By Greg Burns,Chicago Tribune

CHICAGO – Higher gasoline prices usually spell good times for producers of ethanol, the fuel additive made from corn.

These days, however, ethanol makers are getting creamed. Even as oil prices hover around $50 a barrel, ethanol has plunged by at least one-fourth since January. For the first time in memory, a gallon at wholesale is going for a dollar less than a gallon of gas at the pump.

The free fall threatens a slew of new manufacturing plants started up in the rural heartland with the support of local farmers seeking gold in grain-based fuel. And it is fanning tensions between ethanol producers and Big Oil, their primary customer.

As a dozen additional facilities now under construction come on line in the months ahead, overproduction promises to keep a lid on prices. Market forces are holding in check a product that has boomed in recent years, due in large measure to the intense support of farm-state politicians.

“There’s too many plants going up too fast for the market to absorb it,” said Todd Block, general manager of Adkins Energy LLC, a two-year-old ethanol plant in Lena, Ill. “There’s a big shakeout coming.”

The low prices have hurt the entire industry, added Bernie Punt, general manager of a plant in Sioux Center, Iowa: “It’s to the point where it’s ridiculous.”

To hear many analysts tell it, ethanol’s problems are a simple matter of too much supply meeting too little demand. Produced in the same way as moonshine, ethanol is more easily made than distributed, they say, and the industry’s infrastructure is still catching up.

“We’ve had a tremendous increase in capacity and production. It just kind of flooded the market,” noted Todd Duvick at Banc of America Securities, who recently cut his rating of industry leader Archer Daniels Midland Co. ADM stock has fallen nearly 20 percent in a month as investors react to the small-fry pouring into a business it once dominated.

Not everyone’s convinced, however, that supply and demand alone account for the low price. The heartland is filled with dark rumblings about oil-industry conspiracies to keep ethanol down and petroleum pre-eminent.

“At a time when there’s record high gas prices, they take all our profits,” said Punt, who like other ethanol producers depends on oil giants to blend his product into their gas.

“Unless most of these oil companies are told by the government they have to use it, they won’t.”

Monte Shaw of the Renewable Fuels Association puts it bluntly: “They’re ignoring an incredible bargain, and consumers are left paying higher prices.”

A spokesman for the oil industry branded that assertion “stupid” and “just ludicrous.”

“If somebody can make additional money blending ethanol, they will do that,” said Edward Murphy at the American Petroleum Institute. To suggest otherwise, he said, “betrays a certain economic ignorance.”

Nevertheless, ethanol’s political backers are taking action. House lawmakers from Midwest states on Wednesday introduced legislation that would mandate renewable-fuel consumption of 8 billion gallons by 2012, double the current usage. The Senate already is considering a look-alike bill.

The proposal drew applause last week from Keith Bolin, a corn and swine farmer in Manlius, Ill., who heads the American Corn Growers Association. “The initiatives in this bill will greatly benefit America’s farm families,” said Bolin.

Ethanol emerged from the ferment of farm politics over the past two decades to become one of the Midwest’s signature public-policy issues.

For cleaning up smog, reducing dependence on foreign oil and funneling money to an important constituency, ethanol can hardly be beat – as farm-state politicians have come to recognize. What better way to get rid of surplus grain than burning it in SUVs?

As a result, lavish government subsidies support production, including direct federal benefits of 51 cents per gallon. Laws restricting the use of a competing gas additive known as MTBE help even more. Indirect subsidies that encourage overproduction of corn provide an additional benefit.

These days, corn is plentiful, so raw material prices are cheap. Given the soaring price of oil, ethanol should be selling for at least 30 or 40 cents more, and yielding handsome profits all around, its backers say.

Yet the economics of ethanol are complicated, and the market still adjusting to the addition of 30 new plants in the past three years, bringing the total to 83.

For starters, cheap corn does not necessarily equate to cheap ethanol. In fact, one of the fuel additive’s economic advantages for farmers is that its price does not correspond to that of the farm commodity.

Lately, though, ethanol prices have failed to correlate as expected with energy prices, either. Some analysts chalk it up to the perils of forecasting in an immature market flush with mysteries. “What do we have to compare it to?” asked agriculture analyst Joe Victor of Allendale Inc. “We learn week by week.”

One wild card in ethanol’s profitability is freight rates. It’s costly to move the volatile brew from production sites scattered around the Midwest to motorists in California and New York. Fuel surcharges and rail-line congestion have added to the costs lately, producers say.

Another factor is the sale of byproducts from ethanol’s manufacture, notably grain protein used for livestock feed. Its value typically moves in lockstep with corn, offsetting about one-third of raw material costs – but not always.

None of that would matter if the oil industry would simply tank up, ethanol boosters maintain. But that, too, is not so simple.

From opening storage tanks and blending facilities to labeling pumps and changing filters, switching to ethanol takes time and money, so oil companies aren’t jumping at every enticing price dip, said Ed Swinderman, a vice president at Houston’s Jim Jordan & Associates energy consultancy. “You’ve got to overcome the inertia,” he said.

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Murphy of API noted that most oil companies use long-term contracts. “They’re not varying production based on what’s happening in the spot market.”

Shaw, of the Renewable Fuels Association, smells a rat: “Oil companies thus far have not reacted to the market. They’re logistically capable of doing so without changing a thing. It’s very frustrating. It’s a little bit hinky.”

For the balance of the year, analysts expect ethanol prices to inch higher. Swinderman is looking for $1.35 per gallon, which would be profitable for the most efficient plants, but only break-even at best for the inefficient or debt-laden.

Longer term, much depends on how quickly clean-air initiatives and other government mandates kick in. Ron Miller of Aventine Renewable Energy Inc. in Pekin, the No. 2 player behind ADM, expects less of a shakeout than some others do.

“It’s more a lost opportunity for the industry than real pain,” he said. “At some point, demand will catch up.”

In fact, the pain may come in another fashion. As lawmakers seize the moment to press for greater ethanol use in gasoline, it reduces America’s dependence on Saudi Arabia but increases it on Mother Nature.

“If you’re a senator from the Midwest, you’re beating the tom-tom,” said Allendale analyst Victor. “But what if we have a drought? Is there already too much dependence on ethanol?”