SREs

Last Friday, the EPA released its decision on 2016-2024 SREs (small refinery exemptions) under the RFS. The EPA awarded 63 full SREs and 77 partial (50%) exemptions. The total for the 140 awarded exemptions was 5.34 billion gallons, a large amount by any standard. Here are some thoughts about the decisions:

1. The first question faced by the EPA was how many SREs to award.  I previously computed that there could be around 1.4 billion RIN gallons of SREs per year over 2016-2023.  This would mean the total could have been as large as 12 billion gallons.  That is a massive number given that the total RVO in recent years has been around 20 billion gallons.  The new EPA Administrator, Lee Zeldin, expressed a clear preference for clearing the decks of all these old SRE petitions.  What direction would the EPA go?  Would it follow Trump 1.0 and award all of them, or would it follow the Biden Admin and award zero?  The answer is that the EPA followed a “split the baby” strategy.   The EPA used a combination of partial 50% SREs and petition denials to whittle the SRE total down to 5.34 billion gallons, still a large number, but not nearly as large as it could have been.
2. It is rather curious that 25 out of 29 petitions were awarded full SREs for 2019, but then, suddenly starting in 2020 partial exemptions became the norm.   Out of the 134 SRE petitions over 2020-2024, only 38 were given full awards.  Hmmm.  It seems that something suddenly changed in the DOE scoring for SREs.  I suspect that there will be legal action on this front, which helps explain why nearly a quarter of the EPA decision document deals with awarding partial 50% waivers.
3. Having decided on the number of SREs to award, the EPA faced the momentous decision of how to provide relief for the 2016-2022 SREs. Small refiners had already complied for these years and retired RINs that were consistent with their obligations. The small refiners made it very clear that they expected the EPA to not only return their RINs, but also convert the vintage of the RINs to the current year.  For example, consider the award of a 2019 SRE.  The small refiner already complied for 2019 using either 2018 or 2019 RINs.  If the EPA returned the 2018 and 2019 RINs to the refiner as relief for the SREs, this would not have any value because the RINs had already expired under the RFS rules.  The alternative is for the EPA to convert the vintage year of the 2018 and 2019 RINs to 2025, a process in the trade known as the creation of “zombie” RINs.  But the EPA said “no cigar” on this to the small refiners. They will be getting back their RINs with the original vintage years, which have all expired and are worthless today. So, SREs for 2016-2022 are simply paper transactions with no economic value.
4. In my opinion, the EPA offered a weak justification for awarding expired RINs instead of zombie RINs. They noted that they had given zombie RINs in the past but could not now because it would be too disruptive to the operation of the RFS program. That’s it. I believe the EPA fully understands that they may well lose in court on this issue. But this solves two political problems for the Trump EPA. First, it puts off the bearish implications of dumping a huge number of zombie RINs on the market until some future year after the courts reach a decision. Second, if this happens before 2028, the Trump Administration can simply tell their ag supporters that they are only doing what a court ordered them to do.
5. The EPA is allowing small refiners awarded 2023 RINs to re-comply for 2023 to provide some economic relief. In addition, 2024 compliance has not yet closed, and small refiners with SREs for this year will be able to keep their RINs or sell them instead of complying. The combined impact is to release 1.39 billion gallons of RINs into the market from 2023 and 2024.
6. The “R” word now hangs over the implementation of the RVOs for 2026-27. The question is whether the EPA will reallocate SREs awarded for 2023 and 2024, as well as any awards in the future for 2025-2027. Reallocation means shifting obligated gallons from exempted small refiners to larger obligated parties. This can be done via a supplemental RVO for 2026-27 that accounts for the SREs awarded for 2023-25 and including expected SREs in the final formula for percentage fractional RVOs for 2026 and 2027.  In the press release on Friday about the SRE decisions the EPA indicated that “…in the near future, EPA will submit a draft supplemental proposed rule to the Office of Management and Budget (OMB) on the proposed reallocations of the 2023 and later compliance year exempted volumes. EPA will also be providing updated information on how the agency intends to project SREs for 2026 and 2027 in the context of establishing percentage standards for those years.”  One can infer from these statements that some level of reallocation for 2023-2027 is clearly on the horizon.
7. We now have good information to at least forecast the potential range of different SRE reallocation scenarios.  The average SRE total for 2023 and 2024 is 695 million RIN gallons.  So, let’s assume that SREs for 2023-2027 average 700 million RIN gallons. That is a total of 3.5 billion gallons of SREs, more than enough to swing the RIN market from bullish to bearish.  I believe the language from the press release clearly suggests something like 50% reallocation at a minimum. That would be 1.75 billion gallons of SREs not reallocated and hitting the RIN market as extra supply.  This would not be disastrous for the RIN market given the bullishness of the June RVO proposals for 2026-27.  Plus, this seems like a worst-case scenario to me.  The wording of the press release suggests something closer to the full reallocation is in the offing.
8. Last but not least, the change in direction of biofuel policy under Trump 1.0 compared to Trump 2.0 is striking.  Under Trump 1.0, the refiners were in near total control of RFS policy-making at the EPA.  It appears that just the opposite has occurred under Trump 2.0, with ag having a firm grasp on the steering wheel.  Long live the Grassley Rule!

Laurence J. Norton Chair of Agricultural Marketing
University of Illinois at Urbana-Champaign