In Focus
September 2011

Alternative Fuels in Asia and Implications for Refiners

Alternative automotive fuels1 currently under development in Asia cover an entire spectrum: biofuels, liquefied petroleum gas (LPG), compressed natural gas (CNG), hydrogen, alcohol fuels, electricity, gas to liquid (GTLs), biomass to liquids (BTLs), methanol to gasoline (MTG) and solar. Much of the development of these is still in the early stages with biofuels (mainly bio-ethanol gasoline) arguably making the most headway.

The key drivers for alternative automotive fuels in Asia vary from country to country. The most common motivation is to reduce dependency on foreign oil (increased energy security) and more recently, to combat climate change and encourage environmental sustainability.

Biofuels in Asia
Biofuels transformed from a niche energy source to a globally traded commodity that is a magnet for billions of investment dollars within a few years after the US and EU announced policies and fiscal incentives to support its increased use in 2004-2005. Asian governments were quick to follow in their footsteps and announced ambitious plans to promote biofuels production for both domestic consumption and export.

Advocates maintain that biofuels can help reduce dependency on oil imports and lower greenhouse gas emissions, and revitalize rural landscapes in both developed and developing countries. A 2009 report by USAID on the benefits and risks of biofuels in Asia estimated total biofuels production in the region to have jumped more than five-fold since 2004, from just over 2 billion litres to almost 12 billion litres in 2008.

Despite this accelerated growth biofuels only accounted for 3 percent of the region's transport fuel mix. The report pointed out that "even at this scale it is evident that biofuels incur significant trade-offs and economic and environmental risks". Critics of biofuels argue that they compete with food crops for land, water and agrichemicals, do not deliver cost-effective carbon emissions reductions, demand a disproportionate amount of subsidies and incentives, and negatively impact biodiversity. Others highlighted concerns over lower energy content, net negative energy balance, potentially increased emissions in VOCs and NOx and vehicle performance issues.

The USAID report purported that large-scale production of biofuels is unlikely to make a significant contribution to Asia's future transport energy demand. By 2030 biofuels are expected to account for an estimated 3-14 percent of the total transport fuel mix in China, India, Indonesia the Philippines, Thailand and Vietnam. This projection is predicated on the premise that these countries will rapidly expand cultivation of efficient first-generation biofuels crops on under-utilised land while promoting second-generation "cellulosic ethanol" using agricultural residues.

Countries in Asia that have in place biofuel – both bio-gasoline and bio-diesel – programmes and targets include Thailand, China, India, the Philippines, South Korea and Vietnam. Thailand arguably has made the most progress with ethanol gasoline while the rest of the countries continue to struggle to achieve meaningful success as they deal with resource limitations especially in feedstock sufficiency.

Non-biofuel alternative fuels in Asia
Various usage trials and programmes involving non-biofuel alternative fuels are currently underway across the region. Amongst these, CNG and auto-LPG have captured the most attention. Non-liquid fuel options such as hybrid, electric and hydrogen/fuel cell vehicles are also being explored.

Current Usage/Trial of Alternative Fuels in Asia Pacific

Asia Pacific is home to the world's largest natural gas vehicles (NGV) market and the second largest in auto-LPG vehicles2. Based on December 2009 data, India is the world's 5th largest NGV market while China is 7th. South Korea is the largest auto-LPG vehicle market globally, while Japan and Thailand are 4th and 9th respectively.3

India's NGV industry leverages the extensive natural gas pipelines laid across western India to distribute CNG. Other states tap into the LPG distribution network to supply auto-LPG. The government is targeting 1 million hydrogen vehicles by 2020, having approved the addition of maximum 20% hydrogen to CNG. India is the only country in the world that has approved the use of hythane, a mixture of hydrogen and methane.

While China runs the 7th largest NGV fleet in the world, CNG and auto-LPG each accounts for less than 5% of the total natural gas and LPG consumption. China is the only country worldwide considering methanol fuels given its sizable coal industry which provides the resources to convert coal to liquid alternatives such as methanol in gasoline and DME as auto fuel. China now allows M15 gasoline in selected provinces on a trial basis. The Government also plans to devote substantial resources to develop electric vehicles. 13 cities, supported by government subsidies, will be pilot markets for 1,000 new energy vehicles by 2012.

Japan's emphasis, on the other hand, is on next-generation vehicles, mostly hybrid cars. The Government-driven switch from gasoline automobiles to next-generation vehicles is based on the premise of reducing dependence on oil and greenhouse gases. The focus is on innovation of engines (battery and fuel cell) and innovation of fuels in the form of biofuels (bio-ETBE). Tax incentives for fuel-efficient and low-emission vehicles are also part of the plan. The official 2020 target is 50% new vehicle sales to be next-generation vehicles. Currently about 10% of the country's vehicle fleet are hybrid cars.

Alternative fuels do offer promise in an energy-intensive world. However, they clearly come with challenges and countries in Asia still have some ways to go before the large-scale adoption of these fuels can be realised. Cost efficiencies and large-scale application are the key obstacles most, if not all, alternative fuels face.

Asia Needs Clean Fuels
To assess the implications alternative fuels bring to the refining industry, let us first frame the context for this discussion.

Asia needs clean fuels. Governments in Asia have been battling air pollution issues for years. Various studies have shown that both fuels and motor vehicles are major contributors to the degradation of air quality. The fact that Asia is home to the world's fastest-growing and potentially largest automotive vehicle population compounds the challenge at hand.

Automotive transportation has been identified as the largest source of particulate pollution in most cities; in some cases up to 90% of pollution in a city comes from vehicle emissions. Undeniably, cutting vehicle emissions is one of the most urgent priorities in Asia's efforts to improve air quality. Clean fuels and vehicle pollution control technologies are essential components of an effective clean air strategy.

To the extent that gasoline and diesel are the predominant fuels in use at present, they are considered the main culprits of the pollution problem and often criticized as being 'environmentally unfriendly'. Supporters of alternative fuels have argued and concluded - or simply assumed - that they are necessarily 'cleaner' than petroleum-based fuels and more environmentally friendly. Indeed, much of the hype surrounding alternative fuels has centered on the promise that they will one day replace regular gasoline and diesel.

We cannot see this happening in the foreseeable future. The immediate reality is that oil remains the world's most vital source of energy and will remain so for the next few decades, even under the most optimistic of assumptions about the pace of development and deployment of alternate technology. Major developed economic bodies such as the European Union, the United States and Japan as well as leading oil companies have indicated that fossil fuels will remain the primary choice of transportation fuels by up to 80% of their energy mix till Year 2030, even as they steadily increase the use of alternative fuels.

The immediate future for transport fuel is still petroleum-based. Gasoline and diesel fuels are the lowest-cost option to the consumer as the production and supply infrastructure is already well established, mature and available on a large scale.

What this means is that alternative fuels and cleaner conventional fuels will have to co-exist. A successful clean fuel strategy must include both cleaner petroleum-derived fuels as well as alternative fuels. For oil refiners the right question to ask then is not when alternative fuels will replace conventional fuels. The question to ask should be: how can conventional fuels compete with alternative fuels in an era where environmental sustainability has become a vital policy and business planning parameter?

Implications for refiners
Alternative fuels are not yet mature but they will eventually carve a niche for themselves. This is inevitable in light of the urgency to combat climate change and the need to satisfy the ever-growing energy needs globally in the face of limited resources. Volatile and persistently high oil prices, the need and political will to diversify energy sources and potential environmental benefits will continue to feed interest in alternative fuels.

At this juncture, however, there are practical constraints holding back the large-scale deployment of alternative fuels. Alternative fuels are highly capital-intensive as many of them need new supporting infrastructure and the technologies are immature. Prohibitively expensive to produce, they can only be sustained, at this point, by extensive fiscal subsidies.

This is a particularly sensitive issue in Asia where fuel market subsidies are prevalent. Subsidized fuel markets limit the scope for higher prices which make alternative fuels non-viable economically. This in turn constrains investments thus limiting production volume. In Asia's context, this is a vicious cycle that is hard to break.

In addition Asian consumers are not ready to embrace alternative fuels, both economically and psychologically speaking. A quantum shift in consumer mindsets, preferences and behavior is required before a consumer market with critical mass will emerge.

This backdrop presents a window of opportunity for the refining industry. Consumer acceptance of conventional fuels is less of an issue (as long as the price is reasonable) compared to introducing new, and potentially more expensive, alternative fuels. Reducing the pollution threat to humans and the pressure on the environment (through cleaner gasoline and diesel) also alleviate the pressure on countries to develop alternative energy in the interim.

Cleaner petroleum-based fuels are the way to go
There is no doubt that by the next century, the world will have a radically different energy mix. The global energy landscape is moving from the oil age to the age of diversity in fuels. The era of cheap oil is over; the rules of the energy game are changing. Fuel suppliers either adjust the way they think about their role and how they compete or risk being obsolete.

Petroleum-based fuels cannot hope for alternative fuels to fail to take off to win this game. Petroleum-based fuels have an advantage but this edge will be eroded over time if the industry does not act now to stay relevant.

Cleaner petroleum-based fuels are the way to go. Governments will continue to tighten legislation governing (conventional) fuel quality and vehicle emissions to arrest the decline in air quality. Besides a progressive reduction in sulphur, refiners would also be required to cut benzene, aromatics and olefins levels in gasoline. The intensifying policy focus on reducing carbon dioxide and greenhouse gases while raising vehicle efficiency will also add pressure on refiners to produce a product that meets the strictest demands.

In most of developing Asia, however, the benefits which can be derived from regulating fuel attributes and standards have not been maximized. Most refineries in this region have focused only on lowering sulphur levels and have resisted cutting benzene, olefins and aromatics content despite this being a proven path to cleaner, better quality fuels. Even though there are no technical or scientific obstacles to hinder the production of conventional fuels that meet stricter fuel standards, refinery economics continue to dominate.

Actual experience in the U.S., EU and Japan indicates that the refining process technology is mature and accessible. There is a cache of experience in installation and integration of new processes in existing refineries. Experience with the production, blending, distribution and quality monitoring of cleaner fuels and tools to optimize refining operations are also available.

These investment decisions have the benefit of past experience in the U.S. and Europe, which spent more than 50 years fine-tuning its fuel strategy and the entire transportation ecosystem. The refining technology needed to produce cleaner fuels that meet Euro IV and above standards is well understood and has been widely implemented in practice. The costs of the technology are well defined and supported by a variety of engineering and construction services related to refinery modifications. Developments in refining technology over the years have also helped to reduce capital costs.

Cleaner petroleum-based fuels are an opportunity to raise its game against alternative fuels and further cement its relevance in the fuels environment. Near-term economic pain (infrastructural upgrades and investments) are necessary investments to strengthen the industry's ability to grow and compete against alternative fuels in the age of diverse fuels. Embracing – not resisting - cleaner fuels serves the long-term interests of the refining industry.

----

1 For the purpose of this discussion 'alternative fuels' is defined to be automotive fuels not derived from oil.

2 Source: IANGV (www.iangv.org), 2009 statistics.

3 Source: World LP Gas Association, 2008 statistics.

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