BY JAMES OSBORNE
The Dallas Morning News (MCT)

Massive fluctuations in the market for ethanol credits are raising scrutiny of the federal government’s efforts to integrate the corn-based fuel into the nation’s gasoline stream.
Between January and July, a credit attached to a gallon of ethanol jumped from 7 cents to more than $1.40. That meant that for every gallon of gasoline a refinery turned out, it would have to spend about 14 cents for the requisite ethanol credit – about 10 percent of a standard gallon of gasoline is now ethanol.
When energy companies mix ethanol into gas, or import fuel blended with ethanol, they get a credit from the government. That credit can be sold to other companies that don’t blend ethanol to help them meet federal requirements, creating a marketplace.
Valero Energy Corp., the country’s largest independent refiner, has estimated the price spike could cost it up to $800 million. Dallas-based HollyFrontier, in a May conference call with stock analysts, put its potential exposure at $200 million.
The price of the credits has fallen since then. Credits were trading for around 50 cents last week. But industry leaders like Valero CEO William R. Klesse are calling for an overhaul of the country’s renewable fuel standards, created under President George W. Bush in 2005 with the intent of reducing pollution and the nation’s reliance on foreign oil.
“Nobody imagined there would be a situation like this,” said Bill Day, vice president of community and media relations at Valero.
What happened was the realization that the fuel industry would not be able to meet a mandate by the Environmental Protection Agency that 14.4 billion gallons of corn ethanol be blended into the national fuel supply by 2014 _ up from around 13 billion gallons now.
When Congress passed the fuel standard, it estimated gasoline consumption would increase. But between a slow economic recovery and more efficient cars rolling off the assembly line, U.S. gasoline consumption is down 14 percent since 2007, according to data compiled by the Energy Information Administration.
Now, to meet the mandate, gas stations would have to exceed the “ethanol blend wall,” the 10 percent threshold at which auto manufacturers say they can no longer guarantee their engines.
But retailers say they have no plans to test the blend wall, creating a stalemate from which the only way out was for refiners to start stockpiling ethanol credits to make up for the shortfall when the new standards go into effect.
Perhaps surprisingly, the resulting spike in credit prices has not yet moved the price of gasoline at the pump more than a few cents, said Scott Irwin, an agricultural economist at the University of Illinois at Urbana-Champaign who studies the ethanol industry.
“The reality is kind of messy in that there’s a real distribution of winners and losers,” he said. “The merchant refiners are bearing some heavy costs due to the rise in the price of (ethanol credits), but the people who blend the ethanol make the same equivalent amount of money in the supply chain, so there has to be some offsetting.”
Among those making a profit from the stalemate are financial traders, who quickly saw what was happening and joined the refiners in staking out large positions in the obscure market, said Charles Drevna, president of the American Fuels and Petrochemical Manufacturers.
As The New York Times reported in September, banks including JPMorgan Chase and Morgan Stanley bought up millions of ethanol credits ahead of the spike.
Drevna says the intrusion of speculators into the marketplace for ethanol credits was proof that the larger system was not properly thought out.
The renewable fuel law “has created a supply and demand problem by requiring more ethanol blended in than motors can handle,” he said. “The big problem is 2014, when everyone agrees everyone will be have-nots. The (credits) will be gone.”
The EPA did not respond to a request for comment. But in August, the agency announced it was reconsidering renewable fuel goals for next year.
That could be bad news for the ethanol industry, which is concentrated in the Midwest and has seen production triple since 2005.
 When the renewable fuel law was passed eight years ago, the goal was to slowly move the transportation fuel industry away from depending almost exclusively on oil, said Ron Lamberty, senior vice president of the American Coalition for Ethanol.
He said the uproar over the credit prices was part of a larger strategy by the oil industry to undermine the law. He described a systematic effort to keep service stations, which often maintain purchase agreements with companies such as BP and Valero, from expanding their ethanol offerings. U.S. Sens. Chuck Grassley, R-Iowa, and Amy Klobuchar, D-Minn., have called for a federal investigation into the matter.
The refiners counter the demand is not there. In a letter to EPA Administrator Gina McCarthy in September, Klesse, the Valero CEO, likened it to “a chicken-and-egg issue.” But Lamberty is skeptical.
“Why did Coca-Cola fight Dr Pepper on all the fountain machines? They don’t make Dr Pepper,” he said. “If I had 98 percent of the market for so long and people wanted me to have 85 percent, I’d probably fight, too.”