limit of 10 percent is maintained, the ethanol industry cannot grow; indeed, it could not even operate its productive capacity of over 13 billion gallons in 2010. The blend wall partially explains why about 2 billion gallons of annual capacity was shut down during much of 2009, and about 1 billion gallons of capacity remained inoperative in 2010. It also explains why ethanol prices during much of the 2009 were driven mainly by corn prices, instead of gasoline prices as it was before 2008-2009.

In 2010, the relatively low U.S. price for ethanol has led to some ethanol exports. With the world sugar price at its highest level since 1995, Brazil allocated relatively more sugarcane to sugar and less to ethanol, so the Brazilian ethanol price in the summer of 2010 was higher than the U.S. price. However, in late summer, corn price started increasing significantly, and ethanol price increased in step. Although ethanol exports occurred, the exports were a tiny fraction of the total U.S. production.

The basic economics of the blend wall are depicted in Figure N-1. Moving from left to right down the demand curve, once the blend wall is reached, the price plummets from the market equilibrium (with subsidy) at P* (or Pm without subsidy) to the intersection of the supply curve and the blend wall PBW. Ethanol becomes priced on a breakeven basis with corn, which was the situation in the first three quarters of 2009. Markets picked up in the



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N Blend Wall T otal national consumption of gasoline in the United States was about 140 billion gal- lons per year in 2009 and is expected to fall over time as a result of increasing fuel economy standards (Tyner and Viteri, 2010). As of 2010, if every drop of gasoline were blended as E10, the maximum ethanol that could be absorbed would be 14 billion gallons. In reality, blending 10-percent ethanol into gasoline is not feasible in all regions and sea- sons. Most experts consider about 9 percent to be the effective maximum, which amounts to about 12.6 billion gallons per year of ethanol blended (Tyner et al., 2008). U.S. ethanol production capacity already exceeds this level. Thus, the nation’s ability to consume etha- nol as fuel has reached a limit called the blend wall. This physical constraint is the biggest issue facing U.S. ethanol industry in 2010. If the blending limit of 10 percent is maintained, the ethanol industry cannot grow; indeed, it could not even operate its productive capacity of over 13 billion gallons in 2010. The blend wall partially explains why about 2 billion gallons of annual capacity was shut down dur- ing much of 2009, and about 1 billion gallons of capacity remained inoperative in 2010. It also explains why ethanol prices during much of the 2009 were driven mainly by corn prices, instead of gasoline prices as it was before 2008-2009. In 2010, the relatively low U.S. price for ethanol has led to some ethanol exports. With the world sugar price at its highest level since 1995, Brazil allocated relatively more sugar- cane to sugar and less to ethanol, so the Brazilian ethanol price in the summer of 2010 was higher than the U.S. price. However, in late summer, corn price started increasing signifi- cantly, and ethanol price increased in step. Although ethanol exports occurred, the exports were a tiny fraction of the total U.S. production. The basic economics of the blend wall are depicted in Figure N-1. Moving from left to right down the demand curve, once the blend wall is reached, the price plummets from the market equilibrium (with subsidy) at P* (or Pm without subsidy) to the intersection of the supply curve and the blend wall PBW. Ethanol becomes priced on a breakeven basis with corn, which was the situation in the first three quarters of 2009. Markets picked up in the 383

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385 APPENDIX N • The blend limit remains at 10 percent (E10), and all biofuel is ethanol. • The blend limit is increased to 15 percent (E15), and all biofuel is ethanol. • The blend limit is 10 percent (E10), and all cellulosic biofuel is thermochemically produced biogasoline or equivalent. The physical properties of thermochemical biofuels are identical with gasoline, and thus, it can be blended with gasoline at any percentage. • The blend limit is 15 percent (E15), and all cellulosic biofuel is thermochemically produced biogasoline or equivalent. • The blend limit is 10 percent (E10), and cellulosic technology is so expensive that EPA waives the cellulosic part of RFS. • The blend limit is 15 percent (E15), and cellulosic technology is so expensive that EPA waives the cellulosic part of RFS. • A regional strategy is used to emphasize use of E85 in the Midwest where most of the ethanol is produced. For each of the scenarios, the total net present value (NPV) of installing the flex-fuel vehicles (FFVs) and pumps was calculated using a real social discount rate of 10 percent and an average inflation of 3 percent per year. The cost of installing E85 fuel dispensers depends on the type of tank installed (new underground tank or conversion of existing tank). Between 30 to 60 percent of the E85 installations involve new tanks, while the others convert a current tank (Moriarty et al., 2009). The typical gas station has 3.3 tanks, one for regular, midgrade, and premium. If a tank is converted, the station loses the revenue stream from one blend. However, some stations, especially at convenience stores, lack the space to add a new tank (Moriarty et al., 2009). Cost estimates for new tanks range from $50,000 to $200,000, with a mean at $74,418. The average cost of a tank retrofit is about $21,244. Thus, the weighted average cost of installing a tank is $45,000. In addition, it costs an ad- ditional $100 per vehicle to produce a FFV instead of a standard vehicle (Corts, 2010). Other infrastructure costs are not included so that the cost estimates provided here are clearly underestimates of total cost. The first alternative of maintaining the blending limit at 10 percent and producing only ethanol as a biofuel is clearly out of question. It would require massive increases in E85, with accompanying huge increases in FFVs (Tyner and Viteri, 2010). Annual sales of FFVs would need to be at least 8.7 million cars per year compared with a cumulative total of 7.9 million on the road today. The total FFVs needed by 2022 would be 121.5 million. It would also require installation of 24,277 E85 fueling pumps per year compared with a cumulative total of 2,100 operating today. A cumulative total of 158,000 stations would need to add flex-fuel pumps. The total cost of E85 pump installation and FFVs around the whole United States have a NPV of $11.13 billion for this scenario. Furthermore, E85 would have to be priced no more than 78 percent of E10 blend gasoline because of the mileage difference. (See the discussion of the regional strategy below for more on E85 pricing.) The bottom line is that this scenario is not likely to be feasible, and EPA would be forced to waive RFS2 at some point. The time profile of E10 and E85 for this scenario is illustrated in Figure N-2. The second alternative of a 15-percent blend limit with only ethanol as biofuel is less restrictive than the first but suffers similar problems over the longer term. The higher blend limit essentially extends the time before the blend wall is reached but does not solve the problem. E15 consumption would grow from 13.1 billion gallons per year in 2010 to 17.5 billion gallons per year in 2022, as the continued growth in E85 once again crowds out the use of the lower blend fuel (Figure N-2). By 2022, there needs to be about 90.4 million FFVs on the roads, served by 236,208 E85 gas dispensers. The total NPV value cost

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389 APPENDIX N than the market plus subsidy price. In other words, there is an economic rent attached to the binding mandate. It is unlikely in this situation that E85 could be competitive with E10 in the market place even with lower transportation and distribution costs in the Midwest. Over time companies could use cross-subsidization to lower the price of E85 and increase that of E10, but that strategy requires that the flex-vehicle fleet and E85 dispensers be in place, which takes years to occur. Scaling up FFV production and service station dispensing facilities to saturate the Midwest market will be a large task. In fact, there are not enough cars in the Midwest to satisfy the E85 demand even if all cars were FFVs. Also, some have argued that because E85 customers would spend much more time refueling than E10 customers (more frequent trips to the pump), customers might demand an even larger price discount for E85. The analyses demonstrate that ethanol is not likely to be the only biofuel in the U.S. market. The blend wall becomes a near impenetrable barrier to meeting RFS2. If the ther- mochemical production processes become viable, then RFS2 can be met with a combination of ethanol from corn and sugarcane, and hydrocarbon fuels from cellulose. REFERENCES Corts, K.S. 2010. Building out alternative fuel retail infrastructure: Government fleet spillovers in E85. Journal of Environmental Economics and Management 59:219-234. Moriarty, K., C. Johnson, T. Sears, and P. Bergeron. 2009. E85 Dispenser Study. Golden, CO: National Renewable Energy Laboratory. Tyner, W.E., and D. Viteri. 2010. Implications of blending limits on the U.S. ethanol and biofuels markets. Biofuels 1(2):251-253. Tyner, W.E., F. Dooley, C. Hurt, and J. Quear. 2008. Ethanol pricing issues for 2008. Industrial Fuels and Power February: pp.50-57.

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