February 14, 2008 / 4:37 PM / in 10 years

Ethanol boom may stifle U.S. gasoline demand

NEW YORK (Reuters) - While debates heat up on whether ethanol will ever be “green,” one aspect of the alternative fuel is becoming clearer: explosive production is stifling an established driver of oil markets -- U.S. gasoline demand -- and could lead to lower prices at the pump.

E85 ethanol fuel is shown being pumped into a vehicle at a gas station selling alternative fuels in the town of Nevada, Iowa, December 6, 2007. REUTERS/Jason Reed

The ethanol boom comes just as U.S. oil refiners, who had been struggling for years to keep up with rising fuel demand in the world’s largest energy consumer, begin to catch up by adding surplus capacity. Together, these factors could help reverse gasoline supply tightness that has driven fuel prices higher, particularly during the petroleum rally of the last five years.

“Ethanol blending could help ease U.S. refining bottlenecks and that could be ultimately reflected in lower prices at the pump,” said Eric Wittenauer, an analyst at AG Edwards in St. Louis.

U.S. gasoline demand growth has averaged about 1.3 percent annually from 1971 through 2007, but the growth rate has slowed in recent years, even as the population continues to grow, falling to 0.6 percent in 2007. Early this year gasoline demand growth has only been 0.4 percent, the government said on Wednesday.

Meanwhile, ethanol output has rocketed as the U.S. government touts it as a fuel that cuts greenhouse gas emissions and weans the country off foreign oil. Washington offers producers hundreds of millions of dollars in incentives and gives blenders a 51-cent-per-gallon credit for mixing the fuel into gasoline.

Critics say ethanol made from corn has boosted food prices and that the fuel does not cut greenhouse gas emissions much over the life cycle of making and burning it. But the industry grows nonetheless as new markets open, such as the U.S. Southeast, and blenders invest in terminals across the country.

The subsidies have made ethanol cheaper than gasoline and a much sought after component for blending into motor fuel at levels of up to 10 percent for all cars, and up to 85 percent for increasing numbers of specially tooled “flexible fuel” vehicles.

MARKET SHIFTS

Monthly U.S. ethanol output through November 2007, the last data available, averaged nearly 12.7 million barrels, or 64 percent higher than average monthly production in 2005, according to the Energy Information Administration, the statistics arm of the Department of Energy.

Ethanol production this year is expected to rise 130,000 barrels per day -- or the amount of gasoline a medium-sized oil refinery puts out -- to 550,000 bpd, according to the EIA.

And U.S. imports of sugar-based ethanol, a fuel much lower in carbon emissions, from Brazil and producers in the Caribbean and Central America, increased 300 percent from 2005 to 2006, the EIA said.

To be sure, an extended string of oil refinery outages could always push up gasoline prices. But as the ethanol delivery system grows, it should provide constant pressure on gasoline demand.

    “Gasoline demand ... on an underlying basis, is looking pretty weak in terms of growth,” said Adam Robinson, an energy analyst at Lehman Brothers. “And on the other hand, you’ve got ethanol which is substituting for gasoline in the existing pool.”

    The ethanol boom comes on top of the weak U.S. economy, which has also trimmed gasoline use.

    And petroleum demand growth is shifting to Asia, where car fleets are growing in rapidly developing countries like China and India, said Jerry Morehart, commercial development manager at Marathon Oil Corp (MRO.N).

    “Some of the foreign gasoline that’s currently being imported into the U.S. will have a more logical home to go to those growth markets in other countries,” he said.

    Bill Day, a spokesman for Valero Energy Corp (VLO.N), the largest U.S. oil refiner, said his company foresees ethanol growth “offsetting gasoline imports to the U.S.”

    And late last year’s energy law mandates cars become more fuel efficient. “God forbid, you have efficiency gains, you’re eroding all your sources of gasoline demand,” said Lehman’s Robinson.

    U.S. gasoline demand growth could be hit even further if producers figure out how to economically make low-carbon ethanol out of crop waste and switchgrass, a development many experts say is a decade away.

    Additional reporting by Janet McGurty; Editing by Christian Wiessner

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