Updated Nov. 21, 2016 7:40 p.m. ET
A decade ago, the term “mortgage-backed securities” probably sounded to most people like made-up business-school nonsense.
But then in 2008 the Wall Street engineers overreached and caused one of the largest financial crises in American history.
Today the threat looming over the U.S. economy is similarly obscure: a shadowy, unregulated trade in electronic credits called Renewable Identification Numbers (RINs) that threatens to destroy America’s oil refineries, send gasoline prices skyward and devastate the U.S. economy.
This system of credits was created as part of the Renewable Fuels Standard, a biofuels mandate passed by Congress in 2005. RINs are generated when renewables, like ethanol, are blended into gasoline and diesel fuel. Oil firms that are not able to blend are required to purchase RINs to comply with the biofuels mandate. It’s sort of like a “cap and trade” scheme, but meant to encourage renewables.
The problem is that the EPA, in implementing the Renewable Fuel Standard, made the enormous mistake of regulating the wrong party. The obligation to blend biofuels was put on petroleum refiners and importers. This has been catastrophic for small and medium-size refiners, often called “merchant refiners,” most of whom cannot blend. The majority of fuel they produce goes into a common-carrier pipeline and is sold to blenders downstream.
Those blenders, often gas-station chains, earn windfall profits by generating RINs that the merchant refiners are forced to buy to comply with the law. Big integrated oil firms are practically exempt: Most of them blend more fuel than they refine, meaning they end up with excess RINs to sell.
This “blender loophole” is the downfall of the program. Any blender can generate RINs, and anyone, including Wall Street investors, can buy and sell them. So instead of being a small system for trading credits among oil firms, RINs have turned into a $15 billion market full of manipulation, speculation and fraud.
Because refiners and importers are required to buy these credits, they are captive customers. Wall Street, Big Oil and large gas-station chains have inflated the price of RINs far above their true value. In 2012 each credit cost a penny, but this July the price hit $0.98. Billions of dollars are being made selling compliance with the Renewable Fuel Standard.
The result is that many merchant refiners are cutting capital outlays to avoid bankruptcy. Some firms have lost up to 80% of their value since 2013.
Philadelphia Energy Solutions, which operates the largest oil-refining complex on the East Coast, warned in September that its finances are “significantly stressed,” and it has cut pensions, benefits and jobs.
Icahn Enterprises, of which I am chairman, indirectly controls CVR Refining, a merchant refiner that is losing hundreds of millions of dollars because of the Renewable Fuel Standard.
The RINs program is effectively doing for the Big Oil firms what the Federal Trade Commission would never allow them to do for themselves: destroy their competitors in the refining business.
If merchant refiners go under, the Big Oil oligopolies will be strengthened and gasoline prices will go up, with ripple effects throughout the economy—lower consumer spending, decreased travel, higher shipping costs, increased unemployment, labor market monopsony, decreased consumer confidence, higher food prices, and less public funding for priorities like education.
The failure of multiple refineries would absolutely wreck America’s economy.
It would undermine national security, too. Retired U.S. Navy Commander Kirk S. Lippold warned in October of “dire consequences” if the RINs market is not fixed. He added that a strong refining industry “provides the United States with significant and often under-appreciated national security benefits.”
The EPA claims that high RINs prices are an incentive to increase biofuel blending. But because of the “blender loophole,” the parties who are capable of putting more biofuels into America’s gasoline have no legal obligation or financial incentive to do so. They are pocketing the profits from selling RINs instead.
Further, the Renewable Fuel Standard’s blending targets, developed by Congress more than 10 years ago, were set under incorrect assumptions. Stringent standards for automobile fuel economy have kept demand for gasoline and diesel below forecasts. Most vehicle engines can only tolerate about 10% ethanol—a limitation usually called the “blend wall.” Each year the EPA admits that the mandate cannot be met, but it increases the blending targets anyway.
The problems with the RINs market are compounded by rampant fraud and abuse—largely fake credits being sold to refiners. The EPA’s former chief of criminal investigations, Doug Parker, estimates that total fraud approaches $1 billion. In a September report Mr. Parker said that “structural vulnerabilities in the regulations, limited agency oversight, and a lack of market transparency” have made the RINs program “a ripe target for massive fraud and illicit gain.”
The “wild west” RINs market must be cleaned up if merchant refiners are to survive. First, a moratorium on RINs trading should be put into place while the criminal activities and the black market are thoroughly investigated.
Second, the “blender loophole” should be eliminated. The biofuels mandate should apply equally to any company that blends, from big integrated oil firms to large gas-station chains. It shouldn’t apply to refiners and importers that are not able to blend.
The EPA has refused to fix a system that is clearly broken, ignoring obvious and repeated warnings. On Nov. 10, after years of inaction, the agency announced that it will open a regulatory docket and take public comment on changing the “point of obligation” to close the blender loophole. This move, in the waning days of the Obama administration, is a step in the right direction, but seems to be simply the EPA’s attempt to justify the failing status quo.
If the small and merchant refineries start shutting down, it will jeopardize the economy and national security alike. The Trump administration, with new leadership at the EPA, should move quickly next year to reform the biofuels mandate and forestall the crisis.
Mr. Icahn is the chairman of Icahn Enterprises.
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