The Death of Synfuels

At the time it seemed such a reasonable idea. Reeling from the second oil price shock in half a dozen years, Congress bought national energy insurance by establishing the Synthetic Fuels Corporation (SFC) via the Energy Security Act of 1980. The program was to terminate on September 30, 1997, or earlier by executive order of the president, but "in no event prior to September 1992."

"In no event" notwithstanding, the corporation's short and unhappy childhood will end before it sees its sixth birthday. President Reagan in December signed a bill that kills the corporation as of mid-April 1986. The catalog of what went wrong, with three main elements.

What went wrong

First is the nature of title 5 of the Energy Security Act, which established as the core "selective production of a certain amount of synthetic fuel by a certain date rather than pursuit of research and development. By 1987 production was to hit no less than 500,000 barrels per day (b/d) in equivalent, and by 1992 the target was to climb to 2 million b/d. In retrospect, learning—gathering information—should have been the main goal; setting up a production target merely distorted the effort.

Moreover, if there was to be a production target, half a million barrels within seven years was wholly unrealistic. Consider that a single 50,000 b/d plant would cost $3.5 billion to $4.5 billion (not one has been built), would consume some 7 million tons of coal a year (the equivalent of that burnt by a very large power plant), yet would operate with untested technology and inadequately known environmental effects. Temperatures probably would exceed 1000° F and pressures of 3,000 pounds per square inch would be common. The labor force might be in the range of 4,000, and the plant might occupy one square mile. That acceptable sites for ten such facilities could be found quickly and that all would function at capacity required suspension of disbelief, yet such was the mandate given by Congress to the corporation. It was not removed until late in 1984.

A second feature of the legislation was its generous dowry. Based on some back-of-the-envelope calculations of the government's revenue from the oil windfall-profits tax, the program was allotted a stupendous $88 billion, of which slightly less than $20 billion would be available at once and the balance later. Those amounts (never, incidentally, built into the windfall-profits legislation) set the scale of the enterprise and confirmed the emphasis on production rather than research and information. In 1984, with budget deficits mounting and nothing to show after more than four years, Congress, its impatience rising, reduced the corporation's obligational authority by nearly half.

Third, the corporation's managers considered themselves investment bankers, not innovation managers. Their conception was to screen applicants and judge them for credit-worthiness, and the emphasis on output merely rationalized that posture. So did the prevailing theology that "the market knows best." That government investment and private investment constitute very different worlds and that a good private chief executive officer might not be a good public servant were foreign notions to those in charge.

Falling prices, scuttled projects

When oil prices began to soften in mid-1982, these problems—not to mention episodic squabbles and infighting over personalities and administration—brought about the collapse of what little had been accomplished. Scaling down price expectations, American business involved in synfuel ventures pulled out and cut their losses. The Synthetic Fuels Corporation shelf of prospective projects suddenly was bare, or nearly so.

One notable exception is the Cool Water Project in California, started up in the spring of 1984, which appears to be doing well in producing coal-based synthetic gas burned to generate electricity in an environmentally acceptable manner. The corporation is involved through a $120 million price guarantee of the synthetic gas, equivalent in the aggregate to not quite half the cost of the facility. Until recently, the shale-oil conversion plant of Unocal (formerly Union Oil of California) in Colorado, supported by a $400 million price guarantee from the Department of Energy (DOE), administered by SFC, seemed on the verge of completion. But substantial technical obstacles have kept it from performing and the outlook for remedies doesn't promise an early solution. Whether there is a government commitment for a loan guarantee is in doubt and may have to be resolved by the courts. Louisiana's Dow gasification venture, which carries a corporation price guarantee of $620 million, is under construction and expected to be completed by 1987.

Finally, there is the Great Plains Project in North Dakota. Built to convert low-Btu coal to synthetic gas, it advanced from test runs to commercial production in late 1984 before being abandoned by its private participants as financially not viable without further substantial government aid. The original supporter was DOE, which guaranteed a $1.5 billion loan, but the department balked at restructuring that guarantee and thus also brought down an SFC plan to extend price guarantees. These denials left DOE alone on the stage.

Thus, in the fall of 1985 DOE inherited a noncompetitive gas production facility, and the taxpayer will shoulder whatever eventual financial loss is caused by the sponsors' default. As of January 1986, DOE as the new owner was operating the facility and looking for a buyer for Great Plains, with as yet no takers. By holding four of the five defaulting sponsors to a contractual obligation to buy gas from the plant at what now turns out to be a very high price and by possibly recuperating some tax credit, the government could cut its losses, but not without a legal battle. (Fortunately, neither price guarantees nor purchase agreements engender government payments unless and until there is production. Thus, financial losses are confined to cases that involve loans or loan guarantees, such as Great Plains.)

Planning for the long run

That the idea of synfuels has been tarnished—guilt by association, so to speak—is not to be taken lightly. Yet, in the long run, the vast amounts of coal resources, the closeness of technology to viable operation, and the prospective depletion of petroleum resources suggest that coal conversion should be seen as a plentiful source of gaseous and liquid fuel. To be sure, these products will be available at costs higher than those of oil or gas for some time to come, but they are likely to become competitive as the cost of petroleum fuels once again rises and that of converted coal declines along with increased learning experience.

The potential social benefits of a healthy coal-conversion industry are great, not only in this country (where oil shale enlarges the potential synfuels resource base still further) but also around the globe, justifying an aggressive and substantial public role. Having misconceived the nature of the problem—and, therefore, the remedy—to begin with, aggravated it by poor management, and seen the effort tripped up by a reversal of oil price trends, the government now seems tempted to rule out any supportive role in synfuels development. All the monies appropriated for the synfuels corporation have been cancelled. As part of SFC's dissolution, $400 million have been assigned to DOE for a three-year program on clean coal-burning technologies—which by some stretch of the imagination could include coal conversion—and additional funds for the same purpose eventually may come as a fallout from whatever acid rain program finally is established. But except for a modest research and development program in DOE (approximately $50 million in fiscal 1986) the government otherwise is out of the synfuels business. (Legally binding obligations will be met with the secretary of the Treasury as caretaker.)

The history of the SFC made it hard to love, but its abolition could prove unwise. However rocky, the years since 1980 have had their benefits. Viewed as a learning experience, that history could make possible a fresh start, with realistic objectives established in the light of a forthright analysis of past mistakes. Dancing on the grave of the Synthetic Fuels Corporation may give satisfaction to some, but it will not advance the nation's energy security nor its economic welfare. Nor those of the rest of the world, for that matter.