Transcript The Economics of Bio-fuels: an introduction

The Economics of Biofuels
YICGG
Rome, 20 August 2008
Paolo Paesani
University of Rome “Tor Vergata”
Economics Department
Motivation and outline
 Motivation
Biofuel economics is about technological progress,
government subsidies, agricultural, energy, transport and
environmental policies, comparative advantages and
protectionism, global governance, green finance, fuel vs.
food … energy security and climate change
 Outline of the presentation




The global growth-transport cycle
Introductory overview
The economics of biofuels
“Biofuels: is the cure worse than the disease?”
The global growth-transport cycle
Introductory overview
 Biofuels, fuels derived from sugar, animal fats and vegetable
oils used mainly as a liquid energy source for vehicles, are
regarded as having the potential to address many of the
economic and environmental problems posed by the global
growth-transport cycle.
 Although used as motor fuels since the 1920s, Biofuels have
started to emerge as rivals to fossil fuels within the last
couple of decades, particularly so since 2003, when the
price for a barrel of crude oil started rising above USD 30.
 Global production of biofuels amounted to 0.8 Ej in 2005,
approx 1% of total road transport fuel consumption.
Technically, up to 20 Ej from conventional ethanol and
biodiesel has been judged possible by 2050 (source OECD).
Introductory overview
The economics of Biofuels
Industry structure
 Production of feedstock crops
 The production of crops is carried out by hundreds of
thousands of farmers across the world.
 Biofuel manufacturing
 Major global players include ADM, Bunge, Cargill and
Louis Dreyfus (agri-business multinationals)
 Ethanol manufacturing is carried out by companies
already part of the agricultural industry.
 The structure of the bio-diesel industry is bi-polar, with a
few large companies involved in producing bio-diesel on
an industrial scale, and at the other end a large number
of very small, often locally or farmer owned industry.
Industry structure
 Distribution and retail sales
 The wholesale distribution (including blending) is carried
out by small and medium-sized companies in some
countries and by large, sometimes state-owned oil
companies in others.
 Usually retail distribution is guaranteed by the existing
network of petrol and diesel fuel distributors.
 End-users
 The majority of end users of Biofuels are individual
owners of private vehicles.
 In some countries, government agencies, military forces
(notably the US army), municipal governments and cities
purchase bio-diesel for their fleet of vehicles/buses.
Current and future production costs
 The costs of producing biofuels vary significantly from one
country to another, depending on feedstock, process,
costs of energy and labor and location.
 Location determines access to particular feed-stocks and
energy supplies, the prices of which are, to a large
degree, driven by market developments at the global
scale.
 The basic processes currently used for producing ethanol
and bio-diesel do not vary greatly, though the scale of
actual plants actually does.
 According to Doornbosch R. & R. Steenblik (2007) “The
expansion of biofuels derived from starch, sugars or plant
oils alone will hit a limit within the next decade. Any
increase in supplies beyond that limit will have to come
from second-generation technologies and feedstocks”.
Production costs: ethanol

Most of the ethanol produced in
the tropics is derived from
sugar-cane. The costs depend
on feed-stock costs, scale of
operation, ability to switch
between the sugar and ethanol
markets. Modern plants burn
cane residue for process heat.

Costs of ethanol produced from
starch depend on heat source
and milling procedure.

“Further incremental cost
reductions can be expected,
particularly through large-scale
processing plants, but no
breakthroughs in technology
that would bring costs down
dramatically” (source IEA)
Production costs: bio-diesel

Currently, the main oil seed
used for bio-diesel production
are derived from soybeans, oilpalm fruit, coconut, rapeseed,
sunflower seed.

Value of oil feed-stocks depends
on yields (varying from 400-600
liters per hectare for soybeans
to 4000-7000 litres per hectare
for oil palm), compatibility with
crop rotation/soil enrichment,
value of residue after pressing.

“There remains some scope for
reducing unit costs of
conventional bio-diesel
production by building bigger
plants. Technologies
breakthroughs are unlikely”.
(source IEA)
Government support for Biofuels
Government support for biofuels
 Policies that directly bear on the level of production are
quantitatively the most relevant ones and are found to have
the most distorting effects.
 Domestic production of biofuels is directly supported by
governments through: border protection (on average +20%
on the cost of imported ethanol) and production subsidies
(US, leading country in the use of these subsidies grant €0.1
per litre). Many countries support biofuel use through
Regulations mandating usage or blending percentages and
tax preferences tied to fuel excise taxes or sales taxes.
 According to Doornbosch R. & R. Steenblik (2007)
“Government policies supporting and protecting domestic
production of biofuels are inefficient, cost-ineffective and
contribute to creating a structural imbalance between
demand and supply … Government subsidies should be redirected towards R&D on SGBF technologies (less
environment damaging)”.
International markets
 Ethanol and vegetable oils have been internationally traded
for many decades: prior to the late 1970s only for industrial
uses (e.g. beverages industry), from the late 1970s onwards
also for Biofuel production purposes.
 A reasonable estimate is that in 2005 trade covered about
10% of the world’s fuel ethanol consumption. The
percentage of vegetable oils used fro Biofuels feed-stocks
and bio-diesel is unlikely to have exceeded the 10%
threshold.
 Trade is likely to grow in the future, mostly due to limits to
growth in production, particularly in Europe.
 A number of barriers to trade, both tariff and non-tariff,
remain and domestic production is supported even there
where it should not be so.
Policy implications
 Impacts on agricultural markets
 The fundamental motivation for supporting Biofuels has
always been everywhere the desire to stimulate new
demand for crops in order to raise agricultural prices and
incomes and the value of farm assets, particularly land.
 Until recently, support policies in OECD countries provided
an additional outlet for crops, without affecting end-user
prices.
 Energy policies
 The idea that domestic Biofuels production will reduce a
country’s dependence on foreign sources of energy and
the “renewable energy appeal” have helped increase the
political popularity of Biofuels
 Questions remain: non-renewable inputs to Biofuel
production, uncertainty about displacement factors (oil is
used to produce Biofuels), energy efficiency as an obvious
alternative.
Policy implications
 Environmental policies
 Another motivation for supporting liquid Biofuels has come
from their superior emission profiles when used as motor
fuels compared with (low-grade) petrol and diesel.
 Whether the CO2 emitted in the various stages of Biofuel
production exceeds the CO2 absorbed by the crops and
saved when using Biofuels is a topic of fierce debate.
 In respect of soils and water, the expansion of crops for
Biofuels can actually have negative effects.
 Transport and related tax policies
 The largest intersection with transport policies has been the
numerous exemptions from fuel tax excise.
 Many policies at the local level favour flex-fuel vehicles.
Conclusions
 Biofuels could theoretically achieve a market share of
20% of the liquid fuels market in 2050. Recent OECD
calculation suggest that 13% is a more realistic figure. As
the current percentage is 1%, huge resources are pouring
into the biofuels industry.
 High fuel prices and generous regulatory support have
given the industry healthy margins and relatively short
investment payback times (Caesar W., J. Riese, T. Seitz
(2007)).
 Biofuels potential in terms of enhanced energy security,
net energy provision, GHG reduction, biosphere
preservation, however, remains VERY UNCERTAIN.
 Critics claim that biofuels will increase energy-price
volatility, food prices and even GHG emissions and warn
against potential damages to bio-diversity and the
environment.
Conclusions
 As long as oil prices stay at the present level, biofuels will
continue to be regarded as a viable alternative to fossil
fuels in spite of resurgent doubts and high uncertainty.
 Renewable energy appeal, energy security and climate
change concerns, possibility that commodity prices fall
again, lobbying power of producers act in the same
direction.
 Rising commodity prices, lack of technological
breakthroughs, contrary lobbying power, swinging
government and public opinion pose downside risks to
biofuel production.
 Biofuels should (and are likely) to remain a useful
niche energy source, ideally to be produced were it
is less costly and environmentally damaging to do so
and internationally traded on a reasonably free
basis. Certification, control by national authorities
and SGBF R&D should be strongly encouraged.
Bibliography

Brannlund R., B. Kristrom, T. Lundgren, P.O. Marklund (2007)
“The economics of Biofuels” USBE Research Institute, Umea
University, Sweden

Caesar W., J. Riese, T. Seitz (2007) “Betting on Biofuels”, The
McKinsey Quarterly 2007 Number 2

McMillen, S. (2007) “The Economics of Biofuels: A New
Industrial Revolutuion? “, Connecticut Department of Economic
and Community Development

Doornbosch R. & R. Steenblik (2007) “Biofuels: is the cure
worse than the disease?”, Round Table on Sustainable development,
available at
http://www.foeeurope.org/publications/2007/OECD_Biofuels_Cure_Worse_Than_D
isease_Sept07.pdf

Steenblik R. (2007), “The distorted economics of Biofuels”, Joint
Transport Reserach Centre, Discussion paper 2007-3, December
2007