Extreme hot and dry weather across much of the Midwest this summer has caused government and private analysts to significantly reduce their projections of the size of the 2012 corn crop. USDA's latest estimate for this year's corn crop is 12.97 billion bushels, down 12% from the agency's earlier estimate of 14.79 billion bushels. Due to worsening drought conditions, many believe the size of the crop will be further reduced. The likelihood of a short corn crop has caused some to question how the ethanol industry and Renewable Fuel Standard (RFS) will be affected. This white paper briefly examines the potential impacts on the RFS and outlook for the ethanol industry.
What is the outlook for 2012 ethanol production?
Based on weekly ethanol production data through July 6, year-to-date ethanol production has averaged 900,900 barrels per day (bpd).[1] This implies annualized production of 13.81 billion gallons (bg). This is fairly consistent with USDA's most recent estimates of corn usage for ethanol, which indicate corn use of 5.0 billion bushels for the 2012 calendar year (this equates to 13.75 bg using USDA's assumption for denatured ethanol yield per bushel).[2] However, if high corn prices continue to pressure ethanol production, annual output will be somewhat lower. If ethanol production hovers around the most recent 4-week average (865,000 bpd) for the remainder of the year, total annual production would be 13.55 bg. If the most recent 2-week average (839,000 bpd) is used for the remainder of the year, total production would be 13.42 bg.
How much ethanol can be used domestically?
According to EIA, 66.2 bg. of gasoline were consumed in the first six months of the year, implying annualized gasoline demand of 132.4 bg.[3] However, EIA projects demand in the second half of the year will be slightly higher than the first half, with the annual total estimated at 133.7 bg. This means domestic use of ethanol is essentially limited to 13.37 bg., due to the facts that 10% ethanol is the practical maximum in the gasoline pool today and growth in 15% ethanol blends is expected to be slow through the end of 2012.
How much ethanol will be exported?
The most recent government data shows 367 million gallons (mg) of ethanol had been exported through the first five months of the year.[4] This would imply an annualized export total of 881 mg. However, actual exports are likely to be less than that, as U.S. ethanol prices have risen considerably in the last month relative to ethanol prices in other nations. Anecdotal information suggests exports have generally evaporated in June and July. Total 2012 exports are projected to be in the range of 500-700 mg.
How much ethanol is in storage?
Stocks of ethanol have been historically robust in the first half of 2012. Blenders and refiners will increasingly pull product from stocks if the ethanol supply shows increasing tightness in the coming months. In March, ethanol stocks peaked at 954 mg.[5] Indeed, as ethanol production has ratcheted down in recent weeks, stocks have decreased somewhat. The most recent data shows 820 mg in storage, which is lower than month-ago levels but still well above the average levels from 2010 and 2011. Given current gasoline demand, a healthy 20-day supply of ethanol stocks would be 745 mg, meaning current stocks of 820 mg are still slightly on the heavy side.
Will we meet the 2012 RFS target for renewable fuel?
The recent downturn in ethanol production has caused some to question whether 2012 output will be sufficient to meet the 2012 RFS requirement. The Energy Independence and Security Act (EISA) statute requires refiners to use 13.2 bg of "renewable fuel" (the category that includes grain ethanol) in 2012. Even if ethanol production remains at current low levels for the remainder of the year, obligated parties should have no problem meeting their 2012 RFS blending obligations. Congress and the Environmental Protection Agency (EPA) built considerable flexibility into the RFS program specifically to address unique market conditions and unusual events. Several factors need to be taken into consideration when discussing the ability of refiners to meet 2012 RFS targets:
1. While the statutory requirements are for specific volumes, the "renewable volume obligations (RVO)" determined annually by EPA are actually percentages. This means the actual amount of the obligation may be somewhat less than the statutory volume if overall gasoline and diesel fuel demand is lower than anticipated by EPA.
Based on the overall 2012 RFS statutory requirement of 15.2 bg (2.0 bg of advanced biofuel and 13.2 bg of renewable fuel) and prospective non-exempt gasoline and diesel fuel use of 164.68 bg, EPA set the RVO for 2012 at 9.23% (15.2/164.68). This means 9.23% of each obligated party's fuel must be comprised of renewable fuel. However, total non-exempt gasoline and diesel fuel use is now projected at approximately 162.6 bg, meaning the actual blending obligation is 15.01 bg. The actual advanced biofuel obligation would be approximately 1.97 bg, leaving the renewable fuel obligation at 13.04 bg, some 200 million gallons lower than the statutory volume.
2. Excess RINs can be used for compliance in lieu of physical gallons
In the event physical gallons are not available to an obligated party for meeting its 2012 RFS2 obligation, the party may use banked RINs for compliance. If an obligated party acquires more RINs than it needs to meet its RVOs, then in general it can retain the excess RINs for use in complying with its RVOs in the following year. As much as 20% of a party's obligation can be met using RINs generated in the previous compliance year. Because oil refiners and blenders have always used more ethanol than required by the statute, a significant "bank" of excess RINs has been generated. The surplus of renewable fuel RINs has been estimated to be as large as 2.5 billion.[6] This means use of physical gallons for compliance with the 2012 RFS could be short of the RVO, but the shortfall can be entirely offset by using excess RINs.
The table below shows four illustrative scenarios for 2012 RFS compliance. In the "high" case, it is assumed ethanol production for the remainder of the year rebounds from recent lows and averages the same rate as January-June. In this case, 13.9 bg of ethanol are produced and 700 mg are exported, leaving 13.2 bg available domestically for RFS compliance. Because the actual RVO is lower than the statutory volume, as discussed above, this scenario results in the generation of RINs above and beyond the amount needed for compliance. The "medium" case, which assumes a production rate consistent with recent weeks for the remainder of the year, results in RIN generation that almost perfectly matches the RVO. The "low" case suggests some 200 million RINs from the bank of excess RINs would be needed for compliance. This would amount to just 8% of excess RINs currently available. The "very low" case examines a highly unlikely scenario where ethanol production would average just 785,000 bpd. for the remainder of the year. In this extreme example, some 450 million RINs (roughly 18%) from the surplus would be needed for compliance.
3. Obligated parties can carry a compliance deficits forward one year
In the unlikely event that an obligated party could not obtain sufficient physical gallons or RINs to meet its 2012 obligation, it may carry forward the deficit and apply it to next year's renewable volume obligation.
Given these flexibilities in the RFS program, meeting the 2012 RVO will not be a problem for obligated parties. In particular, the ability to use excess RINs from previous over-compliance will ensure the 2012 requirements are met without placing undue strain on corn, ethanol, and RIN markets.
What is the outlook for the 2013 RFS targets?
Next year's proposed RVOs have not yet been published by EPA. The statute calls for a total of 16.55 bg, of which 2.75 bg is advanced biofuel and 13.8 bg is renewable fuel. However, EPA may propose to partially reduce the overall advanced biofuel standard based on the lack of cellulosic biofuel and limited availability of other advanced biofuels (e.g. sugarcane ethanol). A decision by EPA to partially waive the advanced biofuel standard but leave the overall RFS intact could mean slightly more than 13.8 bg of renewable fuel would be needed to meet the overall requirements of the program.
Based on projected gasoline demand for 2013, the E10 blend wall is expected to be in the range of 13.3 bg, meaning the renewable fuel obligation will likely be higher than the amount of ethanol that can be blended at 10%. However, several factors will help ensure the 2013 RFS requirement is met.
[1] Energy Information Administration. Weekly U.S. Oxygenate Plant Production of Fuel Ethanol. http://205.254.135.7/dnav/pet/hist/LeafHandler.ashx?n=PET&s=W_EPOOXE_YOP_NUS_MBBLD&f=W [2] July WASDE. 2011/12 ethanol use=5.05 b. bu.; 2012/13 ethanol use=4.9 b. bu. [2011/12 use x .67 + 2012/13 use x .33 = 5.0 b. bu.] USDA assumes denatured ethanol yield of 2.75 gal./bu. [3] Energy Information Administration. Short-term Energy Outlook. July 2012. http://205.254.135.7/forecasts/steo/ [4] Data from U.S. Census Bureau and Dept. of Commerce. [5]Energy Information Administration. Weekly Ending Stocks of Fuel Ethanol. http://www.eia.gov/dnav/pet/hist/LeafHandler.ashx?n=PET&s=W_EPOOXE_SAE_NUS_MBBL&f=W [6] See Paulson, Nick. March 15, 2012. "Is the Ethanol Mandate Truly a Mandate? An Estimate of Banked RINs Stocks." http://www.farmdocdaily.illinois.edu/2012/03/is_the_ethanol_mandate_truly_a.html
- Increased use of E15: EPA has approved the use of E15 in MY2001 and newer light-duty vehicles. The first gallons of E15 were sold commercially in July 2012 and growth is expected through the remainder of the year, particularly when the summertime RFG season ends. If E15 sales constitute even 5 percent of total gasoline sales in 2013, the "blend wall" is raised by some 325 million gallons.
- Use of surplus RINs for compliance: As discussed above, obligated parties can comply with their RVOs by using a combination of physical gallons and excess RINs generated from previously over-complying with RFS provisions. Even if some excess RINs are used in 2012, the overall RIN surplus will remain sufficiently large in 2013.
- Increased use of E85: Some believe E85 use may increase if renewable fuel RIN values increase by an amount that would allow retailers to substantially discount E85 relative to gasoline.
[1] Energy Information Administration. Weekly U.S. Oxygenate Plant Production of Fuel Ethanol. http://205.254.135.7/dnav/pet/hist/LeafHandler.ashx?n=PET&s=W_EPOOXE_YOP_NUS_MBBLD&f=W [2] July WASDE. 2011/12 ethanol use=5.05 b. bu.; 2012/13 ethanol use=4.9 b. bu. [2011/12 use x .67 + 2012/13 use x .33 = 5.0 b. bu.] USDA assumes denatured ethanol yield of 2.75 gal./bu. [3] Energy Information Administration. Short-term Energy Outlook. July 2012. http://205.254.135.7/forecasts/steo/ [4] Data from U.S. Census Bureau and Dept. of Commerce. [5]Energy Information Administration. Weekly Ending Stocks of Fuel Ethanol. http://www.eia.gov/dnav/pet/hist/LeafHandler.ashx?n=PET&s=W_EPOOXE_SAE_NUS_MBBL&f=W [6] See Paulson, Nick. March 15, 2012. "Is the Ethanol Mandate Truly a Mandate? An Estimate of Banked RINs Stocks." http://www.farmdocdaily.illinois.edu/2012/03/is_the_ethanol_mandate_truly_a.html
