The US is where biofuels are suffering most, a result of its new-found love of shale oil and shale gas. While the US situation might seem peculiar to that country, there is a lesson for the rest of the world in how biofuels rose and fell.

What is happening in the US is an example of what happens when politically correct government policies that bear no resemblance to how the world really works are blasted by the blowtorch of market economics and customer demand – two forces that eventually expose an inferior product or one created by artificial market manipulation.

In the case of ethanol, the stuff made from processing corn and other food crops, the biofuels collapse is most obvious because consumers are shying away from government decrees that it form part of the overall liquid fuels mix.

Unfortunately for government, consumers do not like ethanol in their gasoline, even if there is a law that specifies that a large share of the gasoline used in the US contain 10% ethanol.

The result of this mismatch of government edict and customer demand is an astonishing mess and a grossly distorted market for government pieces of paper called Renewable Identification Numbers. This is a document somewhat akin to another discredited piece of government paper dealing with carbon emissions.

These “market meets government” moments can be boiled down to a variation of the adage about “oil and water” not mixing with the renewable and carbon certificates, a case of what government wants and what markets want being incompatible.

At some point in the near future, the problem with RINs and carbon certificates will be fixed because as both stand they are a joke.

The carbon certificates problem, which is at its most obvious in Europe, is a result of too many certificates being issued. This has led to a collapse in their price which has, in turn, led to power generators finding it cheaper to burn the most polluting of fuels, coal, rather than make a change to the way they operate.

The RIN situation is a variation on a theme. Back in 2007 the US Government passed laws that dictated the amount of ethanol to be used in the country’s liquid fuels. These laws set a series of rising targets – 9 billion gallons of ethanol in 2008, 16.55 billion gallons in 2013 and 36 billion gallons in 2022.

The idea, born in an era before the shale gas revolution and the dramatic switch in the US energy equation, was to encourage (force?) US consumers to use more ethanol as part of a push for energy independence in a world fixated with Peak Oil theory (remember that one too?).

With the ethanol target came a boom in corn production and a system designed to help oil companies overcome the problem of not having enough ethanol for blending by the creation of the RIN system. There was one RIN generated for each gallon of biofuel (ethanol or biodiesel) – with refiners able to buy RINs if they could not meet the legal production requirement.

The result is a farce which London’s Financial Times reported last week had led to a boom in RIN prices as the legal fuel blending requirement rises but petrol consumption remains static in an economy still dogged by the downturn that followed the global financial crisis.

Rather than a RIN costing 5c it sells for 90c, adding an estimated $500-to-$750 million to the costs of the biggest independent US oil refiner, Valero.

Understanding precisely how the market in biofuels has been distorted by government policy is enough to make The Slug’s brain ache. However, for anyone in the liquid fuels business it is worth a detailed analysis if only to understand why government should stay away from attempts to manipulate consumer demand.

As well as creating an artificial business trading in RIN certificates there is a danger the system could lead to a totally unnecessary spike in the price of gasoline and diesel. It could perhaps boost both by up to 30% as a scramble develops for increasingly scarce RINs.

Soon, even the US government will recognise that what seemed like a good idea in 2007 has become a total mess thanks to the rising supply of domestic gas and oil production and a consumer switch away from using ethanol or biodiesel.

In time, it would not be surprising to see something similar happen to the other false market created by government, carbon emission certificates, and wouldn’t that be an enjoyable development.