Alternative Fuels

Can the U.S. Ethanol Industry Compete?

The U.S. ethanol fuel industry has experienced preferential treatment from federal and state governments ever since the Energy Tax Act of 1978 exempted 10 percent ethanol/gasoline blend (gasohol) from the federal excise tax. Combined with a 54¢ per gallon ethanol import tariff, this exemption was designed to provide incentives for the establishment and development of a U.S. ethanol industry. Despite these tax exemptions, until recently, the U.S. ethanol fuel industry was unable to expand from a limited regional market. Ethanol was dominated in the market by MTBE (methyl-tertiary-butyl ether). Only after MTBE was found to contaminate groundwater did the demand for ethanol expand nationally. Limit pricing on the part of MTBE refiners is one hypothesis that may explain this lack of ethanol entry into the fuel-additives market. As a test of this hypothesis, a UGA agricultural and applied economist developed a structural vector autoregression (SVAR) model of the ethanol fuel market. The estimated SVAR model supports the hypothesis of limit-pricing behavior on the part of MTBE refiners. These results suggest the U.S. corn-based ethanol industry is vulnerable to limit-price competition, which could recur. The dependence of corn-based ethanol price solely on supply determinants limits U.S. ethanol refiners' ability to price compete with sugar cane-based ethanol refiners. Without federal support, U.S. ethanol refiners will find it difficult to compete with lower priced sugar cane-refined ethanol, chiefly from Brazil. Brazil's refining process could dump low-priced ethanol fuel onto the U.S. market and squeeze out any U.S. ethanol refiners' market share. (2006)

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