How to Beat the High Cost of Gasoline. Forever!

Stop dreaming about hydrogen. Ethanol is the answer to the energy dilemma. It's clean and green and runs in today's cars. And, in a generation, it could replace gas.

By Adam Lashinsky and Nelson D. Schwartz

February 10, 2006

You probably don't know it, but the answer to America's gasoline addiction could be under the hood of your car. More than five million Tauruses, Explorers, Stratuses, Suburbans, and other vehicles are already equipped with engines that can run on an energy source that costs less than gasoline, produces almost none of the emissions that cause global warming, and comes from the Midwest, not the Middle East.

These lucky drivers need never pay for gasoline again--if only they could find this elusive fuel, called ethanol. Chemically, ethanol is identical to the grain alcohol you may have spiked the punch with in college. It also went into gasohol, that 1970s concoction that brings back memories of Jimmy Carter in a cardigan and outrageous subsidies from Washington. But while the chemistry is the same, the economics, technology, and politics of ethanol are profoundly different.

Instead of coming exclusively from corn or sugar cane as it has up to now, thanks to biotech breakthroughs, the fuel can be made out of everything from prairie switchgrass and wood chips to corn husks and other agricultural waste. This biomass-derived fuel is known as cellulosic ethanol. Whatever the source, burning ethanol instead of gasoline reduces carbon emissions by more than 80% while eliminating entirely the release of acid-rain-causing sulfur dioxide. Even the cautious Department of Energy predicts that ethanol could put a 30% dent in America's gasoline consumption by 2030.

We may not have to wait that long. After decades of being merely an additive to gasoline, ethanol suddenly looks to be the stuff of a fuel revolution--and a pipe dream for futurists. An unlikely alliance of venture capitalists, Wall Streeters, automakers, environmentalists, farmers, and, yes, politicians is doing more than just talk about ethanol's potential. They're putting real money into biorefineries, car engines that switch effortlessly between gasoline and biofuels, and R&D to churn out ethanol more cheaply. (By the way, the reason motorists don't know about the five-million-plus ethanol-ready cars and trucks on the road is that until now Detroit never felt the need to tell them. Automakers quietly added the flex-fuel feature to get a break from fuel-economy standards.)

What's more, powerful political lobbies in Washington that never used to concern themselves with botanical affairs are suddenly focusing on ethanol. "Energy dependence is America's economic, environmental, and security Achilles' heel," says Nathanael Greene of the Natural Resources Defense Council, a mainstream environmental group. National-security hawks agree. Says former CIA chief James Woolsey: "We've got a coalition of tree huggers, do-gooders, sodbusters, hawks, and evangelicals." (Yes, he did say "evangelicals"--some have found common ground with greens in the notion of environmental stewardship.)

The next five years could see ethanol go from a mere sliver of the fuel pie to a major energy solution in a world where the cost of relying on a finite supply of oil is way too high. As that happens, says Vinod Khosla, a Silicon Valley venture capitalist who has become one of the nation's most influential ethanol advocates, "I'm absolutely convinced that without putting any more land under agriculture and without changing our food production, we can introduce enough ethanol in the U.S. to replace the majority of our petroleum use in cars and light trucks."

Filling up on ethanol isn't new. Henry Ford's Model Ts ran on it. What's changing is the cost of distilling ethanol and the advantages it brings over rival fuels. Energy visionaries like to dream about hydrogen as the ultimate replacement for fossil fuels, but switching to it would mean a trillion-dollar upheaval--for new production and distribution systems, new fuel stations, and new cars. Not so with ethanol--today's gas stations can handle the most common mixture of 85% ethanol and 15% gasoline, called E85, with minimal retrofitting. It takes about 30% more ethanol than gasoline to drive a mile, and the stuff is more corrosive, but building a car that's E85-ready adds only about $200 to the cost. Ethanol has already transformed one major economy: In Brazil nearly three-quarters of new cars can burn either ethanol or gasoline, whichever happens to be cheaper at the pump, and the nation has weaned itself off imported oil.

And have you heard about GM's yellow gas caps? In the next few weeks the auto giant is set to unveil an unlikely marketing campaign drawing attention to E85 and its E85-ready cars and trucks like the Chevy Avalanche. They will sport special yellow gas caps, and if you already own such a vehicle, GM will send you a gas cap free. California governor and Hummer owner Arnold Schwarzenegger is backing a ballot initiative that would encourage service stations to offer ethanol at the pump. Even big oil companies like Royal Dutch Shell and Exxon Mobil are funding ethanol research. Says Beth Lowry, GM's vice president for energy and environment: "People's perception used to be 'The agricultural lobby is very interested in it.' Now people are waking up and saying, 'This isn't just about the Midwest. This is about the U.S. as a whole.' " Adds Daniel Yergin, one of the country's top energy experts: "I don't think I've seen so many kinds of renewable energy fermenting and bubbling as right now. The very definition of oil is broadening."

Not that ethanol will replace gasoline overnight. There are 170,000 service stations in the U.S.; only 587 (count 'em!) sell E85. To refine enough ethanol to replace the gas we burn (140 billion gallons a year) would require thousands of biorefineries and hundreds of billions of dollars. Yet one of capitalism's favorite visionaries is convinced that very soon filling up on weeds and cornhusks will be no more remarkable than tanking up on regular. Says Richard Branson, whose Virgin Group is starting an ethanol-inspired subsidiary called Virgin Fuels: "This is the win-win fuel of the future."

BARRELS FROM BUSHELS

In Decatur, Ill., nobody is waiting around for the future; demand for ethanol from corn is booming right now. This grain-elevator-dotted town is home to agribusiness giant Archer Daniels Midland, which makes it the capital of the old-school heavily subsidized U.S. ethanol industry. On a blustery January day, the air is thick with fog, sleet, and condensation from the corn mills on the 600-acre complex next to ADM's corporate office. Outside the ethanol plant, the air smells like grape juice gone bad. Inside, with its giant vats and fermentation towers, the biorefinery resembles a winery, but it's much noisier.

ADM used to call itself "Supermarket to the World." Today, reflecting its emergence as an alternative-energy supplier, it boasts of being "Resourceful by Nature." The company created the corn-ethanol industry when Jimmy Carter asked it to in 1978--the oil-shocked President wanted a homegrown alternative to gasoline. ADM now pumps out more than a billion gallons of ethanol per year. While the fuel accounts for just 5% of the company's $36 billion in annual sales, analysts estimate that it generates 23% of ADM's operating profit. Says Allen Andreas, the courtly 62-year-old CEO: "We've always been feeding people and looking for better alternatives; now we're doing the same thing in energy."

ADM aims to be a big player in what Andreas calls the shift "from hydrocarbons to carbohydrates." But for now it's ignoring E85 and cellulosic ethanol in favor of keeping pace with demand that is already booming. Corn ethanol's main use is as an additive that helps gasoline burn more efficiently. ADM sells nearly its entire output to oil companies, which use ethanol as a substitute for MTBE, a petroleum-based additive that is toxic and is now banned in California and 24 other states. With two billion gallons of MTBE still in use annually and 25 states that have yet to ban it, the ethanol industry could grow 50% simply by replacing MTBE.

In September, ADM announced a nearly 50% expansion project, or 500 million new gallons of annual production capacity. Archrival Cargill is belatedly ramping up ethanol production, and new entrants are using private capital to build ethanol plants. The only publicly traded pure-play ethanol maker, Pacific Ethanol of Fresno, plans to build five plants in California and has raised a total of $111 million, including $84 million from Bill Gates. All told, the planned projects represent a nearly $2.6 billion investment and will increase U.S. ethanol capacity by 40%.

Other major players are making long-term ethanol bets. Ford is working with VeraSun, a startup in South Dakota, to promote E85 fueling stations. Shell is the primary backer of Canada's Iogen, which is attempting the first large-scale production of cellulosic ethanol--the kind made from cornstalks and grasses--at a pilot plant in Ottawa. Exxon Mobil has pledged $100 million to Stanford University for research into alternative fuels. The oil giant's new CEO, Rex Tillerson, visited the campus last year to hear what researchers are cooking up. Biology professor Chris Sommerville says the change in the industry is palpable: "I went to six scientific conferences on biofuels last year; the previous 29 years I didn't go to any."

The biggest alternative-fuels player of all, of course, is Uncle Sam. Oil refiners receive a 51-cent tax credit for every gallon of ethanol they blend into their gasoline. That alone will cost taxpayers more than $7 billion over five years, estimates the Congressional Budget Office. The U.S. has also funded research into biodiesel, which uses deep-fryer grease and other nontoxic ingredients to replace regular diesel fuel. But ethanol will never really take off unless consumers demand it, and while the U.S. industry still relies on taxpayer largesse, Brazil has leaped to the next step: a profitable free-market system in which the government has gotten out of the way.

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