An Economic Analysis of the Federal Renewable Fuel Standard (RFS)
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An Economic Analysis of the Federal
Renewable Fuel Standard (RFS)
California’s Multi‐Faceted Carbon Regulation Scheme
Biofuels Sustainability Standards: The Next Regulatory Frontier
Jay P. Kesan, Ph.D., J.D.
Professor & Mildred Van Voorhis Jones Faculty Scholar
Biofuel Law & Regulation Group, EBI, IGBThe Federal Renewable Fuel Standard
Renewable Fuel Standards (RFS)
• The Energy Policy Act of 2005 (EPAct) (RFS1): Established minimum volumes
of renewable fuel to be used in on‐road gasoline (codified in the Clean Air Act)
• The Energy Independence and Security Act of 2007 (EISA) (RFS2) Waivers?
(Final rule required by 12/19/08) Infrastructure?
• Increases Volumetric Requirement for renewable fuel for all
transportation fuels (including non‐road gasoline and diesel)
• Limits renewable fuel sources to crops and crop residues from land
cleared or cultivated at any time prior to enactment of EISA
Application/ How far back How do renewable
enforcement historically? fuel producers
internationally? Pre‐colonial times? enforce this?Renewable Fuel Standard (RFS)
• Mandates volumetric minimums for 3 subcategories of renewable fuel
a. Advanced biofuel (anything but cornstarch ethanol)
b. Cellulosic biofuel
c. Biomass‐based diesel
Extensive/Contentious
• Requires life cycle greenhouse gas (GHG) performance standards for each
subcategory
• EPA must take into account both direct emissions and significant indirect
emissions (international included) (all stages of fuel and feedstock
production, land use changes)
• Facilities that commenced construction prior to EISA grandfathered
PLUS: EPA assessing many impacts of EISA in support of regulatory impact
analysis (RIA), including: air and water quality, direct and indirect land use change
(non‐GHG context), energy security, and economic impacts
Mandatory EPA anti‐ Extensive
backsliding and impact reportsVolumetric Requirements:
RFS1 vs. RFS2Volumetric Requirements:
RFS2A Preliminary Analysis of the Renewable Fuel Standard (RFS)
Volumetric Requirements of Renewable Fuel: RFS 1 vs. RFS 2
• Under RFS2, ethanol blending percentage exceeds 10 percent in 2013 if all
ethanol is blended into the 2006 level of motor gasoline consumption (142
billion gallons of motor gasoline)
• Ethanol blending percentage reaches about 20 percent in 2022.Objectives of Economic Analysis
• The RFS and its Incentive Scheme
– Regulatory interventions create new constraints and new incentives.
– The RFS should play a vital role in making renewable bio‐fuel
commercially viable in the future. Otherwise, the industry needs
government assistance “forever.”
– Technological progress is key to the successful development of the bio‐
fuel industry.
• Research Questions Relevant to EBI Stakeholders
– Does the RFS give bio‐fuel producers, distributors and feedstock
suppliers an incentive to improve their productivity and cost
conditions?
– What are possible mechanisms that improve the cost conditions
through large scale mandatory consumption imposed by the RFS?
– Is it likely that the RFS actually contributes to improving the cost
conditions?Short‐Run Effects of the RFS
• Policy Goal and the Policy Instrument
– The main goal of the RFS is to reduce dependence on foreign sources of
petroleum and increase domestic sources of energy.
– The policy instrument is to require renewable fuel consumption to exceed
the market clearing amount of the consumption (i.e., mandatory
consumption).
• The RFS creates an excess demand for renewable fuels.
– The price of renewable fuels will be higher under the RFS than in the
absence of the RFS, at least in the short run.
– Higher price hinders market‐based substitution process of renewable fuel.
– Renewable fuel imports will increase.
– The aggregate welfare will likely get worse – in the short run.
• These effects are against the goal of the RFS – in the short run.Ethanol (wholesale) Market
Price
S1
PRFS S2
Pmkt S3
P4 S4
Demand
Qmkt QRFS Q4 QuantityPossible Mechanisms
• In the long run, the supply curve must shift down in order that
bio‐fuel price becomes low enough to be competitive with
fossil fuel.
• What are mechanisms that improve cost conditions through
large scale mandatory consumption?
– Mechanism 1: Economies of scale and/or Marshallian externality.
– Mechanism 2: Stimulating R&D by large scale demand.
• The fruits of cost‐saving innovation are typically reaped by embedding innovation in
a product and selling that product. A producer gains more from cost‐saving
innovation as his sales increase.
• The possibility of large scale sales, imposed by the RFS, can give bio‐fuel producers
an extra incentive to invest on cost‐saving innovation.
– Mechanism 3: Reducing the degree of uncertainty.
• A market guarantee eases credit constraints. It also encourages to take R&D
investment actions now rather than postponing R&D projects.
• These two effects stimulate R&D activity.Source: Energy Information Administration
Source: Energy Information Administration
Source: Nebraska Ethanol Board
Production Capacity of US Ethanol Industry
2002 2003 2004 2005 2006 2007 2008
Production capacity
2,355 2,707 3,101 3,644 4,336 5,493 7,888
(mmgy)
Production Capacity Expansion of US Ethanol Industry
Existing Plants New Plants Share of
Total Average Total Average Expansion by
(mmgy) (mmgy) (mmgy) (mmgy) New Plants
2002‐2003 201 4.02 313 31.31 61%
2003‐2004 64 1.15 400 44.44 86%
2004‐2005 128 2.06 438 39.82 77%
2005‐2006 232 3.36 498 32.23 68%
2006‐2007 273 3.37 1,028 64.25 79%
2007‐2008 758 8.33 1,779 59.30 70%
2002‐2008 1,656 4,456 73%
Source: Renewable Fuel Association and Ethanol ProducerInsights from Ethanol Industry Data
• Ethanol consumption has grown at a rapid pace between 2002
and 2007.
– This rapid growth is mainly due to the fact that ethanol replaced MTBE.
The substitution of ethanol for gasoline was limited.
• Ethanol wholesale price declined between 1982 and 1989, was
stable during 1990s and started rising in 2002.
– Learning and/or scale effects are accountable for the price decline.
– These effects seem absent or limited during the 1990s.
– The increased demand for ethanol caused the ethanol wholesale price
to rise.
• Expansion of production capacity came mainly through new
plant construction.
– The existing plants were unlikely to enjoy the economies of scale.Discussions and Future Research
• The data show that the price of ethanol went up, although
industry faced a larger scale of ethanol demand.
– The effects of demand shift on the ethanol price dominated those of
supply shift.
– The effect of economies of scale was totally absent or limited.
– New plants did not contribute much to reducing ethanol price.
– A further examination is necessary for the mechanisms that stimulate R&D
activity.
• The RFS is unlikely to play a vital role in reducing corn ethanol
price. However, it may be effective for cellulosic ethanol
production.
• Effective policy instruments may differ, depending on the stages
of the industry life‐cycle.
– It may not be rational to apply the same policy instrument to corn ethanol
and cellulosic ethanol industries.Discussion and Future Research (Continued)
• It is worthwhile to examine empirically whether or not the RFS
effectively stimulates R&D activity.
– More specifically, we plan to look at data on patents, R&D expenditures,
scientists and engineers and so on to identify effects of the RFS on the
intensity of R&D activity.
• Discussion on economic policy to encourage university‐based
research or to help transition from invention to innovation is
missing.
– The RFS is not designed to promote university‐based research. What is
the exact role of university‐based research for the industry’s
development?
• It is important to theoretically and empirically study what kind
of incentive scheme should be employed to facilitate
technological progress in the bio‐fuel industry.California’s Multi‐Faceted Carbon Regulatory Scheme
California’s Multi‐Faceted Approach
to Carbon Emission Reduction
1. Overall carbon reduction goals: A.B. 32
• Cap and Trade (industry‐wide)
• Low Carbon Fuel Standard (LCFS)—better fuels
• Increased Auto MPG Efficiency—better vehicles
2. Increased Sourcing of Biomass‐Based Energy
3. Alternative Fuels Use
4. Land‐Use Regulations (e.g., sprawl reduction)
5. Integrated Energy Policy Reporting
6. R & D InvestmentA.B. 32 (Global Warming Solutions Act of 2006)
Goal: Reduce GHG emissions to 1990 levels by 2020 (30% reduction),
and 80% below 1990 levels by 2050
Requires: List of early action measures, GHG Emissions Inventory,
setting a 2020 emissions limit, mandatory emissions
reporting, credit for early reductions
October 2008: Draft Scoping Plan on how to achieve 2020 emissions
limit; measures in place by 2012.
Recommendations (biofuels related):
1. Regional Cap and Trade program for transportation and industrial
sources
2. Implement existing state laws:
•Low Carbon Fuel Standard (LCFS)
•Light‐duty vehicle efficiency standards (AB 1493)
3. Expansion of Renewables Portfolio Standard (RPS) to 33%
(biomass/biofuel feedstock)
4. Carbon Tax ($10‐$15/metric ton CO2)Low Carbon Fuel Standard (LCFS)
Problem: Transportation fuels currently account for 40% of
GHG emissions
Goal: Reduce average carbon intensity of transportation fuels by
10% by 2020
• LCFS will address 50% of GHG emissions related to transportation fuels
• LCFS is an early action measure under AB 32
Requirement: Fuel producers/importers must assess life cycle global
warming intensity of fuel, per unit of energy, and reduce this
over time
Compliance: Improve refinery efficiency, blend fuels with lower carbon
intensity, buy credits from other fuel providers
In combination with Federal RFS, California will need 3 bgal/yr by 2020Low Carbon Fuel Standard (LCFS)
Progress: Draft LCFS Regulation issued October 2008
•Regulated Parties (RPs) must meet yearly declining carbon intensity
requirements and submit progress/compliance reports
•RP’s can use choose between 2 lifecycle methodologies in calculating
carbon intensity
Model 1: CA‐modified GREET (sub‐pathway drafts now issuing)
Land Use + Processing + T & D + Land Use Change=total carbon intensity
Model 2: Customized (must achieve 10% more than Model 1 and sell at
least 10 million gallons)
*CARB has said that it will evaluate other
*Tesoro suit : Phase 3 RFG & LCA environmental and social components
including GMOs, biodiversity, labor rights,
*Inclusion of indirect land use income distribution, etc., and will develop
change (ILUC) requirement is guidelines in conjunction with UC and
controversial othersBiofuels Sustainability Standards: The Next Regulatory Frontier
What does “sustainable” mean?
Environmental Land Use
Climate Change
Societal Labor Conditions
Rural Development
Economic
Benefits to Society
Should Outweigh
Total CostsHow is sustainability achieved?
Voluntary International
Initiatives International (non‐biofuel)
Feedstock Specific
National
Private Sector
Multilateral Development Banks
Mandatory International
Standards National (EU/US)
Sub‐National (States)Voluntary Initiatives
Roundtable on Sustainable Biofuels (RSB) Version Zero
(8/2008)
International Global Bioenergy Partnership (GPEP)
2009?
United Nations
Various Decision‐Making
• UN‐Energy Frameworks
• Food and Agriculture Organization (FAO)
Millennium Ecosystem
• U.N. Environment Programme (UNEP) Assessment
Social and Economic
Sustainability Focus
Sustainable Agriculture
Rainforest Action Network
International Standard (2/08)
(non‐biofuel) Forest Stewardship Council 10 Principles & Criteria;
(Potential Models) 57 indicators
International Federation of
Organic Movements (IFOAM) Organic Guarantee System;
Certifier Accreditation
Fair Trade Label Organization
Generic and Product‐
Specific StandardsVoluntary Initiatives
Principles and
Roundtable on Sustainable Palm Criteria, 10/07
Feedstock Specific Better Sugarcane Initiative 2009?
Roundtable on Responsible Soy (RTRS) Draft Principles &
Criteria, 4/08
National American National Standards Institute Draft Std 5/07; Set
aside 9/08
European Committee for
Standardization Technical Committee
(CEN) formed; draft 2/09
Cramer Report (Netherlands) 5/07; 6 themes, 9
principles w/criteria &
Sustainable Biodiesel Alliance indicators
Draft Baseline Practices for
Social Fuel Stamp Sustainability, 10/08
Brazilian Law requiring
local purchasesMandatory Standards
Kyoto Protocol (GHGs)
Biodiversity Treaties (Potential Application)
International WTO Agreements/Standards Incorporation
Review of Fuel Quality
European Union Directive
Proposal for Directive on
National
Promotion and Use of
Energy from Renewable
U.S.
Sources (1/2008)
U.K. Criteria & Indicators, 11/08
Germany RTFO Sustainability Reporting
Sub‐National
(Regional, State) Biofuels Quota Law requires
compliance with EU
California environmental regulations
Currently being studied under
LCFS; lawsuit alleges cross‐
compliance evaluation
mandatoryThank you!
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