The California Low Carbon Fuel Standard and the Innovation Gap

November 15, 2013 By

August 1, 2012

by Megan Boutwell

California’s Low Carbon Fuel Standard remains controversial. Obligated parties to California’s Low Carbon Fuel Standard continue to study the regulation and wonder if it is even feasible. A study commissioned by Western States Petroleum Association and authored by the Boston Consulting Group is the latest to make headlines by predicting the severe negative impacts the LCFS will have on California’s refining industry and overall economy. The BCG study, entitled Understanding the Impact of AB 32, bases it’s model on the current lack of infrastructure required to produce the amount of low carbon fuels required by the LCFS; for example, the small number of Advanced Technology Vehicles, the lack of commercially available cellulosic ethanol, and the limited quantities of low carbon intensity sugar cane ethanol. Among the key findings based on this model, the study predicts that some refineries at risk of non-compliance may choose to export fuels rather than supplying the local market, resulting in shortages. The report states “a likely scenario is for cost recovery to exceed 250 cents per gallon coupled with gasoline supply shortages in California as early as 2015.” Gasoline demand reduction after 2015 could result in the closure of between four to six refineries or 20-30 percent of California’s refining capacity. Finally and most alarmingly, as a result of refinery closures, the state could lose up to 51,000 jobs.

On June 19th, Fueling California hosted a Low Carbon Fuel Standard Symposium that brought together regulatory agencies, industry leaders, environmental organizations, government, alternative energy companies and academia to discuss and educate key stakeholders on the LCFS. During the luncheon panel discussion, Brad VanTassel, Senior Partner and Managing Director of Boston Consulting Group, delivered the key findings of the BCG study. Dr. Daniel Sperling, Director of the Institute of Transportation Studies at UC Davis and the co-author of California’s Low Carbon Fuel Standard Study, also on the panel, refuted the BCG study’s claims. Dr. Sperling asserted that the LCFS was developed to stimulate innovation and that the flaw in the BCG study model is that it does not assume any cellulosic fuel production and only very limited availability of advanced technology vehicles. He explained the importance of regulatory certainty with regards to the standard, stating “if low carbon investments are going to be made, the investors have to be assured that the market really will exist.” Dr. Sperling consented that there may be fuel shortages and a risk of high prices as a result of the regulation, but that CARB was developing a measure to mitigate the risk by capping credit prices. He referred to this measure as a “flexible compliance mechanism”. Dr. Sperling noted that the oil industry is the only industry with the capitol and resources to fund renewable fuel innovation and if the industry sees itself as an investor in the renewable fuels industry, rather than a purchaser, the LCFS will be successful.

The third member of the panel, Dr. Severin Borenstein, E.T. Grether Professor of Business Administration and Public Policy in the Economic Analysis and Policy Group of the Haas School of Business at UC Berkeley, began his comments by stating that currently there is no cost-competitive low carbon intensity fuel currently on the market. Therefore the LCFS has to be about innovation, that this innovation has to be exportable and must be cost competitive with fossil fuels. Dr. Borenstein stated that he is sympathetic to concerns about the LCFS. It is his opinion that the regulation does pick winners and narrows the area to transportation fuels, rather than all carbon emitters. Finally, Dr. Borenstein asserted that when oil companies can make money with renewable fuels, they’ll be interested in them.

Dave Hackett, President of Stillwater Associates was in attendance at the symposium and asked the question that we at Stillwater are still puzzling over. Where is the carbon intensity reduction going to come from? Based on Stillwater’s analysis and backed by those posited in the BCG study, the volume of low carbon intensity fuel will not be sufficient for the 2015 compliance period. Dr. Sperling’s response was to assert that there would be no problem for the next few years. “It’s not until you get out to 2017 that there are some real questions about what’s going to be available.” He went on to say that, “If we have this assumption that stuff is going to become available, it’s not going to be available. It has to come back to that innovation question. If you don’t have the program in place then it’s definitely not going to happen. Ten percent for 2020 is clearly a challenge, but it’s not implausible.”

The LCFS requires the development of innovation in a short period of time that can’t be accurately modeled. How hard do regulators push for this technology development? How do we know this innovation is occurring fast enough to meet the schedule set forth by the regulation? Will the regulation be adjusted to reflect the market conditions? With the study for a National Low Carbon Fuel Standard underway, will California consumers wind up being the guinea pig in this regulatory test ground?