Ethanol

I had the opportunity recently to travel to Brazil on business. One topic of conversation with my Brazilian hosts was the use of ethanol in their country. Roughly 40% of their gasoline usage has been replaced by ethanol, and the country is energy-independent, at least in the specific category of gasoline usage. This discussion encouraged me to do research on ethanol production in the US after I returned.

What I found was that ethanol production is booming in the US. Production increased 135% from 2000 to 2005, with roughly 90 plants operating during 2005. A typical plant might produce 40 to 50 million gallons per year, and cost $50 to $100 million to build. In 2006, there are 33 plants under construction, 8 undergoing significant expansion, and many more being considered. Click here for a sample news story.

Will this enable the US to drive (pun intended) towards energy independence from the turbulent Middle East? Opinions are somewhat divided, but the answer appears to be: not likely.

Why? Some of the reasons are clear, others less so.

1. Whereas Brazil produces its ethanol from sugar cane, in the US the primary source is corn. Corn is substantially more difficult to distill than sugar cane, increasing the required investment in plants, and increasing both transportation and raw material (corn) costs.
2. Due to both the size of the US market, and the effective conversion rate of the corn, a very large percentage (exact number under debate) of the total arable land would be required to displace even a small percentage of gasoline consumption.
3. Infrastructure. Ethanol plants generally need to be located near the crop source, and the finished product is difficult to transport.

The economics of ethanol are also murky. Considerable government subsidies (along with the elimination of MTBE) have helped fuel the current boom. But some scientists (in the minority) claim that the energy required to produce ethanol is greater than the energy produced by the ethanol. This contrarian opinion is also balanced by the fact that the efficiency of ethanol production has been increasing rapidly, and that this trend may continue or even accelerate.

For the next few years, the likely scenario is that ethanol production will continue to soar, lifted by high oil prices and government intervention. US automakers (especially GM) have a marketing advantage, in that they have invested heavily in both production and marketing of ethanol-enabled cars ("E85"). As ethanol production continues to grow, and as retail locations selling ethanol proliferate (especially in the Midwest), the true economics may begin to become clearer. If a few more charismatic leaders jump on the bandwagon, the current boom could become an investment frenzy that reminds of the 90's dot.com boom.

Click here for a list of retail locations in Illinois.