Ethanol Demand Destruction 2.0?

February 06, 2025

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by Scott Irwin (farmdoc daily) In a farmdoc daily article last week (January 29, 2025), we examined a range of alternative scenarios for setting the 2026 mandates under the U.S. Renewable Fuel Standard (RFS). In two of the scenarios, the conventional mandate was assumed to be written down to the level of domestic ethanol consumption, projected to be 14.3 billion gallons. This reflected the long-held goal of the crude oil refining industry of setting the RFS conventional (ethanol) mandate near or below the E10 blend wall (e.g., farmdoc daily, July 12, 2018). The first Trump Administration was supportive of this goal, mainly using small refinery exemptions (SREs) under the RFS. Since a second Trump Administration is now in place, it seems reasonable to assume there is the possibility of the conventional mandate again being written down, either directly or indirectly through SREs. This raises the question of the likely impact of any future reductions in the conventional mandate on the demand for ethanol in the physical market. Fortunately, the previous episode with SREs provides a valuable test case regarding the potential for ethanol “demand destruction.” The purpose of this article is to investigate the impact of SREs on the physical demand for ethanol during the first Trump Administration to better understand potential impacts if the second Trump Administration follows suit.

Analysis

The RFS was created under the Energy Policy Act of 2005 and was later modified and expanded under The Energy Independence and Security Act of 2007 (farmdoc daily, May 17, 2023). The 2005 version of the program is known as “RFS1” and the 2007 version as “RFS2.” Since its inception, the program has been administered by the U.S. Environmental Protection Agency (EPA). RFS1 included a provision to exempt small refineries (fewer than 75,000 barrels of average aggregate daily crude oil throughput) from the specified biofuel mandates based upon a finding of a disproportionate economic hardship for the small refinery (or refiner), and this provision was not changed in RFS2. The implementation of small refinery exemptions (SREs) changed substantially over time. Initially, RFS1 provided a statutory blanket exemption for all small refiners through 2010. In 2011, EPA temporarily extended the blanket exemption through 2012 in response to demands from Congress for a reassessment of the impacts on small refineries (farmdoc daily, December 6, 2017). From 2013 through 2016, the Obama Administration awarded only a few SREs. This policy was reversed in 2017 by the first Trump Administration, with the EPA granting a total of 85 SREs for the 2016-2018 compliance years representing nearly 40 billion gallons of exempted gasoline and diesel volumes (farmdoc daily, September 19, 2019).

The retroactive manner in which the SREs were implemented under the first Trump Administration effectively reduced the conventional (ethanol) mandate. For example, the SREs awarded for 2017 reduced the conventional mandate from 15 billion gallons to 13.9 billion gallons (farmdoc daily, July 12, 2018). This was not only a large reduction in absolute terms, but, crucially, it resulted in the conventional mandate being set below the E10 blend wall. Additional SREs were awarded for the 2019 compliance year and expected SREs for the 2020 compliance year were part of the final EPA rulemaking for that year. However, a Tenth Circuit Court of Appeals decision in late January 2020 vacated most of the SREs granted in previous years and remanded the matter back to the EPA for further proceedings consistent with the opinion (farmdoc daily, March 12, 2020). While there has continued to be back and forth in the courts about SREs, the January 2020 decision marked the effective end of SREs having a major impact on the implementation of RFS mandates.

While there was never any doubt that SREs represented an indirect mechanism for reducing statutory and obligated RFS volumes, there was sharp disagreement about the impact of SREs on the physical demand for ethanol. On one side, obligated parties, mainly refiners, argued that physical ethanol demand was unaffected. On the other side, the corn ethanol industry argued there was substantial destruction of demand in the physical ethanol market due to SREs. A series of farmdoc daily articles (September 13, 2018; December 13, 2018; January 16, 2019: March 14, 2019) examined the impact of SREs in biofuel markets and found: i) little or no evidence of demand destruction for ethanol, and ii) substantial evidence of demand destruction for biomass-based diesel. However, these articles were published before January 2020, and therefore did not have complete data for the period when SREs potentially had the greatest market impact.

The first step of the analysis in the present article is to define the period of greatest SRE impact during the first Trump Administration.

...

Implications

With the changeover of Administrations in Washington, D.C., there is uncertainty about how the U.S. Renewable Fuel Standard (RFS) mandates will be implemented going forward. One possibility is that the new Trump Administration will follow the playbook from the first Trump Administration and write down the conventional (ethanol) mandate to the level of the E10 blend wall. The chosen instrument for doing this in the first Trump administration was through small refinery exemptions (SREs). The previous episode with SREs provides a valuable test case regarding the potential for ethanol “demand destruction” if this policy is repeated in the new Trump Administration. We examined the aggregate blend rate for ethanol in the U.S. during the period of heaviest SRE activity—December 2017 through January 2020—and found no evidence that the blend rate fell systematically during this period. A reasonable conclusion is that SREs did not cause a reduction in the physical demand for ethanol in E10 gasoline blends. While there is a theoretical case to be made that the SREs reduced the physical demand for higher ethanol blends, such as E15 and E85, it is hard to find evidence for this in the data. The conclusion that SREs did not destroy ethanol demand may seem counter-intuitive, but there is a straightforward explanation. Ethanol is a price competitive component in the E10 gasoline blend in the U.S. due to its octane value. This competitiveness means that the RFS conventional mandate up to the E10 blend wall is non-binding, and fundamentally, this is why SREs during the first Trump administration did not destroy domestic ethanol demand. It is also why the corn ethanol industry has little to fear if the RFS conventional mandate is written down again in the second Trump Administration.

References

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Coppess, J. and S. Irwin. "EPA 2019 RFS Proposed Rulemaking: What You See Is Not What You Get." farmdoc daily (8):128, Department of Agricultural and Consumer Economics, University of Illinois at Urbana-Champaign, July 12, 2018.

Coppess, J. and S. Irwin. "Another Wrinkle in the RFS: The Small Refinery Exemption." farmdoc daily (7):224, Department of Agricultural and Consumer Economics, University of Illinois at Urbana-Champaign, December 6, 2017.

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