More On Ethanol, California, And Petroleum Dependence

My Reason colleague Joel Schwartz is on a roll with some very timely issues that bridge energy and the environment. His commentary on the ethanol mandates in the Senate and House energy bill proposals are completely on point:

Lost in all these political machinations is the decisive scientific evidence that ethanol doesn’t perform as advertised. Both the Environmental Protection Agency and the National Academy of Sciences have issued reports showing that adding ethanol to gasoline will at best have no effect on air quality and could even make it worse. Studies show ethanol could even increase emissions of nitrogen oxides and volatile organic compounds, which are major ingredients of smog.

What’s more, adding ethanol costs about five cents extra per gallon and will reduce fuel economy by about 3 percent, for an effective cost increase of 10 cents per gallon. For the average family of four this will amount to about $180 per year – say goodbye to a nice chunk of your tax cut. And if ethanol demand outstrips supply, as many energy analysts predict, motorists could suffer much bigger price increases, as much as 50 cents a gallon according to some estimates.

That’s a pretty accurate description of what occurred this spring in California with the switchover from MTBE to ethanol as a fuel oxygenate.

Joel also spearheaded our recent comment submitted to the California Energy Commission and the California Air Resources Board on their draft report, Reducing California’s Petroleum Dependence. A summary from our comments:

Mandating fuel efficiency improvements will impose net costs on motorists. About 70% of the benefits claimed for fuel efficiency improvements are direct benefits to motorists in the form of savings in gasoline costs. But motorists can already purchase any of a few dozen vehicle models that get more than 30 miles per gallon (mpg), and yet, on average, they choose vehicles that get a bit more than 20 miles per gallon. Motorists are aware of the level and volatility of gasoline prices and no doubt take this into account in their purchase decisions. This suggests that whatever costs and benefits the Report counts in its cost-benefit analysis, they have little to do with motoristsí actual valuation of greater fuel economy vis-ŗ-vis other automobile amenities. When automakers can offer high-mileage vehicles with a palatable combination of price and other desired amenities, motorists will choose them without any external prodding. This suggests that mandating fuel efficiency increases will impose net costs on Americans. Therefore, rather than benefiting Californians, implementing the Reportís recommendations would likely make people worse off.

Reducing petroleum consumption would not reduce oil security costs. The level of U.S. expenditures to protect middle east oil supplies is a matter of debate in the research literature. But whatever the costs are, marginal reductions in petroleum use wonít reduce these costs. The level of military effort that policymakers judge to be necessary to protect the oil supply and meet other U.S. geopolitical interests is likely to be independent of oil consumption over a wide range of oil consumption levels. A 15% reduction in California or even U.S. oil consumption would probably have no effect on such decisions. The estimated benefits due to decreased oil security costs should be removed from the Reportís cost benefit analysis.

Implementing the Reportís recommendations would worsen future air quality. Existing CARB LEV II requirements will eliminate more than 90% of current vehicle emissions during the next 20 years or so, leaving little marginal benefit to be had through additional measures. Yet by making new cars more expensive, implementing the Reportís recommendations will slow the rate of new-car purchases, which would in turn slow progress on air pollution by slowing vehicle-fleet turnover.

Internalizing the environmental cost of CO2 emissions would not change motorist behavior. The Report estimates the harm from CO2 emissions to be $15/ton, which is equivalent to about 15 Ę/gallon. These costs could be internalized through a gasoline tax, but such a tax is probably too small to change motorists driving behavior or vehicle-purchase decisions. If internalizing the cost of CO2 emissions wouldnít appreciably change motoristsí behavior, then requiring CO2 reductions is almost guaranteed to impose net costs on society.

The Report assumes a static petroleum market. The Report assumes no changes in the petroleum market between now and 2030. But the petroleum market is dynamic. New oil development in Russia, the Caspian Sea, and West Africa, along with ongoing reductions in oil exploration and recovery costs, are reducing OPECís ability to control petroleum supplies. These trends will tend to reduce both the future cost and volatility of petroleum.

The Report ignores government-mandated balkanization of fuel markets as a source of gasoline-price volatility. Some and perhaps much of the volatility in gasoline prices is due to regulatory requirements on fuel composition that vary from place to place. Despite this factor being under the complete control of state and federal policymakers, the Report does not address reforming reformulated-fuel requirements as a means of reducing price volatility.

Importing gasoline from out-of-state refineries is not a problem. The Report notes that California doesnít have enough in-state refining capacity to meet its future fuel needs and dubs this a problem. This is no more a problem than the fact that Los Angeles is a net importer of food. Gasoline producers will efficiently respond to consumer demand if allowed to do so.