Rewards for Performance, Not Over-Hyped Promises
I recently wrote a post detailing some steps that I believe should be taken to improve the nature of how we provide incentives for biofuels: How to Fix the Broken Cellulosic Ethanol Incentive System. My proposal is like a feed-in-tariff for next generation biofuels.
The highlights are that we should reward companies that deliver, and not those that make promises. We shouldn’t put the taxpayer on the hook for broken promises, and we should create a more level playing field for advanced biofuels. At present that playing field is tilted heavily in the direction of cellulosic ethanol.
The original article was edited a bit and also published at Forbes: Fixing A Broken Biofuel Incentive Program. One of the issues I noted in that story was that “you can imagine that those who are after tax dollars under the current system might strongly oppose such a change.”
There were some comments following the original essay, as well as following the Forbes version, that indicated that some people believe that I am proposing to eliminate funding for biofuels. That is untrue. The support would come from 1). The bank that loans them money on the basis of the $2/gallon subsidy; 2). A contract with the DOE to pay the subsidy; and 3). From taxpayers who will reward performance and not promises.
Personally, I believe some advanced biofuels would rise to that challenge and deliver. I believe this system would spur some that is innovation lacking under the current program. But if advanced biofuels are not able to deliver with a $2/gallon subsidy available to them, we will need to reevaluate and modify our expectations for the future. But at least unlike the current system, we will have an idea of how far out of the money these advanced biofuels are. With the current system of funding that mixes government-backed loans and subsidies with private equity, who really knows how much it costs to produce some of these fuels? Their economic models might treat a government grant as free capital that never has to be paid back, in which case it appears that their fuel is cheaper to produce than it actually is. Costs are easily disguised under the current system.
Status Quo: Who Stands to Gain?
As I noted in my essay some would oppose my proposal because they benefit under the current system. Who would those people be? Obviously, those who have gotten (or expect to get) grants and guarantees under the current system — but who will not be able to deliver per their promises — would be the ones most staunchly opposed. After all, these are the companies that are fleecing taxpayers but are ultimately unaccountable for the money they spend. A second category that might come out against my proposal are suppliers of equipment and raw materials who are benefiting under the current system. As a hypothetical, under the current system we might see ten plants built and one deliver. Under my proposed system, we might see five plants built and three deliver because more of the pretenders will be screened out. Who loses in that scenario? Anyone who lost out on building those five additional plants that ended up rusting away when they couldn’t deliver.
Following my essay at Forbes, Paige Donnelly, a Communications Manager for Novozymes, responded that she didn’t think my idea was so hot and that the status quo was just fine. Her response essentially summed up some of the misunderstandings around what I have proposed. I think it is clear that Novozymes benefits under the current system, and they will benefit as long as we continue to preferentially throw money at cellulosic ethanol since they are a major provider of enzymes to this imagined industry. They are getting money whether or not they ultimately deliver. They have gotten millions of dollars in grants under the current system, hence I am sure they enjoy the status quo. I note that because hers is unlikely to be an unbiased critique.
Rapier vs. Donnelly
Nevertheless, I shall address her points below. I did provide a response in the comments at Forbes, but I will go into a bit more detail here. Her comments are quoted in full, italicized, and denoted “PD.” My response follows each set of quoted comments.
PD: “Mr. Rapier – I read with interest your article, and proposal of a revised biofuel incentive system. As an employee of Novozymes, manufacturer of enzymes provided to the ethanol industry, I have to disagree with your assertion that cellulosic ethanol will never be commercially viable.”
I have noted that cellulosic ethanol might work in some niche situations. But scalable into the billions of gallons? Only if you find an abundant supply of free or cheap energy to remove the water from the ethanol. But if one has a free or cheap supply of energy, I bet you can find better things to do with it than separate out a tiny bit of ethanol from a lot of water. That is not the only problematic issue, but it is a big one.
PD: “Cellulosic ethanol technology has advanced enormously over just the past five years. This technology is the most advanced among next generation biofuels currently under research. In fact, the price of enzymes to convert biomass to fuel has reduced by 90 percent in just the past 5 years, making it possible to produce this fuel at $2.50/gallon on a commercial scale.”
As I have noted many times, the cost of enzymes was a problem, but it was never the biggest problem. The fall in the price of enzymes has gotten a lot of media coverage. One reason for this, I believe, is to keep up the impression that this is the key to cellulosic ethanol commercialization, and as progress continues to be made money should still flow in that direction. But the single biggest issue in my opinion is the low titers of ethanol, which require all of that water to be removed. That is, and will always be, an incredible expenditure of energy. Even if the titers marginally improve, you might move from being uneconomical to marginally economical.
As far as $2.50 a gallon on a commercial scale, since nobody is producing on a commercial scale this is a projection. Projections require assumptions which sometimes don’t turn out as planned. I will be a believer in $2.50 ethanol when someone is actually willing to sign a contract to deliver commercial volumes. I note that in early 2010 Novozymes predicted costs of $2 cellulosic ethanol for 2011. Where is it?
PD: “We are currently seeing viable, cost-effective processes at demonstration scale today. Novozymes has partners working toward the goal of commercialization around the world, with the first commercial scale plant under construction in Crescentino, Italy right now, and plants in the US from our partners due to follow shortly thereafter.”
Cost-effective at demonstration scale? I suspect you are again making projections about demonstration scale projects that could be cost-effective in your opinion when scaled up. But the complexity of the process and economies of scale would argue strongly against anyone being able to produce cost-effective cellulosic ethanol at a demonstration scale.
PD: We must also remember that no industry of comparative size and magnitude has ever gotten off the ground without government support. This includes telecommunications, the internet and our existing oil industry. If we want to stop pumping our dollars into foreign bank accounts, we need to invest in domestic fuel programs that are sustainable and have the capacity to significantly reduce the fuel we currently import into our country.
First off, I doubt that “no industry of comparative size and magnitude” has gotten off the ground without government support. I suppose it depends on what you consider government support, but I am unaware of direct cash subsidies to Microsoft or Apple (for example) in order to get their industries moving. But that is irrelevant, because I am not proposing to stop investing in domestic fuel programs. I am proposing to stop funding processes than can’t deliver per their promises. Processes that may never be viable will continue to benefit under the current support programs, and taxpayer will foot the bills. Actually it’s worse than that because our children are going to get the bills.
Biofuels that receive little fanfare today have the most to gain under my proposal, but if cellulosic ethanol is on the verge of being viable — as you believe — then it would also benefit immensely. Instead of spending $250 million tax dollars to subsidize a 50 million gallon cellulosic ethanol facility, we will spend maybe $500 million subsidizing the product. The caveat is that a process must actually be capable of delivering — and they must have enough data to convince a bank to loan money on the basis of the process — in order to collect. But we would no longer use tax dollars to subsidize processes that never deliver. I expect that fewer tax dollars would be spent under my proposal, but there will be a lot of bang for for what is spent.
PD: Ethanol is the only alternative we have today that can provide a significant step forward in this process. Traditional ethanol has reduced our gasoline consumption by 10% and could go even further if we were allowed to use higher concentrations of ethanol in our cars. Cellulosic ethanol can leap us forward even farther due to the abundance of this resource and the fact that most of the feedstock we could use to produce this ethanol is actually considered waste product today.
Ethanol is the alternative because it has had the political support and we are mandates to use it in our fuel supply. If that support had been behind methanol, it would be the alternative. In fact, as I have pointed out before unsubsidized methanol is cheaper on a per gallon and per BTU basis than is subsidized ethanol. Under my proposal, methanol would have a much better chance of making inroads as transportation fuel either directly or through conversion to di-methyl-ether (DME).
PD: “I also want to address some specifics in your report:
• Administer the program from DOE vs. EPA – sounds good, but it’s a jurisdictional issue. The RFS is run under the EPA’s Clean Air Act. If you move jurisdiction, you’d have to redo the entire program, requiring a lengthy amount of time and taking govt. focus away from more important issues right now such as creating jobs.”
And how well is the program working under its current jurisdiction? How much of the hundreds of millions of gallons of mandated cellulosic ethanol have been produced under current jurisdiction? I am trying to fix something that has not delivered. If it takes time to move that from EPA to DOE so be it. The DOE has better expertise for evaluating technologies, but if that’s a showstopper for you then assign some engineers at the EPA to evaluate them.
PD: • “You mentioned a carve-out for cellulosic ethanol. That’s incorrect–the RFS2 notes cellulosic biofuels, so your argument for biomass-based di-methyl-ether is already covered.”
Cellulosic ethanol has had all of the hype and all of the political support. It has gotten the lion’s share of the grants and loan guarantees. That is essentially a carve-out. And why should we care if the fuel is cellulosic? Not all biomass is cellulose. How much chance do biomass-based mixed alcohols have under the current program? Not much. After all, our politicians would have to be educated about mixed alcohols and someone would have to hire lobbyists and carry that banner. Every competing fuel would have to do that under the current system; spending time and money trying to convince politicians that their process has merit. In the system I am proposing, all of these fuels have a shot without requiring specific political support. Under my system more dollars can be spent on developing fuels because less is spent on lobbying politicians.
PD: • “Eliminate all grants and loans for facilities – this is an option only when all support for petroleum fuels (depreciation allowances, exploration credits, etc.) are removed. If we are truly aiming for a technology-neutral playing field, biofuels shouldn’t be disadvantaged either.”
No. I don’t think you understand the nature of what I am proposing at all. Biofuels would not be disadvantaged. If I offered a $2/gallon subsidy to advanced biofuels across the board, how exactly are they disadvantaged relative to petroleum? This would sharply tilt the playing field in their direction. Further, there would be no need for government-backed loans and grants for these facilities because the fuel producer would have a bankable off-take agreement. Support for petroleum here is totally irrelevant, because I have stacked the deck in favor of advanced biofuels if even a fraction of them can deliver per their claims.
The biggest winner under my system would in fact be cellulosic ethanol if it can deliver per the claims you have made. But it also has the most at stake. Cellulosic ethanol has been enjoying subsidies and preferential treatment already. If it can’t deliver, then it will lose that. When you accuse me of wanting to cut support, then I can only read that as concern that you won’t be able to deliver — since that is the only case in which support will be cut.
In conclusion, I don’t believe you have offered any substantive rebuttal to my proposal. Your reply would be more appropriate to someone who advocated cutting off all funding for biofuels — something I have not done. But we have seen no signs that the current system is about to pay dividends — only promises that they are just over the horizon. We see a lot of people who would like to build plants, but who have delayed those plans due to economic concerns. Offer someone $250 million to build a cellulosic ethanol plant, and you may never see any returns at all from that money. Offer $250 million for the fuel — with a contract signed by the government to pay for it — and companies will have years of security around their fuel sales. In that case, getting private funding shouldn’t be an issue if a company has a viable process.
Disclosure: I used methanol, di-methyl-ether, and mixed alcohols as examples of fuels that could benefit, but I have no financial interests in any of the fuels I discuss here.
Update: The discussion continues. Paige responded to my comments at Forbes. She once more made the accusation that I wish to starve support for biofuels, claimed that ethanol’s dominance over methanol is because it is a “superior fuel”, and said the system is working as intended. I have issued a response to her latest comments.