Ethanol Demand Boosting Corn Prices

A new story today from Yahoo News:

Ethanol demand boosting corn prices

Some excerpts:

INDIANAPOLIS - The ethanol industry's growing appetite for corn has pushed prices for the grain to their highest levels in a decade amid a surge that agricultural experts say could lead farmers next spring to plant their largest corn crop in 60 years.

Farmers who plant more corn in 2007, however, will be betting that the nation's burgeoning ethanol industry won't go bust and oil prices stay high, keeping up demand for the corn used to make ethanol, said Chris Hurt, a Purdue University agricultural economist.

With a growing amount of corn being diverted from food products and livestock feed toward ethanol production, per-bushel prices have increased about $1 since mid-September.

As of Tuesday, the average price of a bushel of corn was $3.45 — far above the $1.50 to $1.80 a bushel corn fetched at the same time last year, Hurt said.

The U.S. Department of Agriculture's current estimate for 2006's average farm price of corn is $3 a bushel, Hurt said. His early prediction for next year is an average farm price for a bushel of corn of $3.40, which would eclipse the current record of an average $3.24 price set during the 1995 marketing year.

Gary Schnitkey, a farm financial management specialist at the University of Illinois, also expects American farmers to plant significantly more corn next year, but he cautions that many factors can influence how much acreage is eventually shifted to corn.

"We've never been in a position where we've seen this much new demand for a commodity," he said.

So, over $3.00 a bushel. In 2005, it took 1.6 billion bushels (from a total of 11.1 billion bushels) to produce 4.2 billion gallons of ethanol. So, the national average is 2.7 gallons of ethanol per bushel of corn. That means that the corn cost alone has risen to $1.11 per gallon of ethanol.

I wonder if all of the people projecting ethanol costs falling in the future will update their graphs next year, since costs increased in 2006, and look to again in 2007. Vinod Khosla has claimed numerous times that the production cost for ethanol is less than $1.00/gallon. From Vinod Khosla Debunked:

Vinod Khosla: Even in the U.S., and this is a conservative number, ethanol costs - most of the plants I look at - costs are about $0.90 a gallon to produce. [In contrast, slide 5 says gasoline costs $1.60 a gallon to produce.] Compared to any price you can imagine for gasoline, down to about $35 a barrel, ethanol is cheaper.

One thing we know for certain: That claim is not true (and it never has been). $1.11 a gallon means that the corn alone adds $46.67 per barrel of ethanol (and next year it will be even higher). Given that ethanol only has 65% of the energy content of gasoline, this is the same as $72/barrel gasoline, and we are still only talking about the corn costs - which are predicted to rise next year!

Corn ethanol is not the way. It is a jobs program, and a feel-good measure. It is doing next to nothing for us with respect to energy indepedence, and is now driving up food costs.

Epic Essay on Sustainability

I would like to direct your attention to the epic post written by The Ergosphere’s Engineer-Poet:

Sustainability, energy independence and agricultural policy

It is a monster (the last draft I saw before publication was over 8,000 words) and it is really thorough. It should be cross-posted to The Oil Drum in a couple of days. Here is a brief introduction of what the essay covers:

What would you say if I told you that we could use biomass to:

• Replace all the petroleum used by the ground-transport sector (55% or more)?
  
• Replace all the natural gas used by the electric-generation sector (about 1/3 of US natural gas consumption)?
  
• Replace every pound of coal burned for electricity (about 90% of all US coal consumption)?
  
• Eliminate over 1.2 billion tons of carbon emissions (4.4 billion tons of CO2) from oil and coal.

All that, and have some left over. I believe we could, and I'll illustrate how (with numbers!) below. But to understand where we need to go, we should first see where we are and how we got here.

If you have a passion for sustainable energy, or just believe we need to change the direction of our energy policy, this is a must read. If only we had a Secretary of Energy with this kind of vision.

Incidentally, I have mentioned it on a couple of occasions, but The Ergosphere was the inspiration for starting my own blog. Whenever I needed some information on alternative energy, energy policy, ethanol, etc. a Google search kept coming up with The Ergosphere as the place for the answer. One Saturday, I spent about 3 hours reading through various essays there, and I kept thinking “This guy gets it, and he is making a real contribution in the energy debate.” I finally decided to start my own blog and make a contribution as EP has done. But I still check in almost every day to see if he has posted anything new.

Finally, I have been contacted many times since starting my blog with job inquiries, consulting offers, etc. While I have entertained some that I felt did not present any conflict of interest with my current employment, I have to decline most opportunities. However, Engineer-Poet, with his passion for sustainable energy, is looking for opportunities. At the end of his essay, he writes:

The author has an odd combination of energy tunnel-vision, an analytical nature and the ability to think outside the box. He feels his talents are not fully utilized in his current line of work. If you know of any opportunities which match, please drop him an e-mail at the address listed in the sidebar.

Drop him a note if you are looking for someone who knows his stuff.

Ethanol, Biodiesel, and Food Prices

The following story from Bloomberg caught my eye today:

Ethanol Drives Up Food Commodity Prices

Some notable excerpts:

Nov. 22 (Bloomberg) -- Global ethanol production is driving up prices for food commodities, from feed stocks such as sugar, to meat, said Datagro, Brazil's biggest sugar-industry forecasting firm.

U.S. production, forecast to increase more than 70 percent by 2012, will use 37 percent of the country's current corn supply to meet output needs, up 15 percent from 2006, Datagro said. Land for soy oilseeds is increasingly being diverted to grow corn, reducing soy supply and driving up animal feed prices, according to the company. In China, competing demand for corn from the food and ethanol industries may lead the country to reduce exports and become a corn importer, Datagro said.

I think food versus fuel is shaping up to be a serious problem. While this dilemma exists even for gasoline (higher gas prices drive up costs for farmers and stretch people's budgets) the tradeoff needs to be a good one. But the Bloomberg article concludes:

World ethanol production is forecast to total 34.5 million liters in 2006, representing 3 percent of global demand for gasoline, according to Datagro.

They must mean 34.5 billion, not million. This doesn't seem to me like a very good tradeoff. Drive food prices higher, and we have yet to displace 3% of global gasoline demand, let alone global fossil fuel demand (much of the world outside the U.S. is largely diesel-driven). For just the United States, 34.5 billion liters would only displace about 4.6% of our annual gasoline consumption (much less on a net basis; that is if we subtract out the fossil fuels that went into producing the ethanol).

I can think of solutions that don't have the food versus fuel dilemma. As previously discussed, we can gasify biomass, turn it into electricity, and use that to drive our PHEVs. Or, we could do more to encourage conservation. What would it take to just get a 2% reduction in fossil fuel usage? We would get lower greenhouse gas emissions while reducing global demand for fossil fuels. Yet we will do it without driving up food prices. We could encourage a move toward diesel transportation, as they have done in Europe.

On the other hand, here is a story about a biofuel that I think makes good sense to pursue:

3 Malaysian palm oil entities to merge

KUALA LUMPUR, Malaysia - Three of Malaysia's largest palm oil producers are to merge, Malaysia's Deputy Prime Minister said Thursday, a fusion that could potentially create the world's biggest biofuels company and its largest publicly-traded palm oil entity.

In this case, the biofuel in question, biodiesel, has a much higher BTU value than ethanol. A diesel engine is also much more efficient than a combustion engine. The producers of palm oil are tropical countries, many of them very poor African nations that could greatly benefit from new markets for palm oil. The major caveat, though, is that we have to be careful not to encourage the expansion of palm oil plantations as the expense of rain forest.

The following graph (source unknown) shows the potential of palm oil for biodiesel:



The palm oil yield is 6,000 liters per hectare. In comparison, the ethanol yield from corn is about 3,700 liters per hectare, yet the energy content is equivalent to less than 2000 liters an acre of plam oil. As stated previously, there is also an efficiency advantage from burning palm oil or palm oil-derived diesel in a diesel engine. The result is that it would only take about 1700 liters of palm oil to displace 3,700 liters of ethanol. (See this essay for why 1 gallon of biodiesel is worth 2.25 gallons of ethanol). Looking at that chart, that means that an acre of palm oil can displace over 3.5 acres of corn ethanol.

I have made the case before that the biofuel we should put the greatest effort into developing is biodiesel. I believe that biodiesel, along with sugarcane ethanol and a healthy dose of conservation, can go a long way toward weaning the world off of fossil fuels.

This Week in Petroleum 11-22-06

The weekly EIA report was released this morning:

Summary of Weekly Petroleum Data for the Week Ending November 17, 2006

Some excerpts:

U.S. crude oil refinery inputs averaged 15.0 million barrels per day during the week ending November 17, up 60,000 barrels per day from the previous week's average. Refineries operated at 87.1 percent of their operable capacity last week. Gasoline production inched slightly higher last week compared to the previous week, averaging 8.7 million barrels per day, while distillate fuel production increased as well, averaging nearly 4.1 million barrels per day.

U.S. crude oil imports averaged 10.5 million barrels per day last week, up over 1.0 million barrels per day from the previous week. Over the last four weeks, crude oil imports have averaged nearly 10.0 million barrels per day. Total motor gasoline imports (including both finished gasoline and gasoline blending components) last week averaged 1.2 million barrels per day. Distillate fuel imports averaged 205,000 barrels per day last week.

U.S. commercial crude oil inventories (excluding those in the Strategic Petroleum Reserve) jumped by 5.1 million barrels compared to the previous week. At 341.1 million barrels, U.S. crude oil inventories remain well above the upper end of the average range for this time of year. Total motor gasoline inventories increased by 1.4 million barrels last week, but remain in the lower half of the average range. Distillate fuel inventories fell by 1.2 million barrels, but remain in the upper half of the average range for this time of year. A decline in ultra-low-sulfur diesel fuel inventories more than compensated for a slight increase in low-sulfur diesel fuel (15 ppm to 500 ppm sulfur), while high-sulfur distillate fuel (heating oil) inventories inched slightly lower. Total commercial petroleum inventories rose by 3.8 million barrels last week, and remain above the upper end of the average range for this time of year.

So, oil imports and gasoline imports are up, refineries are coming out of their turnarounds, and gasoline inventories climbed a bit, but still remain low. This should take some pressure off of prices, which should stabilize or drop some if these trends continue.

One thing that amazed me was how much higher gasoline demand is over last year:


As you recall, Hurricane Katrina drove prices much higher at this time last year, which in turn reduced demand. You can see that there is quite a bit of elasticity in our gasoline demand even with moderate price swings.

Gas Prices, Gouging, and Food versus Fuel

A few newsworthy items to cover: Gas prices, gas gouging legislation, and food versus fuel.

Gas Prices on the Rise

Surprise! It seems that gas prices are rising:

Gas prices on the rise again, analyst reports

Gas prices are on the rise again, just as Americans hit the highways for Thanksgiving.

Gas prices rose about 5 cents per gallon nationwide compared to two weeks ago, industry analyst Trilby Lundberg said Sunday.

Of course if you read this blog, you knew this was coming. I have made this case in two recent essays, and I have been saying this at The Oil Drum for about a month:

A Case Study in Cluelessness

This Week in Petroleum 11-15-06

Gasoline inventories are being sharply pulled down for three primary reasons. First, demand has picked up as prices have fallen. Second, gasoline imports fell off as prices dropped and European refiners saw profit margins fall on exports to the U.S. Third, we are in the middle of fall turnaround season, when refineries shut down for maintenance. All of these factors are causing gasoline inventories to free fall, and that situation can't continue, regardless of how the elections turned out, unless 1). Imports make up the difference; 2). Prices rise to slow demand; 3). We start rationing product; or 4). We just keep going like this until stations start to run out of gas.

Keep a close eye on the inventory report this week for a hint of which direction prices are headed in the short term.

Price Gouging and Fuel Supplies

A couple of days ago the following article was highlighted at The Oil Drum:

Congress seen passing price-gouging law

Some excerpts:

WASHINGTON - The head of the Federal Trade Commission predicted Thursday that Congress would pass a gasoline price-gouging law despite her warnings that the country doesn't need one and it might cause fuel shortages.

FTC Chairwoman Deborah Platt Majoras said she has warned Congress publicly and privately about the dangers of such a law.

Majoras said she understood the public's frustration and concern but said an upcoming FTC report on the price spikes found that consumer demand was up at the time.

"There is a distinction between a market determination you don't like and a market failure," she said.

Testifying in May before the Senate Commerce Committee, Majoras said retailers might let the gas run out rather than raise prices and risk facing prosecution. She noted the price spikes after Hurricane Katrina last year resulted in more fuel getting to market.

I commented on the story:

I think this is likely with the new political climate, but this is very short-sighted. What they don't seem to realize is that if prices are frozen during a Katrina-like crisis, then rationing is the only other option. I think most people would prefer to pay more for their gas (rationing by price) than for everyone to be told they are only getting 75% of the gas they would like.

I generally get some negative feedback any time I write anything in defense of the oil industry (like this example), but one poster provided the following feedback:

Several years ago the Canadian province of Prince Edward Island implemented a similar scheme to set fixed gas prices for specific periods in an attempt to prevent price "gouging."

The outcome was as described in the RR blockquote. Gas prices did not rise; there was also no gas available anywhere on the island and no plans to import any.

The legislation was repealed.

Anyone who understands the first thing about economics knows that this has to be the outcome. If you can't raise prices when demand is high, then we have gas lines, rationing, and ultimately no gas. I don't know if this is the solution they want, but it's what they will get.

Food versus Fuel

Many ethanol advocates argue that increasing the amount of corn that is going toward ethanol production is not an issue. However, it is certainly an issue for the people who have relied on those corn imports, and are now watching the price rise. Today, Tyson Foods weighed in on the subject:

Tyson Foods Sees Higher Meat Prices

"The best thing I can say about fiscal 2006 is, it's over," Richard L. Bond, president and chief executive officer, said in a statement.

Bond said the price of corn, which is used as animal feed, is going up because of demand from ethanol plants that are springing up to provide alternative fuel sources to oil.

Corn prices recently reached 10-year highs.

"I believe the American consumer is going to have to pay more for protein. We are at new levels on corn that are not likely going to be retrenching back to '06 levels," Bond said in a conference call with analysts.

Bond said meat producers, processors and retailers will have to pass the higher grain price on to consumers because they cannot absorb it in their profit margins.

"Quite frankly the American consumer is making a choice here. This is either corn for feed or corn for fuel, that's what's causing this," Bond said.

Of course food versus fuel is a serious issue going forward. How could it not be? Some people will pay more for food so we can put inefficiently produced ethanol in our vehicles, and some people will have to start making some tough choices as budgets are stretched.

Cellulosic Ethanol Reality Check

I firmly believe we should be aggressively researching the potential of cellulosic ethanol. This was after all the topic of my graduate school work at Texas A&M. But I think the hype has gotten way out of touch with reality at this point in time. There is a reason that nobody today is making money with cellulosic ethanol. It is quite possible that they never will, and in this essay I will discuss the reasons for that.

I did an interview with a major publication last week on the topic of cellulosic ethanol. I won’t divulge any details, because I don’t want to leak out anything before it is published. But during the course of the interview, I made the point that one of the challenges is in securing a large and steady local supply of biomass to run through the plant. This was one of the points I made in my essay Cellulosic Ethanol vs. Biomass Gasification. Then I was asked about just how much biomass it would take to support a cellulosic ethanol plant. So I decided to do a little calculation.

Iogen, probably the closest to commercializing cellulosic ethanol, has reported that the theoretical yield of biomass to ethanol is 114 gallons of ethanol per ton of biomass. However, what they actually achieve in practice is 70 gallons per ton. Let’s consider a typical mid-sized 50 million gallon per year ethanol plant. Using Iogen’s demonstrated yields, the biomass requirement would be 50 million/70 = 714,286 tons of biomass per year. According to Dr. Bruce Marcot, an ecologist at the USDA Forest Service the average Douglas fir yields about 1660 lbs of pulp (90% of the tree's weight). So, to run a mid-sized cellulosic ethanol facility would require the equivalent of 714,286 tons * 2000 lbs/ton /(1660) or 860,585 Douglas firs PER YEAR. That's a lot of biomass, and it puts into perspective the issue of a declining EROEI as biomass must be secured from farther afield.

What does this mean? Even if one achieved the theoretical limit of 114 gal/ton, it is still going to be very difficult to grow enough biomass to keep the plant going. Furthermore, consider the conversion penalty that is being paid when compared to corn ethanol. Let’s presume for a moment that the conversion for corn is the same as for cellulosic ethanol. There are 56 lbs in a bushel of corn. In our example above, it took 714,286 tons to run the 50 million gallon per year facility. This much biomass is equivalent to 714,286 tons * 2000 lbs/ton * 1 bushel/56 lbs = 25.51 million bushels of corn. In a conventional corn ethanol plant, that much corn would produce about 25.51 * 2.8 = 71.43 million gallons, or 43% more than we would get from the same amount of biomass in a cellulosic ethanol plant.

On an energy equivalent basis, converting 860,585 Douglas firs to ethanol will displace 0.02% of our annual gasoline supply on a gross basis (not counting the fossil fuel inputs to produce and process the ethanol). If you look at the USDA reports on corn ethanol, they say that to produce 75,000 BTUs of ethanol the fermentation/distillation requirement is 50,000 BTUs on average. That is from actual plant surveys as reported in their 2004 report. However, that is for solutions that are 15-20% ethanol. Cellulosic ethanol produces a crude product that is only 4% alcohol, meaning it will take quite a bit more than 50,000 BTUs to separate it out. I can tell you from experience that once you get down to 3% alcohol, it is classified as a waste stream and sent to wastewater treatment.

Future cellulosic ethanol plants are envisioned as being supplied by something like switchgrass or miscanthus. Will they yield more or less biomass per acre than corn? According to Questions & Answers about Miscanthus:

Over large areas, under typical agricultural practices, an average of about 8t/ha (3t/acre dry weight) may be expected at harvest-time.

That means our 50 million gallon ethanol plant, displacing 0.02% of our annual gasoline demand, would require 714,286/3 = 238,000 acres. To displace 50% of our current gasoline consumption of 140 billion gallons per year would take 70 billion/0.65 (this is for the lower energy content of ethanol) * 238,000/50 million, for a total acreage requirement of 513 million acres. This is about 13% of the land area of the United States; land which is presumably being currently used. This is also about 7 times the land area currently utilized for corn production.

A similar story yesterday came out that echoed this theme:

Study: Up to 100 million acres needed for renewable energy crops

Some excerpts from this story:

As many as 100 million acres of cropland and pastures would have to be dedicated to cultivating biomass fuels like switchgrass to support a national goal of 25 percent renewable energy use by 2025, a University of Tennessee study says.

Of course the reason cellulosic ethanol is so attractive is that the payoff would be huge, as the story explains:

But the rewards could be great. The study projects $700 billion in new economic activity including: a $180 billion growth in net farm income over the next 20 years; creation of 5.1 million jobs to support renewable energy enterprises; and government savings of more than $15 billion in crop subsidies.

The bottom line is that it is going to take enormous swaths of land to supply these cellulosic ethanol plants, and it is questionable whether a farmed source of biomass can be counted on to run the facilities. Better to locate cellulosic ethanol facilities close to a massive source of waste biomass – say a very large municipal dump in which paper is sorted out, a paper mill, or some other consistent source of large volume biomass. If you then use the unconverted waste biomass for process heat, you could end up with a workable process.

I certainly don't advocate giving up on cellulosic ethanol, but we do need to approach this with a realistic and sober outlook. Men once desired to turn lead into gold. That was ultimately a futile quest (unless you want to try something like a nuclear reaction), but with cellulosic ethanol there is much more at stake. My impression is that many people in our government are basing energy policy decisions on the presumption that cellulosic ethanol is a done deal. My advice would be to have several backup plans.

Student Sustainability Competition

Now for a public service announcement. Yesterday I received a mass-mailer from the EPA asking for help publicizing a sustainability competition. Since this is a topic that's very important to me, I thought I would publish it here. The competition is open to graduate and undergraduate students, and the deadline to apply is December 21st (which also happens to be my birthday).

--------------------------------

The P3 Award: People, Prosperity and the Planet A Student Design Competition for Sustainability – Apply by December 21, 2006.

Got an innovative solution that protects the environment while growing the economy? The U.S. Environmental Protection Agency (EPA) is sponsoring an exciting environmental design contest for undergraduate and graduate students – The P3 Award. Through this national design competition, students and their faculty advisors submit cutting-edge, sustainable solutions to environmental challenges and compete for $10,000 to develop their designs. Winners from the first phase of the competition advance to the National Sustainable Design Expo in Washington, DC, in the spring of 2008 where they compete for the chance to win up to $75,000 in funding to move their designs to the marketplace or implement them in the field.

Last year, 42 teams were awarded grants, including a team from Oberlin College that designed and tested a low-cost system for observing and interpreting energy and water consumption for individual dorms and college campuses. The project led to the creation of Lucid Design Group, a small business that designs and implements data acquisition and display systems for the green building industry. You can see all the grant winners’ designs and ideas at http://es.epa.gov/ncer/p3/.

“P3” stands for People, Prosperity and the Planet. EPA and its partners launched the P3 Award in 2003 to promote innovative thinking for moving the world toward sustainability. Participating college students gain new skills and knowledge as they research, develop, design and implement scientific and technical solutions to environmental challenges.

Teams of undergraduate and/or graduate students at institutions of higher education located in the U.S. are eligible to apply. But time is running out! This year’s P3 competition closes on December 21, 2006.

Learn more by visiting http://es.epa.gov/ncer/p3/. Assemble your team and apply today!

Who Supplies the Most Biofuel?

I learned something interesting today. If you had asked me who is the world's largest distributor of bio-fuels, I would have probably guessed ADM. It looks like I might have been wrong. Here is a press release that came across my desk today:

Shell and Codexis to Explore Next-Generation Bio-Fuels

HOUSTON and REDWOOD CITY, Calif., Nov. 16 /PRNewswire/ -- Shell Oil Products US, a subsidiary of Shell Oil Company, and Codexis Inc., a privately held biotechnology company, announced today they would launch a collaboration to explore enhanced methods of converting biomass to bio-fuels. Terms of the agreement were not disclosed.

"Shell is committed to leading the development of second-generation bio- fuels that offer lower well-to-wheel CO2 production and enhanced performance," David Sexton, President, Shell Oil Products US, said. "We are exploring the application of Codexis' proprietary technologies to produce alternative fuels from renewable, sustainable sources."

"Our proven biocatalytic approach should provide the critical pathway to developing economically feasible alternative transportation fuels from renewable resources," Alan Shaw, Ph.D., Codexis President and Chief Executive Officer, said. "We are pleased to be partnering with Shell, a world leader in energy, to undertake this important effort."

Shell has been involved in developing bio-fuels for more than 30 years, and believes it is the world's largest distributor of transport bio-fuels today. The company sold nearly 800 million gallons (3 billion liters) of bio- fuel in 2005, mostly in the United States and Brazil. Shell also markets fuels containing bio-components in Australia, France, Germany, Italy, the Philippines, Sweden and Thailand.

So, Shell sold 800 million gallons of biofuel in 2005. I will have to check to see where ADM ranked. But it is funny that as much grief as oil companies get, and as often as they are accused of lobbying against biofuels, that Shell is one of the world leaders. That's why I tell people not to write off oil companies if alternatives start to make economic sense. Oil companies are primarily energy companies, and they will make biodiesel just as quickly as they will make conventional diesel, if that's what the market favors.

This Week in Petroleum 11-15-06

The weekly inventory report from the Energy Information Administration came out today, and it provided support for my latest essay. You can read the report at: This Week in Petroleum. A quick look at the gasoline inventory graph can tell you that upward pressure on gas prices is imminent:



In my previous essay, I argued that falling inventories had to cause prices to increase. Some excerpts from this week's report:

...inventories dropping much faster than normal for this time of year. Moreover, with demand higher than in recent years, stocks considered in terms of the days of supply (or demand) that inventories can cover are lower than they appear on an absolute basis. This interpretation would lead one to think that markets are tightening and that oil prices could be poised to head higher soon.

On distillate (diesel, jet fuel, fuel oil) inventories:

There has also been discussion among analysts lately about the level of demand, particularly for distillate fuel. Over the most recent four weeks, demand for distillate fuel oil (which includes both heating oil and diesel fuel) is averaging nearly 4.5 million barrels per day, the sixth highest four-week average ever, and the highest four-week average ever for any period that doesn’t include weeks in January or February, when cold weather usually leads to a peak in distillate fuel demand.

Of course the high demand for distillate has already caused the spread between diesel and gasoline to become unusually large.

From the text version released earlier in the day:

Total motor gasoline inventories dropped by 3.7 million barrels last week, and are now in the lower half of the average range.

This was a much higher draw down of gasoline than was forecast. Gasoline inventories are being sharply pulled down for three primary reasons. First, demand has picked up as prices have fallen. Second, gasoline imports fell off as prices dropped and European refiners saw profit margins fall on exports to the U.S. Third, we are in the middle of fall turnaround season, when refineries shut down for maintenance. All of these factors are causing gasoline inventories to free fall, and that situation can't continue, regardless of how the elections turned out, unless 1). Imports make up the difference; 2). Prices rise to slow demand; 3). We start rationing product; or 4). We just keep going like this until stations start to run out of gas.

Finally, on gasoline prices, they have started creeping up, which if you have been watching inventories is no surprise:

The U.S. average retail price for regular gasoline rose 3.2 cents to 223.2 cents per gallon as of November 13th, 6.4 cents per gallon lower than at this time last year. East Coast prices rose 2.8 cents to 219.8 cents per gallon. In the Midwest, prices rose 3.8 cents to 221.8 cents per gallon. Gulf Coast prices were up 2.9 cents to 210.9 cents per gallon. The West Coast saw the largest regional increase, with prices rising 5.7 cents to 243.8 cents per gallon. The only region that saw a price decrease was the Rocky Mountains, with prices falling 2.0 cents to 225.4 cents per gallon.

My prediction is that the drop in gasoline inventories will slow next week, as refineries begin to come out of their turnarounds, and creeping prices start to slow demand a bit. If not, I expect prices to turn up sharply in the near future.

A Case Study in Cluelessness

I saw a familiar name today in a news article, which I will get to in a bit. I was reading an article from the Sacramento Bee that said that gas prices may have bottomed out. (I won’t link to the article, since it requires registration). I have been saying that gas prices couldn't fall much further based on weekly EIA inventory numbers, and were poised to rise. Gas pricing is pretty simple, really. You basically have to watch gasoline inventories, which are reported every week at:

This Week in Petroleum

If you want a very reliable indicator of which direction gas prices are headed, watch the gasoline inventories graph. When inventories are plunging, as they were in the first quarter of this year, gasoline prices are headed upward. They have to in order to bring supply and demand back into line. If prices did not rise, then we either run out of gas, or we have to count on European imports to make up the shortfall. But if prices don't rise, there really isn't much incentive for European refiners to ship their gasoline to the U.S. So, falling inventories usually mean rising prices, and vice-versa.

Gasoline inventories started to rise sharply in September, and prices fell in response. Conspiracy theorists everywhere started suggesting that oil companies were manipulating prices to influence the election. Ha! They simply don't have that kind of stroke. ExxonMobil, which we think of as the behemoth of oil companies, controls about 3% of world oil production. They just can't dictate pricing on global commodities like oil and gas.

So, what happened when prices fell? Demand picked up as personal budgets weren't quite so constrained by gasoline prices. As demand picked up, gasoline inventories went into free-fall. The inventory draw started near the beginning of October, and up to this point has showed little indication of slowing. This has led me to comment at The Oil Drum (and a number of posters agreed) that gasoline prices would have to rise in response unless this trend reversed itself pretty quickly. This is simple supply and demand.

So, back to the familiar name. I was reading the Sacramento Bee article, and I came across this gem:

Some 42 percent of Americans believe the Bush administration somehow drove gas prices down to help Republicans in the elections, according to a Gallup Poll last month. Democrats were far more likely to believe the theory than Republicans, the poll said.

"There was a political motive to keep gasoline prices low," said Jamie Court, president of the Foundation for Taxpayer and Consumer Rights in Santa Monica. "Now that the election's over, we're going to see prices going up. ... Oil companies are going to go back to artificially shorting the market."

Court's cluelessness has been documented before in this blog. Twice:

Another Uninformed Consumer Watchdog

And

Inventory Management

First, we have the fact that Court believes that gasoline should be less than $2 a gallon for everyone. Yes, wouldn't it be great if we could all use up our gasoline reserves just as quickly as we can, while producing loads of greenhouse gases in the process? Somehow I bet that Court wants cheap gas and a reduction in greenhouse gases.

But as I documented in one of the essays above, I am not alone in thinking Court is out of touch with reality. The California Energy Commission studied the pricing issue in California, and concluded:

The report, by the California Energy Commission, puts down refinery outages leading to a supply squeeze, coupled with a surge in exports, as the key factors behind record high prices in the state this year.

The lengthy report cites a stunning number of planned outage days at California refineries in the first six months of 2006 compared with same period last year - 175 vs. 58. Most of the unplanned outages, comparing the same periods, lasted twice as long this year.

Also, it found port congestion a factor, as well as high additives costs and the introduction of the new ultra-low-sulfur diesel fuel (ULSD).

It dismisses the notion held by some that pump prices dashed to $3.33/gal because refiners practiced price gouging (dubbed goug-onomics by some consumer groups).

The extended refinery outages in 2006 were a result of delayed maintenance in the fall of 2005, as refiners had to keep making gasoline when Hurricane Katrina knocked a lot of production offline. Of course Court wasn't about to let something like facts get in the way of his preconceived notions:

The Foundation For Taxpayer & Consumer Rights, an industry watchdog, called the CEC's findings a "whitewash."

"Oil companies are ripping off Californians in exactly the same way electricity profiteers did by artificially shorting the market," snapped FTCR President Jamie Court.

All I can say to that is that a basic understanding of economics is clearly not a prerequisite for the presidency of FTCR. If I had a watchdog that displayed such a stunning level on incompetency, I would drop him off at the animal shelter. I don't know why anyone would ever take this guy seriously.

A closing caveat. I don't mean to imply that pricing is entirely dictated by inventories. As I have written previously, the transition between summer and winter blends also has an impact, as do gasoline imports and some other assorted factors. But you will find the strongest correlation with gasoline inventories (and the price of oil, which is correlated with crude oil inventories).

Prop 87 Post Mortem

Well, I was wrong. I have consistently predicted that California’s Proposition 87 would pass. I knew that support had been slipping as gas prices have fallen, but I still thought that when the time came to vote, the voters would choose to punish the oil companies. But Prop 87 looks to be headed toward a sound defeat tonight.

What Went Wrong

I can point to numerous things that went wrong with the “Yes” campaign. While I really was pretty ambivalent about the initiative, I was not ambivalent about the tactics that the “Yes” campaign utilized. Several months ago I commented to a person that was associated with the Yes campaign that it almost seemed like they were running a parody of a political campaign. They displayed a stunning level of naivety over energy issues and energy policy.

The L.A. times characterized this initiative as “deceptively marketed”, which was also the title I chose for my first Venture Beat article on the initiative. The California papers almost unanimously opposed the proposition. So, the Big Oil hate-mongering from the Yes camp rang a bit hollow when all the newspapers were editorializing against it. Were they all in the camp of Big Oil? Were Vinod Khosla’s hometown papers, all of which endorsed a no position, in the camp of Big Oil?

I found it very difficult to read Vinod Khosla’s essays in favor of Prop 87. I felt like most of it was very condescending drivel, more appropriate for a grade school audience. He would have been taken a lot more seriously had he stuck with the facts, and avoided all of the emotional pleas to punish oil companies. Clearly, he hates the oil companies. We got it. But as he continued to write, I was just waiting for him to claim that refinery boilers are fueled with homeless children.

There were also a number of times that the Yes campaign demonstrated that they didn’t even know what was in the initiative. An example of this was reported last week at the No on 87 website:

KGO-AM’s Ronn Owens hosted a spirited debate over Proposition 87 (the $4 Billion Oil Tax Initiative) in San Francisco today.

I went up against Beth Willon, who represented the Yes on 87 campaign.

At one point Willon tried to make the argument that Prop. 87 “will only last 10 years.”

I responded by pulling out the actual initiative text and reading Section 26029.4 which states “the authority may be terminated at any time by the Legislature no sooner than January 1, 2027 or after the assets of the authority have been fully expended, whichever is later.”

Beth’s only response was that I was reading “very deep” in the initiative text. Somehow I think the “deep” parts count too.

It would be funny if it weren’t such a serious subject. The proponents also frequently characterized this as an excess profits tax, when it was actually a severance tax. The difference is that even when oil companies are in a down cycle and profits are much lower (or nonexistent), they get to keep paying the severance tax.

But I think the thing that really persuaded people to vote “no” was the uncertainty of the impact on gas prices. I was with the vast majority of economists in my belief that this proposition would drive up gas prices. But the overall amount was uncertain. The initiative would have impacted the supply/demand balance in California, with uncertain results.

I am certain I could have come up with a better proposition to promote alternative energy. I believe the voters would have supported a nickel a gallon gas tax increase with the proceeds going to fund alternative energy. That way, the price increase would have been known. In fact, since higher gas prices correlate with lower demand, a nickel gas tax increase might not have caused gas prices to increase by a nickel. And I don’t think the oil companies would have come out so strongly in opposition. And when you run a campaign that essentially paints the opposition as being responsible for all of society’s ills, you better make sure your nose is clean. In this case, Mr. Khosla’s engaged in quite a bit of hypocrisy, and that was used effectively against him.

I don’t doubt some new version of Prop 87 will be resurrected in the future. If any of you proponents are going to try this again, feel free to send me an early draft of the initiative and I would be glad to critique it for you. But get someone else to run your campaign the next time around.

Note: I am going to be out of town for the next few days with no access to the Internet, but I did want to offer up my thoughts on the election as soon as the results were clear.

People in Glass Houses

VentureBeat, a Silicon Valley-based site that focuses largely on venture capital (and venture capitalists), has been hosting a series of essays on California’s Proposition 87, which will be voted on next Tuesday. The owner of Venture Beat, Matt Marshall, recently contacted me and asked if I wanted to provide some “No on 87” essays in response to Vinod Khosla’s series of “Yes on 87” essays. My response to Matt was that I am ambivalent about passage, and so would not write a “No” essay. However, he said that if I wanted to write on alleged misinformation coming from the “Yes” camp, then that would be OK as well.

My first essay, Prop 87: Deceptively Marketed, addressed 3 specific claims coming from the proponents, and then I offered up my predictions. In the second essay, I went directly after a number of irresponsible claims that Vinod Khosla made in his second essay. Mr. Khosla is essentially betting people’s lives by making the claims he is making. If, ten years down the road, it becomes clear that he can’t deliver, we will have lost ten precious years in which we could have embarked upon a massive effort to deal with Peak Oil. But as long as there are Vinod Khoslas out there, naively making promises that everything will be OK, that massive effort will be delayed. Our energy policy is far too important, so I believe Mr. Khosla’s promises should be vigorously challenged.

Below is the text of my rebuttal to Vinod Khosla’s claims, which can be found in essays that he wrote for VentureBeat and The Huffington Post. Please note that I am not arguing for a “No” vote, nor am I making a blanket defense of the oil industry. I am responding to Mr. Khosla’s claims.

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Apparently some Proposition 87 proponents have never heard the adage “People in glass houses shouldn’t throw stones.” They complain about slimy tactics, while engaging in plenty of slimy tactics and hypocrisy themselves. In this essay, I will address Mr. Khosla’s second essay and show that his glass house is vulnerable to my pile of stones. This is also why I become concerned when people with expertise in one field try to influence policy in another. My dentist is a great guy, and very good at what he does, but I wouldn't let him remove my appendix. And while he should certainly be involved in the discourse, he shouldn't receive undue influence on energy policy just because he is a good dentist.

I explained in my previous essay who I am, and that I am not campaigning against Proposition 87. My interest is in raising the level of political discourse with respect to energy policy. My criticisms are aimed at the “Yes on 87” campaign, because much misinformation is being directed at my own industry. I find it very ironic that those who are flying around the country to decry the "evil oil industry" are doing so using jet fuel supplied by the oil industry. They enjoy many conveniences as a result of oil and gas production, but have deluded themselves into believing their lifestyle could be maintained if we all switched to alternative energy.

I don’t live in California and have never seen an ad from either side, but I have seen a number of "Yes" essays in the mold of Mr. Khosla's latest missive. So let's dissect his latest entry for some examples of hypocrisy, misinformation, and faulty logic. Mr. Khosla's comments are in quotes.

Given the current oil situation the ONLY way oil prices will go down is if we have alternatives to oil.

Since it doesn't benefit any big business interests, conservation, probably the most valuable "alternative" out there, is mostly overlooked in this debate.

Mr. Khosla: Given the massive profits they make on oil they wouldn’t want a cheaper alternative in the marketplace.

I covered profit margins in my previous essay, and noted the hypocrisy coming from an industry that sees double the profit margins of the oil industry. But "they wouldn’t want a cheaper alternative" is misinformation. The entry barrier for ethanol production and biodiesel is quite low. If ethanol is ultimately a cheaper option, oil companies will start making ethanol. Right now, most do not see that it is clearly viable in the long-term without subsidies. In fact Mr. Khosla was recently quoted in Red Herring: “Contrary to what you might believe, I think it’s extremely unlikely that in 20 years we will be using any ethanol in cars.” I think the oil industry shares this view, which is why they aren't rushing out to build ethanol plants.

However, oil companies have made big investments into solar, wind , and biofuels. In fact, Iogen, a company running a large scale cellulosic ethanol trial, is receiving major funding from Shell. Of course this puts oil companies in a "damned either way" position. If they invest in alternatives, critics say it is a token effort, or just for public relations. If they don't, then they are standing in the way of progress.

It is also unfair if they use their political clout to wrangle billions of dollars of subsidies from American taxpayers.

Given that the ethanol industry receives billions in direct subsidies and you are trying to secure even more with Prop 87, I am going to call this a bit of hypocrisy. The ethanol industry is the recipient of $0.51 gallon in direct ethanol subsidies. However, the subsidy is per gallon of ethanol produced, as opposed to actual net energy produced. If the ethanol energy return is 1.3/1, then it takes 3.3 gallons produced to net the energy equivalent of 1 gallon of gasoline. The website Zfacts, strongly supportive of alternative energy, concludes that when all the subsidies are added in, displacing a single gallon of gasoline costs $7.24 in ethanol. Furthermore, the ethanol industry depends on fossil fuels to drive their trucks and tractors, so any oil "subsidy" is also an indirect ethanol subsidy.

Many ethanol advocates claim that the $0.51/gallon subsidy actually benefits the oil industry. Without going into a detailed analysis of why this claim is wrong (it essentially allows ethanol producers to charge $0.51/gal more than market conditions would warrant), ask yourself why it is the ethanol/farm lobby who is fighting to keep this subsidy, and oil interests who are speaking out against it. Note that the executive vice president of the American Coalition for Ethanol vigorously defends the subsidy. Is this a case of oil company benevolence?

And they often make us pay for their R&D.

As compared to making your competitor pay for your R&D? I will admit, it is a brilliant move to force your competitor to fund your own research, but the above statement really takes hypocrisy to a whole new level.

The world uses about 12 billion gallons of ethanol today. If that was removed form the market, oil prices would spike up. If we produce more, oil prices will decline as supply increases.

This one is just faulty logic. Ethanol production in the past few years has exploded. Did oil prices decline?

A few token projects to “sound green” are thrown in but almost no money goes into finding real alternatives to oil.

As I stated earlier: "Damned either way."

Even the small technology oriented Silicon Valley company can spend 20% of its revenue on R&D.

I have an idea then. Since Silicon Valley is so innovative, and we know that companies there are quite profitable, why don't we tax them to fund this measure? That seems like a real win-win solution. The people who most strongly support this proposition will be the ones who will both pay for it, and "benefit" from it.

The oilies are scare mongering with their massive dollars.

We actually prefer our pejoratives to be capitalized. But this is an example of the need to raise the political discourse. Also - and feel free to correct me if I am wrong - the proponents are spending tens of millions of dollars to push this measure, and they are doing it with tactics that have been more along the lines of hate mongering.

President Clinton has said ethanol is 33% cheaper. I know it is cheaper to produce, even with the subsidies oil currently manages to get.

Ignoring the repeated hypocrisy over the subsidies, let's talk about economics. Now, I may not be well-versed in Silicon Valley economics, but here's what I think. If I have a product that I can make for cheaper than the competitor, why would I need mandates, subsidies, and an extortion tax on my competitors in order to compete? I don't really think I would need this, if indeed the claim is true. So, that leaves me to believe that either the claim isn't true, or ethanol companies are worse than oil companies at "ripping people off."

Let's consider the following graph from the official Nebraska government website:


This is a comparison of the average annual rack price of ethanol versus mid-grade gasoline for the past 25 years. Ethanol, with lower energy content, has been more expensive than gasoline in each of the past 25 years. So there is a track record over a long period of time that suggests that not only do ethanol prices rise and fall in response to gasoline prices (putting a damper on the argument that ethanol is going to drive down gasoline prices) but the price differential is actually greater since most people don't buy the more expensive mid-grade.

Now, if Mr. Khosla is correct, and it is in fact cheaper to produce ethanol than gasoline, it suggests that 1). Ethanol profit margins are far higher than gasoline profit margins; 2). Ethanol producers are "ripping us all off"; and 3). Ethanol producers should have no problem funding their own growth.

I hope that Mr. Khosla can see that his glass house is quite vulnerable. I call on him to raise the level of discourse on our energy policy - regardless of the outcome of the vote.

John McCain’s Ethanol Flip-Flop

I knew that McCain had flip-flopped on this issue. The upcoming issue of Fortune tells the tale:

McCain's farm flip

It's a pretty good lesson on how tough it is to oppose ethanol and get yourself elected president, since Iowa has one of the first presidential caucus. So, despite McCain's long track record of criticizing ethanol, suddenly it's the thing to do.

Some excerpts from the article that I found interesting:

John McCain has a problem with alcohol - ethyl alcohol, to be precise.

Ethyl alcohol is the fuel better known as ethanol, and over the years, the Arizona senator has made a habit of ripping ethanol subsidies as corporate pork for agribusinesses like Archer Daniels
Midland.

McCain has argued that government support for ethanol actually raises gasoline prices. He has claimed ethanol does nothing to make the U.S. more energy independent. He has even questioned the science behind making fuel from corn - contending that ethanol provides less energy than the fossil fuels consumed to produce it.

But for a front-runner - one presumably interested in getting his as-yet-undeclared 2008 Republican presidential campaign off to a winning start - opposing ethanol is political lunacy.

Iowa, home to the first-in-the-nation presidential caucus, is the biggest corn-growing state in the country, and in Iowa ethanol isn't just another campaign issue. It's the cash cow, the golden goose and the fountain of economic youth all wrapped up in one.

This is how something that is good for Iowa, but not necessarily for the rest of us, can become national policy.

More:

Against this backdrop, it's obvious why McCain's past ethanol opposition is such an albatross. Fact is, criticizing ethanol is hard even for scientists these days.

At a recent BP-sponsored ethanol roundtable, University of California at Berkeley engineering professor Tad Patzek - whose anti-ethanol research McCain has invoked - so riled Roger Conway, the director of energy policy for the very pro-ethanol U.S. Department of Agriculture, that Conway told the foreign-born Patzek to "go back to Poland." (Conway denies making the remark, but four other participants confirm he did, including pro-ethanol scientist Michael Wang of the Argonne National Laboratory.)

Here's the before and after. The before:

For a politician like McCain, the stakes go far beyond a little name-calling. When McCain ran for president in 1999 and 2000, he barely campaigned in Iowa, knowing that his anti-ethanol stance wouldn't cut it in corn country.

Four years later, McCain hadn't changed his tune. "Ethanol is a product that would not exist if Congress didn't create an artificial market for it. No one would be willing to buy it," McCain said in November 2003. "Yet thanks to agricultural subsidies and ethanol producer subsidies, it is now a very big business - tens of billions of dollars that have enriched a handful of corporate interests - primarily one big corporation, ADM. Ethanol does nothing to reduce fuel consumption, nothing to increase our energy independence, nothing to improve air quality."

Even the most slippery politician would have a tough time wriggling away from a statement as unequivocal as that one, yet McCain's Straight Talk Express has been taking some audacious detours during recent trips to Iowa.

The after:

"I support ethanol and I think it is a vital, a vital alternative energy source not only because of our dependency on foreign oil but its greenhouse gas reduction effects," he said in an August speech in Grinnell, Iowa, as reported by the Associated Press.

"Well, at least now we know he's serious about running for president," quips Brown University presidential politics expert Darrell West, upon being told of McCain's ethanol about-face.

And the money quote:

"You can't trash ethanol and expect to win in Iowa," says Schmidt. "You can't continue to say the same things McCain said - even if you believe they're true."

What to do? Maybe some other states need to move their primaries ahead of Iowa's to stop them from having a disproportionate impact on national politics.