MANAGEMENT PERSPECTIVE RFG ERA POSES BIG QUESTIONS FOR U.S. REFINING INDUSTRY

If RFG is to remain on course, all parties must work together to clarify future RFG requirements so refiners and others can make wise business decisions.

When Congress passed the Clean Air Act Amendments in 1990, it put the refining industry and the American public on a new path aimed at producing and using the cleaner burning fuels of the future.

Two initial hurdles were cleared with introduction of oxygenated fuels in 1992 and ultralow sulfur diesel fuel in 1993.

Effective Jan. 1, 1995, RFG was required in nine U.S. cities with a severe ozone problem. Moreover, all or parts of 17 states had opted-in to the federal RFG program, believing this was the best option to meet federal air quality standards.

A CONFUSED START

January has come and gone, and we can recall-some of us painfully-that introduction of RFG did not go smoothly. In certain cities there was a public outcry against RFG, a reaction in many cases supported by state and local politicians.

For example, 28 counties in Pennsylvania, including the Pittsburgh area, opted out of the program with EPA's approval. The governor of Wisconsin attempted to take Milwaukee, a mandated area, out of the program but was stopped by a concerted action by the American Petroleum Institute and other industry groups who strongly encouraged the EPA to enforce the law.

Other areas, including New England and parts of Kentucky, also resisted RFG. In states such as Maine and Kentucky, governors decided to keep RFG instead of implementing vehicle inspection and maintenance (I/M) programs. In an interview with public radio, the governor of Maine recently endorsed RFG as a better choice for the people.

To add to the confusion, oxygenate markets have experienced wide swings in price.

This is especially true of markets for ethanol and methanol. Ethanol prices peaked at $1.23/gal in the Ohio River area, and MTBE prices peaked at about $1.15/gal in the Gulf Coast area. MTBE is currently priced at 92/gal on the Gulf Coast.

Fueled by MTBE demand, methanol prices peaked at about $1.80/gal on the Gulf Coast spot market in mid-October 1994 and have now slipped to 40-45/gal. Ethanol prices have declined to $1.05/gal, a level that represents marginal economics for ethanol producers.

DEMAND OUTLOOK

Given all the confusion, it is fair to ask where the RFG program is going from here.

Prior to the November 1994 election, most industry observers expected the use of RFG to spread rapidly. Many believed RFG might supply well over 50% of the nation's gasoline by 2000.

Currently, RFG demand is about 2.1 million b/d, or about 27% of total demand.

This is about 7%, or 550,000 b/d, lower than earlier anticipated for 1995. The Pennsylvania opt-out alone accounts for about 340,000 b/d of the RFG demand shortfall.

With the changing climate toward RFG, the demand outlook for 2000 is anybody's guess.

A year ago, it appeared that many cities ranked as moderate (or above) nonattainment areas for ozone and other compounds would opt in to the RFG program. Adopting RFG could prevent a city from taking other, more onerous steps to reduce pollution such as restrictions on new industry, driving limitations, or enhanced I/M programs. As noted, such opt-ins could have driven total RFG demand to over 50% of total gasoline demand.

This scenario no longer appears likely. In fact, we may see some severe nonattainment areas trying to escape from the RFG program if they can show any improvement in ambient air quality.

AIR QUALITY

Indeed, overall air quality is improving.

Redesignated areas most likely will not be required to retain RFG to maintain air quality improvements. However, some environmental organizations have argued that the ozone ambient air standard is not severe enough and should be lowered to 0.08 ppm from 0.12. If this occurs, many more cities would be ranked as moderate or above for ozone nonattainment and might have to rely on RFG to meet the required 15% reduction.

Under the 1990 Clean Air Act amendments, newly designated severe ozone nonattainment areas are required to use RFG.

However, given the current legislative attitude and market and regulatory confusion, many refiners are delaying their investment to produce RFG. Therefore, it might be years before sufficient product would be available if the ozone standard is lowered and many more cities become non-attainment areas.

FUEL REQUIREMENTS

Another factor to consider is vehicle type.

The automobile industry is considering production of a nonpolluting vehicle that would be substituted for the low-emission vehicle in all states except California.

Gasoline requirements for such a vehicle are being discussed by the auto and oil industries. The outcome of these discussions could have a significant impact on the type of gasolines produced in the next century.

As fuel reformulations required in this decade have shown, changing fuel specifications can be quite costly-a fact unlikely to change.

The American Automobile Manufacturers Association has issued proposed specifications for a future fuel limiting sulfur to no more than 40 ppm. This change alone would require billions of dollars of capital investment by the U.S. refining industry

OXYGENATES

Then there is the question of oxygenates.

Many companies believe oxygenates should be required only in carbon monoxide nonattainment areas, and oxygenate use should be limited to winter months.

These companies believe that, as older cars are scrapped, the carbon monoxide issue will disappear. Other companies believe RFG containing oxygen is the correct way to minimize vehicle pollution in the U.S.

As evidenced by the recent court case overturning the short-lived "ethanol mandate," the ethanol industry and most refiners disagree strongly over the attractiveness of ethanol as a means to reduce auto emissions. Some will argue that ethanol use, because of its higher RVP, results in increased ozone formation.

LOTS OF QUESTIONS

In summary, many questions surround the future of RFG-questions that are fundamental to the business planning process:

• Will regulations requiring the use of the complex model, now slated to take effect Jan. 1, 1998, go forward as currently provided?

• What about the Jan. 1, 2000, requirement for RFG sold after that date to achieve a 25% reduction in emissions, compared to the baseline gasoline? Will that requirement remain constant?

• Will more cities opt in to the RFG program? Or will we find some cities leaving the program as their air quality improves? Can time limits be placed on opt-outs to provide refiners with more RFG market assurance?

• Will oxygenate requirements be eliminated or remain the same? Will EPA allow summer mixing of ether and ethanol RFG to improve market flexibility?

• Will the ambient air standard for ozone be tightened, which could extend the RFG program into more cities?

• How will the movement toward the 49 state car program affect RFG demand?

Answers to those questions will have a profound impact on refinery economics and the future of the refining industry.

It may be difficult to forge a consensus within the industry on these issues. If serious disagreements emerge, they are likely to be resolved only by government action. But will government move quickly enough to allow industry to make the right decision on future investments?

REFINERS IN THE DARK

Those questions and confusion surrounding the introduction of RFG have in many cases left refiners guessing. Ashland continues to believe RFG is the environmentally friendly fuel of the future, but we and others in our industry need guidance before additional investment is made.

After the events of early 1995, many refiners are nervous about making future investments in environmental compliance facilities. They fear a last-minute public outcry might change regulatory policies and reduce the value of investments made to comply with such policies.

The fact is, refiners cannot afford to guess when strategic business decisions are involved, particularly when those decisions involve a commodity as vital to our economy and national security as gasoline.

At present, refiners are uncertain as to future requirements at a time when capital programs need to be started if current regulations remain in place. Hopefully, continued dialogue among industry, government, and environmental groups can lead to a consensus that will permit refiners to better plan their operations and investments.

Our industry needs these decisions as quickly as possible if we are to be ready to supply the required fuels for 2000 and beyond.

Copyright 1995 Oil & Gas Journal. All Rights Reserved.