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• 2. Biodiesel

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2.1 Background

The word biodiesel is a generic term which refers to diesel fuel substitutes derived primarily from non-fossil fuel feedstocks. Biodiesel is typically formed through two distinct production processes. One is the transesterification of feedstock oils or fats through reaction with methanol and a potassium hydroxide catalyst. The other is production of synthetic diesel fuel made from biomass through gasification. In the following we discuss biodiesel produced by transesterification of oils or fats.

The bulk of world supply of biodiesel is produced using vegetable oils, primarily in Europe where rapeseed oil is the principal input. However, biodiesel can also be produced from waste fats and tallow. Tallow as a feedstock has not been very widely used, but it has been singled out as the most likely feedstock for biodiesel production in Australasia due to the large quantities of tallow available from meat processing. A recent study on the feasibility of biodiesel production in New Zealand suggested that sufficient tallow production existed to support biodiesel production in New Zealand for a 6% biodiesel/diesel blend (hereafter biodiesel/diesel blends are referred to as BD[blend%]) (Judd, 2002). In this report our discussion of the costs and benefits of biodiesel/diesel blends focuses on biodiesel produced from tallow in New Zealand.

Biodiesel is used in Europe and the United States at levels of BD5, BD20, and in some cases neat or 100% biodiesel as a transport fuel. For the most part, biodiesel is best used in low level blends. The higher the level of biodiesel used in a blend, the greater the likelihood of problems occurring in unmodified vehicles. This is particularly the case for biodiesel produced from tallow, which on its own begins to crystallise (cloud point) at under 20^˚C (Judd 2002). Problems around cloud point can be mitigated through additives however, though this is an issue that would need to be dealt with by fuel quality authorities rather than in the present context.

At lower blends, biodiesel has useful properties, including increasing the lubricity of the fuel. Fuel lubricity is important because in many diesel engines some moving parts are lubricated by the diesel itself. Thus the introduction of biodiesel can lead to reduced engine wear and some studies even suggest increased fuel efficiency compared with low-sulphur content diesel.

The most commonly cited negative effect of biodiesel on vehicle performance is reduced power (Prakesh, 1998). This is due to the fact that biodiesel contains slightly less energy than regular diesel on a volumetric basis. Many of the studies which cite loss of power as an adverse effect of biodiesel use also note that the problems can be attributed partly to fuel quality issues.

In the following, we look at BD blends of between 1% and 10%. We assume that a biodiesel production industry will be set up in New Zealand. World production of biodiesel is such that fuel would not likely be able to be imported. However, it is possible that vegetable oils might be imported as an input to domestic biodiesel production. This possibility is considered later.

2.2 Unit Costs of Biodiesel Blends

Drivers of the unit costs of biodiesel blends include:

• Feedstock costs
  • The price of tallow
  • The price of alternative feedstocks, e.g. vegetable oils
  • The price of other inputs (methanol and potassium hydroxide)
• Non feedstock costs
  • Capital expenditure on plant
  • Operating expenditure for plant
  • Transportation, storage, and distribution costs
  • Blending costs

Our assumption that the bulk of supply would have to come from domestic biodiesel production has the effect of raising the price of biodiesel from the raw input to including the capital costs associated with producing in the New Zealand market (though capital costs would on average over the long run also be reflected in biodiesel prices on the world market). Despite this, the primary driver of biodiesel costs is the feedstock input, which in this study is tallow (given that is the feedstock for which New Zealand has the largest available stock).

To conduct our analysis of biodiesel prices we have forecast the price of tallow out to 2012. For our forecasts we have used a reference price that is the mid range between high grade tallow and low grade tallow. This is not problematic in as much as the two prices move together, but it does affect the level of the cost of tallow inputted to our model. If biodiesel was to be manufactured in New Zealand from low grade tallow, we would expect a reduction in the difference between the diesel pump price and the BD5 pump price - though BD5 would not be cheaper than entirely petroleum based diesel.

Figure 1 shows the path of our forecasts for tallow prices compared with our forecasts for crude oil prices. The forecast for tallow is based on historical movements in the price of tallow on European commodity spot markets, and on an observed structural upward shift of meat and meat bi-product prices in the past four or five years. Our forecast for Brent crude prices are those produced in NZIER's Quarterly Predictions.

Figure 1: Tallow and Crude Oil Prices: New Zealand Dollars per Litre

Source: NZIER

If the price of alternatives to tallow, such as rapeseed or canola oil, were to fall below that of tallow, we would expect a switch from tallow feedstocks to vegetable oil stocks. However, tallow prices have almost always tracked below vegetable oil prices in international markets (see Figure 2). As such we have not considered vegetable oil feedstocks and their effect on biodiesel prices.

The non-tallow costs used in our analysis are those reported in Duncan and Copeland (2004). We have divided the costs into those assumed to vary proportionally with the tallow feedstock price and those considered to be constant in cents per litre. The transport costs and costs of additional feedstock chemicals are assumed to be 22.32% of the price of the principal tallow feedstock. Those costs deemed to remain constant are the non-tradable blending costs, capital costs, and operating expenditure costs, assumed to be equal to 4.5, 4.9, and 0.003 cents per litre respectively.

Part of the additional non-tallow cost of biodiesel is offset by the production of saleable by-products such as glycerol. Duncan and Copeland (2004) estimate sales of by-products reduce the cost of biodiesel by 17 cents per litre. In our analysis we have assumed that the price of by-products moves in line with the price of tallow, and as such is a constant proportion of the cost of tallow equal to 26.4% of the price of tallow. Hence the proportion of non-tallow costs included in the biodiesel price is a net price reduction on the price of tallow of 4.08% - before the addition of the constant cent per litre costs outlined above.

Figure 2: Tallow and Rapeseed Oil Prices: US$ per Metric Tonne

Source: Datastream

2.3 Biodiesel Blend Pump Prices

Figure 3 shows our forecasts for the pump price of biodiesel. The price of BD5 is seen to track the price of diesel very closely. This is because 95% of the price is derived from diesel. But note that through 2004 and into 2005 the increase in oil prices makes the price of BD5 nearly indistinguishable from the price of diesel.

Later we provide two series for pump prices in the case of ethanol blends, one series per litre of fuel and one series adjusted for fuel consumption efficiency of ethanol blends. This is not done for biodiesel because the fuel efficiency of biodiesel is around 99% that of regular diesel and consequently the impact on price from lost fuel efficiency is negligible in a BD5 blend.

Figure 3: Diesel and 5% Biodiesel Blend Pump Prices: New Zealand Dollars per Litre

Source: NZIER

Table 1 provides the path of likely pump prices of various biodiesel blends relative to diesel pump prices. To make the price of diesel directly comparable to biodiesel blends, we have added an equivalent retail premium to each of the raw fuel input costs based on the average difference between the retail diesel and crude oil prices in the past four years. In reality this premium will vary through time and as a result the realised price of diesel may differ from the precise value at the pump currently. Furthermore, our reference prices for both diesel and biodiesel/diesel blends are the average annual price which dampens the effects of price shocks on the reference price in any given year. For the sake of comparison we have included the notional price of biodiesel blends were they to have been introduced from this year on.

Source: NZIER

2.4 Effects of Biodiesel on Vehicle Emissions

Biodiesel blends can have significant positive effects on vehicle emissions. The precise nature of the effects depends on the level of the blend, fuel quality, and the type of vehicle using the blend. Typically, biodiesel use results in reductions of tailpipe emissions of unburned hydrocarbons, carbon monoxide, particulate matter, and CO₂. Relative to low sulphur diesel, emission reductions from a 10% biodiesel/diesel blend are expected to be:

• 2.4% reduction in carbon monoxide
• 2.0% reduction in non-methane volatile organic compounds (NMVOC)
• 2.3% reduction in particulate matter
• 0.05% reduction in CO₂ emissions

The principle emissions of interest in this study are those of CO₂ and of particulate matter. The former is the most prolific greenhouse gas and the gas on which carbon taxes will be charged post 2007. Particulate matter is of interest because it is these emissions which are most closely related to ill health effects from vehicle emissions. Preliminary New Zealand research conducted by NIWA for the Ministry of Transport has estimated that 399 people above the age of 30 die prematurely every year due to particulate matter emissions from vehicles (NIWA, 2002).

From a survey of New Zealand and Australian research, Duncan and Copeland (2004) suggest that the potential benefits of reductions in emissions of particulate may be equivalent to 5.4 cents per litre of diesel displaced by biodiesel. These estimates are problematic because the extent of adverse health effects depends on the concentration of people as well as the stock of particulate matter in a given area. Indeed Duncan and Copeland point out that a significant proportion of biodiesel would need to be consumed in Auckland for there to be significant positive health impacts from particulate matter reductions.

Duncan and Copeland suggest that concentration of a BD20 blend in the Auckland market could deliver the most health benefits from reductions in emissions of particulate matter. In our view, this is not an option. Mandating biodiesel blends in specific regions of New Zealand would require either requiring Auckland transport fuel suppliers to use BD20 blends, or vehicles in Auckland to provide proof they are using BD20 blends. The former would doubtless be circumvented by large diesel consumers purchasing fuel elsewhere in the country and the latter would require an inordinate enforcement cost.

Problems around accurately estimating emission reductions and positive health impacts of emission reductions mean we have not independently estimated the precise monetary value of such reductions. However, in section 6 we draw on existing studies in a discussion around the health benefits of reduced vehicle emissions.

In our analysis tailpipe CO₂ emissions are assumed to reduce by 0.1% for every 10% of biodiesel in a diesel/biodiesel blend. In addition to this, for each 1% of biodiesel in a biodiesel blend, 0.924% of emissions are assumed to be due to biodiesel and therefore from a renewable source which does not increase the stock of CO₂ in the ecosystem. The net effect being that, based on CO₂ emissions alone, a 10% blend of biodiesel in diesel would result in an approximate 10% reduction in the amount of greenhouse gas emissions produced as a result of automotive diesel consumption.

The existence of carbon taxes and carbon credits for renewable fuels yields a useful reference point for our analysis of the benefits of bio-fuel blends. The government has capped carbon taxes at $25 per tonne of CO₂. We assume that emissions are valued at $15 per tonne in the market. Hence we value the reduction in CO₂ from biodiesel use at $15 per tonne of CO₂ reduced compared to a baseline forecast (see section 4.1).

2.5 Biodiesel Supply Issues

Biodiesel production is limited worldwide and, as mentioned above, this leads us to assume that biodiesel production to meet mandatory transport fuel blend targets will need to be met almost exclusively from domestic production. Currently New Zealand has only one domestic biodiesel producer, but production is in very small quantities. Thus any mandatory fuel target would have to be contingent on the entry of additional biodiesel producers into the New Zealand market.

One international biodiesel producer, Argent, have said that they could enter the New Zealand market and be at full production of 55 million litres within four years of the decision to invest. This suggests firstly that a mandatory biodiesel blend could not feasibly be introduced before 2008. It also suggests that the extent of a mandatory blend percentage is restricted to quantities less than 55 million litres per annum.

Later in this report we investigate the impact of introducing a mandatory biodiesel blend target before 2006. This is indicative only as it remains to be seen as to whether sufficient biodiesel will be produced in New Zealand prior to 2008. The timing of a mandatory biodiesel target will therefore have to take into account this supply side constraint.

In our view, the implementation of a biodiesel blend requirement for diesel and decision around the precise blend percentage will require further consideration of these supply side issues in discussion with potential producers of biodiesel. In our view it would be prudent to have an implementation mechanism which is linked to the level of biodiesel production in the economy. That is, blend requirements might well be a fixed percentage of domestic production up to and including a desired target level. For instance, a blend target of 3% may be chosen, with regulations specifying that use of such a blend would be contingent on domestic biodiesel supply being sufficient to supply that level. For every 10 million litres deficit in supply, the required blend would fall by 0.5%.

We understand that a number of Australian companies have looked into biodiesel production and some plants are already producing. We would suggest discussion with Australian firms with interests in biodiesel production to assess the future feasibility of importing biodiesel from Australia if necessary.

The imposition of a mandatory biodiesel/diesel blend would also require the creation of a New Zealand biodiesel standard. Biodiesel is not presently approved for use in blending with diesel and any such approval would certainly require a standard against which the properties of biodiesel could be considered. Moreover the quality and properties of fuels known as biodiesel are so variable that a standard is necessary to ensure consumers and vehicle manufacturers would be willing to accept biodiesel as a viable transport fuel source.