The Ethanol Squeeze

"There's a lot of uncertainty in the market," economist says

CHICAGO -- Production of ethanol, the corn-based fuel additive that is one of the engines of the Midwest's agricultural economy, is slowing as manufacturers struggle with record low profit margins, reported The Chicago Tribune.

Last month, Valero Energy Corp., one of the largest U.S. ethanol producers, temporarily closed two of its 10 plants, said the report, and several other ethanol mills have been idled or curtailed production.

The pain comes on the heels of excitement in the fall when ethanol demand jumped as oil companies and distributors anticipated the expiration of a federal tax credit, the report said. The market gyrations pose new challenges to a young industry that has enjoyed, with few interruptions, extraordinary growth, thanks to a federal mandate requiring use of ethanol or other renewable fuels in gasoline.

The industry's expansion has boosted farming communities in Illinois and surrounding states where most of the nation's corn is grown and ethanol is made. About 40% of the U.S. corn crop last year went to ethanol production.

The Renewable Fuels Association said the cutbacks are merely a reflection of a market that quickly responds to changes in corn and oil prices. But the ethanol industry has excess capacity at a time when questions about future demand are made more complicated by federal regulations that seek to increase ethanol consumption, said the report.

"There's a lot of uncertainty in the market," Sean Hill, an industry economist with the U.S. Energy Information Administration (EIA), told the newspaper. "The industry is dealing with a lot of moving parts."

At the moment the industry is caught in a classic squeeze, the report said. Cash corn prices are trading at abnormally high levels because of dwindling supplies. Farmers are being cautious in making sales of corn because the record-high heat and drought that's scorched the Midwest could hurt their yields in the fall.

At the same time, ethanol prices have faded since the beginning of the year because of falling gasoline prices. Ethanol follows gasoline closely, said the report. Ethanol demand also has dropped because of decreasing exports.

The squeeze became so severe at Valero's plants in Albion, Neb., and Linden, Ind., that it was costing the company more to make ethanol at those mills than it could sell the fuel for, spokesperson Bill Day told the Tribune. The move comes amid drought conditions in both states.

Valero, based in San Antonio, expects to have both plants back in operation by August or September when corn harvests start, Day said.

Decatur, Ill.-based Archer-Daniels-Midland Co. said weak ethanol margins were in part to blame for a 31% drop in its fiscal third-quarter earnings. During the quarter ended March 31, the company announced that it was permanently closing an ethanol plant in Walhalla, N.D.

Other closures include a plant in Atkinson, Neb., owned by Nedak Ethanol LLC.

The shutdowns have brought some anxiety. Many people recall four years ago when a number of ethanol plants were driven into bankruptcy by a confluence of factors similar to those now hitting the market.

But the industry does not fear a repeat of 2008.

"This is a much different situation," Bob Dinneen, president of the Renewable Fuels Association, told the paper. "What happened in 2008 was largely a function of the global recession and the banking crisis that occurred."

This time around the decline in production has provided some support to prices and helped draw down ethanol inventories, to about 852 million gallons, from nearly one billion gallons at the end of March.

But the cutbacks also mean that for the first time in 15 years, annual U.S. ethanol production likely will not grow. The EIA forecast in June that production this year would be about 13.95 billion gallons, about the same as in 2011.

Between 2005 and 2011, annual production more than tripled.

The ethanol industry expanded in response to the 2005 Energy Policy Act, which ensured that gasoline sold in the United States contained a minimum amount of ethanol and other renewable fuels. To decrease the nation's dependence on foreign oil, the standards were increased in 2007 to require 36 billion gallons of renewable fuels be blended into gasoline and other transportation fuels by 2022.