September 24, 2014

Hurdles Are High for Corn-Based Ethanol Production in Brazil

Producing ethanol from corn is not the problem, it can be done cheaply and efficiently. The problem is the government's attitude toward the price of gasoline and the inefficient distribution system for ethanol in Brazil.

Since ethanol contains 70% of the energy of gasoline, if the price of ethanol (E100) is more than 70% the price of gasoline (E25), it is more economical to use gasoline. Currently, the Brazilian government is very concerned about inflation and gasoline is a significant component of the inflation index. Therefore, the federal government has been artificially holding down the price of gasoline, which in turn holds down the price of ethanol. Additionally, this is a presidential election year in Brazil and the Brazilian president has put a heavy emphasis on controlling inflation especially after the government overspent for the World Cup. If the price of gasoline is not allowed to increase, then the price of ethanol cannot increase either.

The state of Mato Grosso currently produces about one billion liters of ethanol per year from sugarcane and 60% of the ethanol is sold within the state and 40% is sold primarily in other states in northern Brazilian. The current market for ethanol is saturated and the way to increase ethanol consumption is to increase the price differential between ethanol and gasoline. If gasoline prices would increase, that would increase the ethanol prices as well and stimulate ethanol production.

The other problem with ethanol production in Brazil is the inefficient manner in which it is distributed to consumers. Ethanol producers are not allowed to sell directly to consumers. Instead, they are required to sell to distributors who then in turn sell to consumers. This inefficient distribution system is one of the main drivers behind the cost of ethanol.

Take for example the way in which ethanol is distributed within the state of Mato Grosso. The cost of producing sugarcane-based ethanol in Mato Grosso is approximately R$ 0.40 per liter. After all the taxes are included, the price of ethanol sold to the distributors is in the range of R$ 1.40 to 1.60 per liter. By the time the ethanol is sold to the consumer at the local gas stations, the prices have risen to R$ 2.05 to 2.45 per liter.

In other words, the cost of distributing the ethanol is more than twice as much as it costs to produce the ethanol. In the production and marketing of ethanol, the biggest margins are realized by the distributors and transporters and not by the manufactures. The inefficiencies in distributing the ethanol is based on the requirement that ethanol can only be sold through distributors.

A typical sugar mill in the interior of the state of Mato Grosso is obliged to sell their ethanol to a distributor who then transports the ethanol to the state capital of Cuiaba. At the capital, the ethanol is then sent right back to the town where it was produced. The expense of this "round trip" from the manufacturer to the capital and back again to the interior has only two benefactors - the distributor and the transporter who book profits going both directions.