How a Lack of Systemic Thinking Threatens a Sustainable U.S. Energy Policy

This post has been modified from the original version.

Even the best-laid plans can cause unintended consequences. But organizations that operate at less-than-optimal performance levels and are unable to think systematically are especially prone to surprising outcomes.

The U.S. Congress is a prime example. Consider, for instance, the impact of ethanol legislation on energy supply chains.

Supply chains are complex ecosystems that often span multiple industries and geographies. Changing the balance between supply and demand can have a profound impact on each link in the chain. Failing to appreciate these far-reaching consequences can be disastrous and very difficult to undo.

In the summer of 2005, the United States Congress passed the Energy Policy Act of 2005. President George W. Bush signed the act less than two weeks later at New Mexico’s Sandia National Laboratories under a sky-blue sign that read, “Energy Security for the 21st Century.” The act established the country’s renewable fuels standard (RFS) and required refineries to blend 4 billion gallons of renewable fuels into the nation’s supply in 2006. That accounted for about 3% of all fuel dispensed to American drivers that year. The mandate was extended by Congress in the Energy Independence and Security Act (EISA) of 2007 to 36 billion gallons by 2022. Refineries equipped to produce ethanol from corn — America’s most abundant crop — sprouted around the country.

The logic seemed sound. By creating a steady and predictable demand for renewable fuels, the private sector would be able invest in a robust supply system. The second version of the renewable fuel standard distinguished types of biofuels — separate from conventional corn ethanol — and set volumes for four nested categories of biofuels: total biofuels, advanced biofuels, biomass-based diesel, and cellulosic biofuels.

The updated legislation, implemented by the U.S. Environmental Protection Agency (EPA), designated fuels resulting in a 50% or greater reduction in total greenhouse gas (GHG) emissions as “advanced biofuels.” It also defined fuels originating from non-food portions of plants such as wood, switchgrass, or corn husks as “cellulosic biofuels,” while “biomass-based diesel” was the given label to any diesel made from renewable non-petroleum resources. Both biomass-based diesel and cellulosic biofuels could be considered under the advanced total if the source met a 50% reduction in GHG levels.

Supply Chains in Conflict

In 2000, ethanol processors used about 8% of the nation’s corn crop. In that year, most of the corn grown in the U.S. — about 75% — fed cows, chickens, and other livestock. By 2009, however, ethanol processors claimed 41% of the corn crop. That shift unsettled prices. Between 2000 and 2009, the price of corn doubled from an annual average of $1.86 per bushel to $3.75. In 2012, when combined with drought, corn prices spiked to $6.67 per bushel; while the average stayed well above double its starting price in 2005 to around $4.11 in 2014. Consumers experienced that upward price pressure at the grocery store.

Seemingly disconnected supply chains — fuel and food products such as milk — were now competing for the same raw material.

As corn prices ratcheted upward — driven at least in part by the lucrative corn ethanol market — farmers paid ever-larger shares of their income to corn feed suppliers. Consequently, farmers had less money to service their debts, and loan defaults increased. In the face of these financial difficulties, suppliers required farmers to pay up front for corn feed, adding to the pressure on their customers. Many farmers who were unable to feed their cows opted to send the animals for slaughter, effectively taking away their main livelihood. These cumulative hardships led to bankruptcies and even suicides in farming communities.

In 2010, the regulations were modified, and a credit limit was put on corn-based ethanol in favor of advanced biofuels (which have a high impact) and cellulosic biofuels (which avoid the food vs. energy conundrum).

But such attempts to right the ill-conceived ethanol mandates were far from successful. In fact, they only triggered more unintended consequences.

The Ethanol Shuffle

In 2011, a combination of market conditions and government policies in the U.S. and Brazil led to a perverse situation in which American firms were selling subsidized corn-based ethanol to the Brazilian market and Brazilian firms were selling sugar-based ethanol to the American market.

In studies of total lifecycle impact, sugar cane has a lower environmental impact than American “dent corn,” (aka field corn, which is grown for industrial uses and not human consumption) and is therefore classified by the legislation as an advanced biofuel, unlike corn-based ethanol. To get the advanced biofuel credit American suppliers began buying sugar-based ethanol from Brazil. Between July and October of 2011, American suppliers bought about 40 million gallons of Brazilian ethanol. Meanwhile, Brazil faced a domestic shortage (due, in part, to those market-driven exports) and imported 123 million gallons of American corn ethanol.

Geoff Cooper, vice president of Research and Analysis for the Renewable Fuels Association, dubbed the strange phenomenon the “Ethanol Shuffle.” “Picture the irony of a tanker full of U.S. corn ethanol bound for Brazil passing a tanker full of sugar cane ethanol bound for Los Angeles or Miami along a Caribbean shipping route,” Cooper said in comments published in Ethanol Producer Magazine. “Remember, this is all being done in the name of reducing GHG emissions. But what are the real GHG implications of the shuffle? And what are the economic impacts?”

A growing chorus of watchers — including both fuel companies and environmentalists — have criticized the American ethanol dynamic. Presidential candidate Senator Ted Cruz voiced his opposition to the Renewable Fuel Standard during the Iowa caucuses in February 2016. But vested interests resist attempts to correct the situation.

This deeply flawed legislation also may have insulated the ethanol industry from the dynamics of the oil market, and adds cost to fuel supply chains. If there was no RFS in place, blenders might increase the amount of other fuel additives, exposing ethanol producers to more competition. Oil refiners have to supply different blends to comply with varying state mandates on how much ethanol should be added to gasoline. In the words of one major oil company, they have to produce “a boutique of fuels.” That entails operating separate supply chains to feed different states, robbing distribution networks of both economies of scale and scope.

Change Resistant

Congressional dysfunction, political self-interest, and a lack of systematic thinking have helped turn what seemed to be an “easy environmental win” into a cascading ethanol fiasco across multiple supply chains.

Systematic failures such as this, and the unintended consequences they produce, can be especially damaging where government actions are involved because many groups become economically dependent on the flawed policies that result. This makes it very difficult to change course even when the unwanted outcomes are there for all to see.