Falling Thirst for Fuel Leaves Ethanol Enthusiasts With a Hangover

By LIAM DENNING

When it comes to U.S. energy policy, farmers say: "Distill, baby, distill."
Legislation demands refiners blend ever-larger volumes of ethanol -- alcohol derived mostly from corn -- into gasoline. But the ethanol industry is still on the defensive. Several large producers have gone bust and Californian regulators have thrown doubt on ethanol's perceived low-carbon content, a key selling point.
The bigger problem, however, is the economy. Ethanol mandates were set before 2008's oil price spike and recession cut fuel demand. And they didn't factor in the current drive towards greater fuel-efficiency.

Regulators set ethanol production targets in absolute volume terms. So, as overall fuel demand falls, ethanol as a share of America's gasoline mix is rising faster than expected. Regular vehicles, however, cannot take more than 10% ethanol because of concerns about engine damage. Modified "flex fuel" vehicles can take "E85" fuel -- 85% ethanol -- but they comprise just 3% of the fleet. Only 1% of U.S. service stations have E85 pumps -- a fifth of them in Minnesota.
Ethanol enthusiasts want higher ethanol content to be approved for use in regular vehicles. But regulators might worry about weakened auto-makers refusing to honor vehicle warranties.
Low oil prices also ravage ethanol's economics. A Congressional Budget Office report issued last month calculated ethanol production, with subsidies, is only profitable when a gallon of gasoline costs 70% or more of the price of a bushel of corn. This has only happened during oil price spikes this decade and in the early 1980s.
While other fuels also enjoy various subsidies, corn-based ethanol suffers by comparison because it only provides, at best, 1.8 times the amount of energy used to make it. Gasoline's "energy balance" is a multiple of this -- hence its stranglehold over the fuel market.
The paradox is that ethanol, designed to displace gasoline demand, looks uneconomical when gasoline prices are high.
Advanced types of ethanol made from other crops look much better in terms of efficiency and environmental impact. But commercial-scale production, at reasonable prices, looks years off. It is possible to argue that these new fuels require a corn-based ethanol industry on which to build. But it isn't clear that we need one bigger than what exists already.
Similarly, as pointed out by Geoffrey Styles, head of consultancy GSW Strategy, arguments for greater production of ethanol in terms of creating "green" jobs miss a key point. Energy is an economic input: The fewer resources, including labor, going into its production, the better. With other technologies now competing for taxpayer dollars, the logic for plowing more money into corn looks ever less compelling.
Write to Liam Denning at liam.denning@wsj.com