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Jeff Fang | May 23, 2016
The Environmental Protection Agency’s (EPA) Renewable Fuel Standard (RFS) program, established in 2005 and expanded in 2007, stipulates that biofuels must be incorporated into transportation fuels sold in the U.S. The program aims to lower greenhouse gas (GHG) emissions and environmental impacts and increase energy security. By guaranteeing a market for biofuels, it behaves as a subsidy for renewable fuel producers and acts as a tax on traditional fossil fuel suppliers and importers.
The RFS contributes to a number of environmental and economic developments. For example, the RFS has already helped double the amount of biofuels used in the U.S.’ ground transportation from 2007 to 2013, thus reducing the nation’s total carbon emissions. Further, as a result of the RFS, yearly U.S. farm income is expected to increase by $13 billion by 2022 due to heightened demand for agricultural commodities including corn and soybean. While it has and likely will continue to help shape and advance the U.S. biofuel industry, there are several major problems that plague the program: yearly mandates are often published late and lead to policy and market uncertainty; there is doubt that certain biofuels, particularly cellulosic biofuels, can increase production capacity enough to meet mandates; and the E10 blend wall and an unaccommodating automotive infrastructure both present an ongoing obstacle.
The RFS is by no means perfect; however, its existence is critical in expanding biofuel production, and improvements can be made so that it can continue steering the nation towards a more sustainable national energy policy. This report summarizes the overall mechanics of the RFS program, highlights some of its accomplishments, illustrates major barriers, presents and analyzes actions that can address those complications, and concludes by making a final recommendation for the RFS.
Overview of the RFS
The RFS requires that renewable fuels be blended into and displace certain amounts of petroleum products in transportation fuels. The biofuels qualified for the RFS are categorized into four groups with corresponding D-codes: D3 or D7 cellulosic biofuel (biofuel or biodiesel made from cellulose that reduces GHG emissions by 60% or greater); D4 biomass-based diesel (biodiesel that reduces GHG emissions by 50% or greater); D5 advanced biofuel (biofuel that reduces GHG emissions by 50% or greater; does not include corn-based ethanol); and D6 renewable fuel (biofuel, including corn ethanol, that has at least 20% GHG emissions savings).
The EPA publishes the total amount of each of the four categories of biofuels that must be produced every year, otherwise known as the Renewable Volume Obligation (RVO) (Table 1). When an obligated party, a non-renewable fuel producer or importer, creates a gallon of non-renewable fuel, an RVO is generated binding them to the RFS program. A company’s RVO, a subset of the overall volume requirement, is calculated by multiplying the biofuel percentage standards (Table 2) by the total volume of fuels sold by that firm. For instance, 0.128%, 1.59%, 2.01%, and 10.10% of an obligated company’s total fuel output in 2016 must contain cellulosic biofuel, biomass-based diesel, advanced biofuel, and conventional renewable fuel, respectively.
Table 1. Final Renewable Fuel Volumes
Table 2. Final percentage standards
Renewable Identification Numbers (RINs) are credits used as proof to show an obligated party has actually blended renewable fuels into their product and conformed to the program. When a renewable fuel producer creates a gallon of renewable fuel an RIN “receipt” is generated and attached to that fuel. However, RINs cannot be submitted to the EPA as verification until they have been separated from the biofuel they were created with, which can only be done after the renewable fuel has been physically blended with conventional fuel.
Obligated parties typically purchase biofuel with the RINs attached from a renewable fuel producer and can immediately retire and submit those RINs to the EPA to show compliance. Alternatively, once they are removed from their source, RINs can be bought and sold independent of the fuel they were produced with. Therefore, it is possible for an obligated party to fulfill mandates by purchasing and submitting RINs that have been separated but not yet retired instead of physically blending biofuels into their product.
If an obligated party amasses more RINs through blending biofuels than is required by their RVO in a given compliance year, they have several options. They can sell those RINs to other obligated parties who still need to meet their own quotas. Alternatively, they can hold onto the RINs for the next compliance year—since up to 20% of a given year’s obligation can be met by RINs that were rolled over from the previous year—for personal use or for trading.
Adding more possibilities for compliance with the RFS, the four biofuel categories are structured in such a way that cellulosic biofuel and biomass-based diesel are included in the advanced biofuel category, which in turn is within the renewable fuel mandate (Table 3). The importance of this nesting is that RINs generated from biofuels with greater GHG emissions reductions can satisfy RVOs of biofuels with lower GHG emissions reductions. For instance, D3 RINs generated from cellulosic biofuels (60% GHG emissions reduction) can meet RVOs calling for D6 RINs from renewable fuel (20% GHG emissions reduction) obligations, but not vice-versa. This makes RINs with larger emissions reductions more valuable due to their flexibility in meeting mandates, but also more costly.
Table 3. RIN types, their D-codes, and the fuel categories they can fulfill.
Benefits of the RFS
The RFS has allowed biofuels to grow in production and penetrate a market that is largely dominated by petroleum. By creating demand through governmental mandates, the uncertainty of investing in and creating biofuels is greatly diminished as biofuel producers are guaranteed a market for their product. Until the RFS was introduced, consumption of renewable fuels was modest (Figure 1). In 2006, 4.9 billion gallons of ethanol were produced and just 3.0% of transportation fuel consisted of renewable fuel, whereas in 2013 that share increased to 7.0%.1 Similarly, the production of advanced biofuels grew from 1 billion gallons in 2006 to 3 billion gallons in 2014.
Figure 1. Renewable fuels as a share of the total U.S. supply of transportation fuels.
This increase in biofuel usage and the displacement of fossil fuels has consequently decreased GHG output in the transportation sector, since the RFS requires that conventional renewables (like ethanol), advanced biofuels, biomass-based diesel, and cellulosic fuels reduce GHG emissions by at least 20%, 50%, 50%, and 60%, respectively. Carbon emissions from transportation, which account for 27% of U.S. GHG emissions, have declined since the RFS program began and are 10% lower than what they were in 2005.1 The demand that the RFS creates for renewable fuels is key to reaching the greater U.S. target of reducing GHG emissions to 26-28% below 2005’s levels by 2020.
While the RFS has been crucial in increasing biofuel production capacity and avoiding carbon emissions, there are numerous issues that hinder its progress. The current structure of the RFS commonly results in policy and market uncertainty of volume mandates and RIN prices and often traps producers and obligated parties in an ongoing quandary. Limitations on ethanol production and supply conflict with the RFS’ goals to expand biofuel consumption. Lastly, the production of second-generation biofuels has been slow and often fails to meet ambitious RVOs.
Policy uncertainty has been rampant within the RFS. The Clean Air Act requires that the EPA finalize yearly mandates by November 30th of the preceding year, yet those announcements have often been made well after the compliance period has begun. For instance, mandates for 2013 were not declared until August 2013, eight months into the compliance period. Similarly, requirements for 2014 were not revealed until 2015, although the EPA did publish final rules for 2016 on time.
There is no statute that outlines consequences for missed deadlines and the delay that commonly occurs results in uncertainty for stakeholders. If mandates for the next year are unknown, renewable producers cannot anticipate forthcoming demand, obligated parties are unable to plan how much biofuels they should blend, and all involved cannot strategize whether they ought to use, trade, or hold on to their RINs. This confusion contributes to market uncertainty and a potential shortage of RINs—if RVOs for a given year are unexpectedly high—causing prices and the overall cost of complying with the RFS program to increase. Similarly, if mandates for the next year suddenly drop, a large pool of cached RINs would lose their value.
E10 Blend Wall and Supply and Demand of Ethanol
A major aspect influencing the RFS is the presence of the E10 blend wall. Ethanol makes up a large percentage of renewable transportation fuels. However, the blend wall generally limits the amount of ethanol in gasoline that can be readily used in automobiles to, at most, 10% to avoid damage to vehicles. Therefore, the volume of ethanol produced generally does not exceed one-tenth of the overall demand of gasoline. This becomes problematic when the required renewable fuel volume mandated by the RFS is greater than the amount of ethanol that can be physically incorporated into transportation fuel in a given year. For instance, in 2015 approximately 140 billion gallons of gasoline were consumed. This means that 10% of that amount, or about 14 billion gallons, of ethanol could be easily blended into gasoline that year. However, the statutory requirement for renewable fuel established by the RFS in 2015 was 16.28 billion gallons, of which only 15 billion gallons could come from corn-based ethanol.
In situations like these when ethanol can no longer be physically blended into gasoline but demand, as set by the RFS, is still high, obligated parties must resort to RINs. Because D6 RIN supply is low but demand is high, market prices increase. Recalling the nested nature of biofuel categories and RINs, this hike in D6 RIN prices has an effect on the cost of other RINs as well. Since D3 RINs can substitute D4, D5, and D6 RINs, D4 RINs can replace D5 and D6 RINs, and D5 can count as D6 RINs, the value of an RIN is generally greater than or at least equal to the RIN that its can take the place of. So when the price of D6 RINs from low energy-density biofuels like ethanol rise, the prices of D5, D4, and D3 RINs normally increase to levels at or greater than D6 because of their wider versatility in satisfying RVOs (Figure 2).
Figure 2. Daily RIN prices from July 1, 2012 to March 24, 2015.
Further exacerbating this problem, total gasoline consumption, and therefore the amount of ethanol that can be blended, is expected to continue falling. Decreases in gasoline demand are due in part to increased fuel efficiency and changes in consumer behavior such that vehicles are travelling fewer yearly miles. This presents an ongoing challenge for ethanol and confounds market RIN prices if production continues to be limited by the E10 blend wall and low E15 and E85 consumption.
Ethanol Infrastructure, Demand, and Energy Content
Currently, the appropriate infrastructure does not exist in the U.S. to accommodate greater ethanol supply. Most fueling stations in the country do not sell E15 or E85. In fact, according to the Renewable Fuel Association less than 2.0% of U.S. gasoline retailers sell E85. It is possible that if there were more cars on the road able to use gasoline with greater percentages of ethanol then infrastructure for ethanol would expand. However, the amount of vehicles that can utilize E15 or E85 are rare. In 2012, less than 1.0% of registered vehicles in the U.S. were able to use E15 (though many vehicles manufactured in 2012 or later are E15 compatible) and currently only about 7% are flex-fuel vehicles (FFVs) capable of running on E85. Further, just 0.4%, or 520 million, of the anticipated 142 billion gallons of gasoline consumed in 2016 is expected to be from E15 and E85.
Even as infrastructure and the number of vehicles on the road capable of utilizing higher ethanol blends increases, consumer behavior may not necessarily change to adopt those fuels. Ethanol is both more expensive and contains less energy than petroleum on a per gallon basis, so consumers are unlikely to willingly pay more for lower fuel efficiency. At the beginning of 2016, E85’s per gallon cost was $1.86 and was $0.12 less than E10’s ($1.98). However, during the same time period on an energy-equivalent basis E85’s retail price was $2.42 per gasoline gallon equivalent whereas it was $1.98 per gasoline gallon equivalent for E10.
Low Cellulosic Biofuel Production
There is additional concern that cellulosic biofuel production cannot meet mandates—and for good reason. In 2010, the RFS set the RVO for cellulosic biofuels at 100 million gallons, but it was not until 2013 that just two commercial cellulosic biofuel plants were up and running. Production has since remained low: in 2015 just 2.6 million ethanol-equivalent gallons of cellulosic biofuels were made, which is in stark contrast to the 3 billion ethanol-equivalent gallon mandate set for the same year.1
This is especially problematic considering a major goal of the RFS is to increase the prevalence of biofuels without solely relying on corn-based ethanol (hence the ongoing 15 billion-gallon corn ethanol cap). The Energy Information Administration (EIA) has predicted that the goal of consuming 36 billion gallons of biofuels in 2022, of which 16 billion is to come from cellulosic biofuels, will not be met. Instead, the EIA projects that the target will fall short by 18 billion gallons, and cellulosic biofuel production specifically will only reach 327 million gallons.9 This slow growth is in part due to the fact that cellulosic biofuel production faces substantial challenges. Perennial crops used as the biomass for cellulosic biofuels take years before they reach maturity and the technology needed for their harvest, transport, and processing is still new, complex, and costly.2
Given the RFS’ many benefits as well as obstacles, analysis of the program has ranged from not making any changes to suggesting that it be revised or even repealed. This section describes select actions presented by a variety of parties that can be implemented to change and improve certain aspects of the RFS. Because of the complex and wide-ranging nature of the program, no one option is fully comprehensive in exploring its consequences and does not attempt to fix all the problems the RFS faces. Instead, these proposals typically target one major issue and ought to be combined or prioritized to reach a broader outcome appropriate for the long-term goals of the U.S. on biofuel policy.
Stay on the Current Path
The first option is for the RFS to progress as usual by setting final rules and mandates on a yearly basis.8 This path allows for the greatest flexibility in setting goals based on recent trends and actual production expectations. But, it does not address any of the problems already afflicting the RFS, such as policy uncertainty, that could make RIN and compliance costs high. Further, there would be no innovative incentive to invest in renewable fuels or expand consumption of or infrastructure for higher blends of ethanol. Considering the initial goals set out by the RFS, energy diversity would only be partially expanded primarily through the use of conventional biofuels like ethanol with relatively low carbon emissions reductions.
Address Policy Uncertainty
Since many parties have cited the uncertainty of the program, specifically the yearly RVOs and RIN markets, as a major drawback, a plan that attempts to reduce uncertainty would address one of the RFS’ more prevalent issues. James Stock, non-resident Fellow at the Center on Global Energy Policy at Columbia University, proposes that one way this can be done is if the EPA proposes a multiyear plan that stays within the boundaries of the E10 blend wall. Producers and obligated parties would be certain that government mandates would be below 10% of projected annual gasoline consumption. Further, RVOs would be announced far enough in advance to allow preparation for meeting obligations in forthcoming years. As a result, policy and market uncertainty and RIN prices would decrease. On the other hand, limiting ethanol production below the E10 blend wall means there is no plan to grow ethanol consumption and expanding infrastructure for E15 and E85. This path would benefit obligated parties, but is largely inadequate at promoting the use of low-carbon fuels as desired by the RFS.
Another way to address policy uncertainty is by establishing a consequence if the EPA is unable to meet deadlines for finalizing yearly rules, according to the Bipartisan Policy Center (BPC). For instance, if a deadline is missed then the beginning of the compliance year could be automatically moved back a certain number of months after the rules are published. While increasing certainty, there could be great potential costs to pushing the EPA to stick to schedule. For one, the resources and time put into creating those rules might be limited for the sake of meeting deadlines and therefore may not be fully accurate. And having hasty and faulty rulings could drastically increase environmental and economic risks.
Market uncertainty may also be addressed without directly altering the yearly pattern of RFS rulings by increasing the lifespan of RINs.14 For now, RINs are only applicable for the year they are generated and up to 20% of the next year’s RVO. The BPC proposes either increasing their usefulness to two years or more, increasing the percent of RVOs that can be met by previous year’s RINs beyond 20%, or both. This might increase liquidity and decrease market volatility as well as increase options for compliance and decrease RIN costs. While uncertainty is reduced for obligated parties, it increases for producers because RINs can be purchased at later dates.
Provide Incentives for Expanding Ethanol Infrastructure
Another major obstacle for the RFS has been a lacking ethanol infrastructure that contributes to the E10 blend wall. Creating incentives that increase the number of vehicles on the road able to run on E15 or E85 (for example by requiring all new manufactured vehicles to be FFVs) and that develop infrastructure like pipes and tanks to accommodate those fuels may help ethanol production flourish.14
With vehicle compatibility and automotive infrastructure improved, this option could work to combat the E10 blend wall by making E15 and E85 more prevalent. This action would likely have to be combined with a plan that discounts E85 prices to or below the cost of E10 on an energy equivalent basis. Otherwise, consumers may very well stick to E10 blends of gasoline as it is cheaper and contains more energy than E15 and E85. Such subsidies are probably essential to making investments in ethanol infrastructure profitable, but they would also likely increase RIN prices and make compliance with the RFS for obligated parties costly. This presents another case where the conflicting interests between various groups have to be weighed.
Provide Incentives for Advanced Biofuels
Since renewable fuels in transportation are largely confined to corn-based ethanol, and advanced biofuel production has also been relatively limited as well as slow, especially for cellulosic biofuels, providing incentives could help promote the growth of advanced biofuels. Those incentives can take the form of government R&D, grants, loan guarantees, or tax incentives.14 They can be guaranteed up to a certain time, dollar amount, or volume of biofuel produced. Similarly, tax credits can be based on investment, production, or environmental sustainability such that innovation is rewarded.
Since large upfront costs and investment uncertainty are key obstacles to second-generation renewable fuel production, these incentives may overcome those barriers and encourage their development. This action could also be combined with expanding ethanol infrastructure in order to simultaneously grow both conventional and advanced biofuel production.8
Nevertheless, this proposition would require the government to provide significant amounts of funding to various parties to be effective. Another worry is that these incentives may not even be taken advantage of if cheaper investments are available and these incentives do not automatically create a demand for the products that are produced. While tax invectives have been offered in the past, it is believed that the general biofuel usage mandates by themselves will prove to be more effective at increasing biofuel use in the long run.2
Eliminate the Renewable Fuel Category
Those who call for some sort of repeal or phasing out the RFS typically argue that the EPA sets unreasonable requirements, creates artificial market demand, and has too great of an influence over consumption behavior. While not as extreme as eliminating the RFS altogether, one option along this vein calls for the removal of the renewable fuel mandate while maintaining rules for the other advanced biofuel categories.14
Doing so eliminates the government-mandated demand for biofuels, leaving their value determined completely by the market. This action removes incentives for conventional biofuels like ethanol and could prioritize and shift focus to the advanced biofuels still in the RFS. But, since ethanol is the biggest contributor to biofuel usage, lowering its demand would likely reduce total biofuel consumption. Such a revision would also result in backlash from ethanol producers and supporters who may be threatened with stranded assets and investments.
Instead of repealing just the renewable fuel mandate, others have proposed eliminating the RFS program entirely. Potential upsides to doing so include increased fuel efficiency and decreased gasoline prices for consumers as well as a lowered chance of vehicles being damaged by gasoline blends that they cannot handle. Further, many argue that the RFS was created at a time when gasoline consumption was expected to continue growing and rules were set accordingly. However, given the economic recession and the decrease in transportation fuel consumption that has since occurred, it is clear that the program’s expectations have at times wildly diverged from what is practical. Repealing the RFS such that there are no longer any renewable fuel requirements, therefore, would make biofuel production and consumption more in line with natural market behaviors.
On the other hand, the Congressional Budget Office explores a scenario in which the EPA completely eliminates the RFS. They estimate that less than 1 billion gallons of biomass-based diesel and about 13 billion gallons of corn ethanol will be used in 2017. Biomass-based diesel consumption would fall considering half of biomass-based diesel is made from soybean oil and the cost of producing it is greater than the wholesale price of diesel from petroleum. Ethanol usage would likely remain the same in the short term because ethanol is projected to cost less on a per gallon basis in 2017 than gasoline. Therefore, it would be in producers’ best interest to keep ethanol at the blend wall. Over a longer period, however, the price of ethanol may increase above that of gasoline such that producers would likely rather decrease production and lower the percentage of ethanol that is blended into gasoline. Depending on how far ethanol usage drops, abandoning renewable fuels would slow the ongoing decline in total GHG emissions from the U.S. transportation sector. Further, it is not certain that advanced biofuel development will significantly increase by itself. Given that about a quarter of the U.S.’ GHG emissions come from transportation, eliminating the RFS would leave the U.S. with few incentives for producing and consuming sustainable transportation fuels in a sector that has a lot of potential for improvement.
In place of an RFS, a carbon tax could be established that would work to reduce GHG emissions since the social cost of releasing carbon dioxide is generally not accounted for in regular operations. A tax on carbon output would incentivize producers to adopt more sustainable practices in order to lower their emissions. However, many parties with large carbon footprints, like major oil and gas companies, would strongly oppose and such a policy is unlikely to be passed.
The RFS has been significant in increasing the nation’s renewable transportation fuel consumption and decreasing carbon emissions. While some of the issues often brought up against the RFS, like policy uncertainty and opposing biofuel supply and demand, are legitimate concerns, attempting to address those problems instead of abolishing the program completely would be more in line with the goals initially set out by the RFS. Under that belief, this report outlines several actions that tackle major issues that the RFS faces in its present state. For instance, a multi-year plan that conforms to the E10 blend wall may benefit obligated parties by providing policy and market certainty of RVOs and RIN prices, respectively, but does little to expand biofuel production. Similarly, investing in ethanol infrastructure, increasing vehicle compatibility with E15 and E85 fuels, and selling higher ethanol blends at a cost-competitive rate is a costly option that promotes a low-energy content fuel that does not greatly reduce GHG emissions compared to gasoline. Although incentives can directly target and increase the production of advanced biofuels that confer large carbon emissions reductions, their monetary values must be substantial in order to offset the large costs of building and running the required facilities. Lastly, getting rid of the RFS for the sake of a laissez-faire system contradicts the original purpose of the program and it is not certain that a free market will rapidly adopt renewable fuels on its own.
Instead, a best path forward may involve publishing mandates in a long-term plan and setting the conventional RVO even further beyond the E10 blend wall than is currently being done. For example, the conventional RVO for 2017, 2018, 2019, and 2020 could be set to approximately 19, 20, 21, and 22 billion gallons, respectively. Although these volumes are much greater than what has been achieved in the past (due to the E10 blend wall) and what can be achieved going forward regardless of the blend wall (due to the 15 billion gallon corn ethanol cap), fulfilling these elevated obligations could be accomplished by increasing ethanol or advanced biofuel production—both of which are consistent with the RFS’ original goals.
Meeting large conventional fuel obligations has been an issue primarily because of the E10 blend wall. Investing in and expanding ethanol infrastructure for E15 and E85 would thus allow ethanol production to grow beyond what was possible with just E10. However, if ethanol infrastructure does not grow, or if it does but the 15 billion-gallon corn ethanol cap becomes the new barrier, obligated parties can turn to advanced biofuels to meet conventional mandates. Since the large need for advanced biofuels is apparent, producers will be able to increase their output knowing that forthcoming demand will be high.
Still, the issue remains that expanding ethanol infrastructure is costly for the investor and selling E15 and E85 at competitive rates would likely require increased RIN prices for obligated parties. Additionally, there is the chance that advanced biofuel producers are unable to adequately increase production to cover any deficits. In a scenario with low advanced biofuel and RIN availability, the cost of RINs and meeting elevated RVOs would skyrocket regardless of the market certainty converting to a long-term plan is supposed to offer. Or, if advanced biofuel production does increase it might be limited to biodiesel and international sugarcane ethanol from Brazil as has been the trend.
Although this solution has been deemed ideal compared to its alternatives, it is evident that several obstacles still remain. A true “best policy” on energy and biofuels, if available, would see increased renewable fuel consumption and decreased carbon emissions, have economic efficiency, and be politically attractive to a variety of stakeholders. Regardless of whether the RFS is maintained, revised, or revoked, the U.S.’ policy on biofuels may very well set a precedent for how other nations use energy and where they get it from. Because GHG emissions and climate change have serious, widespread, and long-lasting social and environmental consequences, the U.S. should handle its energy policy and the future of the RFS with that severity and influential capacity in mind.
Jeff Fang is a Graduate Research Fellow at the Climate Institute studying public affairs and environmental science at Indiana University Bloomington
PDF version with references available here.