Mandated Flex-fuel Technology: Throwing Bad Regulation After Bad

By Marlo Lewis -- May 4, 2009

One dumb government intervention in energy markets typically begets another, as special interests lobby to counteract the unintended (although not unforeseen) consequences of some previous intervention they championed. The federal ethanol mandate, also known as the renewable fuel standard (RFS), provides a recent example.

Thanks to this Soviet-style production quota system, which Congress created in 2005 and expanded in 2007, daily corn ethanol production in February increased by about 17,000 barrels to 647,000 barrels per day, despite weak motor-fuel demand and poor to negative profit margins for ethanol producers. 

Unsurprisingly, inventories of unsold ethanol increased by 1.5 million barrels in February and about 20% of new capacity added last year is idle. An ethanol glut is one of the factors that have bankrupted several ethanol companies. Other factors include high feedstock (corn) prices in 2008–itself a consequence of the mandate—and the collapse of crude oil and gasoline prices in 2009.

To eliminate the glut, the Renewable Fuels Association (RFA) has petitioned EPA to increase from 10% to 15% the amount of ethanol that may be blended into regular gasoline.  In other words, RFA proposes to increase by 50% the amount of ethanol you buy each time you fill up. The small-engine industry worries that gasoline containing 15% ethanol might damage lawnmowers, motor boats, generators, and even some cars. Significant research suggests that higher ethanol blends will increase air pollution (see here and here). None of this bothers RFA one bit.

Although not overtly a mandate, raising the blend ceiling to 15% would likely make 15% the industry standard, because refiners are under constant legal pressure to increase the amount of ethanol they blend into the nation’s fuel supply.  Under the 2007 RFS, corn ethanol used in motor fuel must increase from 9 billion gallons in 2008 to 15 billion in 2015. 

The ethanol industry enjoys a multitude of market-rigging privileges including the RFS, tariffs to keep out cheaper Brazilian ethanol made from sugar cane, and a 45-cents-per-gallon blenders tax credit for each gallon of ethanol sold in motor fuel. Take away those policy stilts, and practically no ethanol would be produced or sold as motor fuel.

But, claim ethanol apologists, ethanol would become fully competitive with gasoline, even out-compete gasoline, if ethanol were “allowed” to compete. Huh? The argument goes like this.

When you buy a new car, you basically have a choice between a car that runs on gasoline and another one that runs on gasoline. Consumers thus have no choice among motor fuels; hence there is no competition in the motor-fuel market.  To rectify this market failure, government should mandate that new cars be equipped with flex-fuel technology.  Flex-fuel vehicles can run on anything from regular gasoline to E-85 (motor fuel blended with 85% ethanol), and the technology adds only about $100 to the cost of a new vehicle. Mandate flex-fuel technology, and all kinds of wonders will ensue. Consumers will flock to ethanol en masse, billions of dollars we’re sending to petro-states abroad will go to farmers at  home, OPEC will crumble, the House of Saud will come a-tumblin’ down.

Beguiled by this argument, Rep. Eliott Engel (D-NY) and Sen. Sam Brownback (R-KS) have introduced bipartisan legislation in their respective chambers (HR 1476, S. 835) to establish an “open fuel standard” (OFS). Each automaker would be required to ensure that at least 50% of the vehicles it manufactures or sells are flex-fuel by 2012 and at least 80% by 2015. 

Alas, what flex-fuel mandatists decry as the absence of competition is actually the result of competition. Ethanol as a motor fuel has been around as long as petroleum-based gasoline. In fact, back in the 1920s, Henry Ford reportedly predicted that ethanol would be the “fuel of the future.” The marketplace proved him wrong for what turns out, in hindsight, to be fairly obvious reasons. None of the alternatives to gasoline perform as well in terms of cost, portability, and energy density. And in point of fact, auto companies already make vehicles that run on E-85. About 6 million have been sold in the United States–about six times the number of Prius’s sold worldwide! So, the claim that consumers today can’t choose a flex-fuel vehicle if they want one is bogus.

 What the flex-fuel mandatists lament as a lack of competition is simply a competitive outcome they dislike.

If the combination of flex-fuel vehicles and E-85 is such a great bargain, consumers will demand them, and profit-seeking companies will produce and deliver them for sale, all without another mandate. Alternatively, if the flex-fuel/E-85 package is not a good buy, no amount of government meddling can make it so.

Maybe future innovations will make flex-fuel/E-85 a winning combo. Right now, however, filling up with E-85 is a big fat money-loser, as you can see for yourself by visiting www.fueleconomy.gov, a Web site jointly administered by the Department of Energy and the EPA. Once you’re there, click on “Flex-Fuel Vehicles,” then click on “Fuel Economy Information for Flex-Fuel Vehicles,” and then click on “Go.”

EPA and DOE compare the average cost of using regular gasoline and E-85 for scores of different flex-fuel vehicles. In every case, regardless of make or model, fueling the vehicle with E-85 costs more–lots more.  Consider a few examples based on fuel prices as of May 1, 2009:

                                                     E-85                               Regular Gas

                                                    Annual Cost             Annual Cost

Chevrolet HHR 4WD          $1428                              $1184

Chrysler Sebring                 $1697                              $1399

Dodge Avenger                    $1697                              $1399

Ford Crown Victoria         $1939                                $1617

Lincoln Town Car                $1939                                $1617

GMC Sierra                             $2088                               $1808

Ford Expedition                  $2468                                 $1922

Jeep Grand Cherokee        $2715                                  $2051

Mitsubishi Raider               $2715                                  $2051

Toyota Sequoia                    $2715                                  $2196

Cadillac Escalade 2WD     $2468                                    $2051

Nissan Armada                  $2715                                     $2196                   

So, for the privilege of spending $100 extra on flex-fuel technology, you can spend hundreds more to fill up your vehicle with E-85 rather than gasoline. Is it any wonder most people don’t buy flex-fuel vehicles?

Mandating the installation of flex-fuel technology would not enhance consumer choice or competition. Indeed, the very idea of a choice-expanding mandate is oxymoronic. Such a mandate would eliminate a choice that most consumers now in fact make–the choice not to buy a flex-fuel vehicle. Mandatists do not want competition. They want a rigged marketplace in which they, rather than competition, dictate the outcomes. 

Here are my predictions, if the flex-fuel mandatists get their way:

• Most people will continue to fill their tanks with gasoline, because gasoline will still be a better buy.
• Mandatists will then demand new mandates requiring gas stations to install E-85 pumps, call for penalties and rewards aimed directly at consumers (such as feebates and excise taxes), and lobby for a bigger RFS.
• All of this will do nothing to defeat al-Qaeda or save the planet.
• These multiple interventions will, however, make it harder for U.S. automakers to produce cars people want to buy. By diverting resources, the interventions will also impede market-driven innovation in automotive technology and design.