Ethanol Mandate About to Burn Out? (ADM, VLO)

Falling U.S. demand for gasoline has combined with high corn prices to force the closure of several U.S. ethanol plants. Ethanol makers are actually losing money on every gallon of the fuel they make this year, but they can't stop making the stuff because the Renewable Fuel Standards enacted during the George W. Bush administration mandates production of 13.2 million gallons of ethanol to mix with gasoline this year.

The Obama administration is required to rule by next Tuesday on whether or not to suspend the regulation as it has been asked to do by a wide range of ethanol makers and politicians from both sides of the political aisle. In order suspend the regulation, the administration has to declare that the mandate is causing economic harm.

That won't be easy to do. Objections from farmers to suspending the standard have long be a determining factor in the maintaining the ethanol standard. We've said many times here that the ethanol mandate is really a farm subsidy and not a serious attempt to deal with environmental issues, and now we're going to see what the Obama administration thinks the mandate is.

Ethanol production is expected to consume about 42% of this year's corn crop, and the current price of around $7.45 a bushel is sure to rise as the supply dwindles. According to Bloomberg, that means that losses could rise to $0.36 a gallon based on December contracts for corn and ethanol. Last year ethanol makers were making a profit of $0.24 a gallon on ethanol.

Large ethanol makers like Archer Daniels Midland Co. (NYSE: ADM) and Valero Energy Corp. (NYSE: VLO) are in the same boat as smaller suppliers. Valero has already temporarily closed 3 of its 10 ethanol plants and 3 more are operating at reduced capacity.

Our best guess is that the mandate won't be suspended, at least not next week. Farm states and agriculture are too important to too many people, and there's no reason to make them mad so soon after an election.

Paul Ausick

Filed under: 24/7 Wall St. Wire, Agriculture, Commodities, Oil & Gas Tagged: ADM, VLO