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Wednesday, May 7, 2008

The Fundamental Errors of Biofuels

Chuck Colson has an interesting piece today in Townhall about the situation surrounding ethanol and other so called biofuels.

What is maddening about this is that the biofuel effort is fueled by politicians handing out massive subsidies to the farm belt and pandering to glassy-eyed environmentalists. Every presidential hopeful who participated in the Iowa caucuses had to sing the praises of ethanol. That is why John McCain stayed away, because he opposes the subsidies.

Now, the story of biofuels and their current failure (and of course worse than that their contribution to sky rocketing food prices) has several different lessons.

It has been hypothesized by John Stossel and others that ethanol is so popular among politicians because Iowa is the first state to vote in the primaries. While that is a hypothesis that is impossible to prove, it is very important to examine why it was so foolish to focus on ethanol exclusively.

Energy independence is not merely a worthwhile goal but rather vital to winning the GWOT. That said, politicians are not scientists and certainly not entrepeneurs. By giving ethanols their own special category so to speak, the politicians created a demand for it that the market never would have. As such, farmers went en masse to plant corn to be used in cars that would likely have been used for food. That contributed to tightening supply of most crops and contributed to the skyrocketing food prices we see.

It is very possible that politicians were paying special attention to ethanol simply because Iowa has so much corn. No matter the reason, what the politicians did was create an artificial demand for it. In any situation, when politicians tinker with the market, it almost always winds up blowing up in their faces.

Secondly, politicians created mandates for biofuels. These mandates also created an artificial demand in a segment of the market that wouldn't have happened naturally.

The newly passed energy bill is a boon to the ethanol industry and welcome news to many of America's corn farmers. Gregg Heide of Pomeroy, Iowa, has been farming corn for more than 20 years. He talks with Michele Norris about what the new bill could mean for his farm and his bottom line.

The Energy Bill that President Bush signed into law Wednesday mandates an increase in automotive fuel efficiency for the first time in 32 years. Under the new law, cars, SUVs and small trucks must get at least 35 miles per gallon by 2020.

Critics will argue about just what the energy bill will do — and what it won't do. But it will no doubt have a big impact on how and what we drive, how we heat our homes and how we keep our businesses humming along.

Mandating anything forces it artificially. While it was well meaning to try and lift fuel standards, lifting them artificially only causes disequilibrium in the market. Remember, the only current so called alternative energy source that has anything near mass appeal is EA85 (which is ethanol). Thus, this new energy bill placed a high premium again on corn turning into gasoline.

If ethanol was in fact the long term solution for our energy needs, there would need not be an energy bill. The market would evolve into ethanol. It's likely our politicians looked at Brazil as the model for energy independence.

At current prices, Brazil can make ethanol for about $1 a gallon, according to the World Bank. That compares with the international price of gasoline of about $1.50 a gallon. Even though ethanol gets less mileage than gasoline, in Brazil it's still cheaper per mile driven. As a result, ethanol now accounts for as much as 20% of Brazil's transport fuel market. The country's use of gasoline has actually declined since the late 1970s. The use of alternative fuels in the rest of the world is a scant 1%.

Yet countries wanting to follow Brazil's example may be leery about following its methods. Military and civilian leaders laid the groundwork by mandating ethanol use and dictating production levels. They bankrolled technology projects costing billions of dollars, despite criticism they were wasting money. Brazil ended most government support for its sugar industry in the late 1990s, forcing sugar producers to become more efficient and helping lower the cost of ethanol's raw material. That's something Western countries are loath to do, preferring to support domestic farmers.

It is unfortunate that Brazil created energy independence through mandates because that became the model. It is quite likely that mandates wouldn't have been necessary. In Brazil, sugar is quite plentiful and ethanol is easily made from sugar. The Brazilians would have likely been just as successful creating a series of tax breaks for ethanol made out of sugar and been just as successful.

The difference in Brazil is that sugar is so plentiful that the market could naturally take on the transformation of gasoline from oil to sugar. That is why tax breaks would have worked just as well. Ethanol made out of corn here could at best fuel one in six cars.

Therein lies the rub, as Shakespeare would say. In America, we don't have anything, that we know of, that is in such large supply that can completely replace oil on its own. Yet, corn based ethanol was presented as such, and likely that was for political reasons.

What's clear to me at least is that the way to energy independence lies not in one technology but in a combination of many. For the U.S. to be energy independent we need market based solutions that allow the best technologies to naturally rise to the top. It is not creating top billing for one technology (ethanol) by the government.

A while back I proposed my solutions to energy independence and those solutions involved significant tax cuts. Taxes, like mandates, are yet another government intrusion on free market activities. Taxes discourage where normally people would act. Rather than mandates and special preferential treatment to one technology, I say cut taxes on all alternative energy sources and let the free market create a plethora of new alternative energy sources on its own.


BioFuels said...

Agree with the overall point, 9 out of 10 things the government touches it breaks and makes them cost much more. There is a 90% probability that any mandate will make something worse.

Interesting notes on Brazil. If ethanol were really an answer, why does the US government impose stiff tariffs on Brazilian ethanol?

mike volpe said...

I don't know how much of an expert I am on ethanol, however as I understand it in Brazil their ethanol is powered by sugar and here it is powered by corn. I understand that sugar is the number one crop in Brazil. That said, whether or not ethanol from sugar is the answer or not, I am against any such tariff. Free trade is crucial to energy independence.