Fill 'Er Up -- But With What?

An alternative to gasoline is inevitable, but it won't come anytime soon. Here's why

Slide Show >>

Pricey gas has set off a stampede to find the cure for America's energy woes. Senator Dianne Feinstein (D-Calif.) says that "hybrid cars can provide an innovative solution to help reduce our thirst for gasoline." President George W. Bush believes that "the more ethanol we use, the less crude oil we consume." And Senator Orrin Hatch (R-Utah) has hailed so-called plug-in hybrids as "a silver bullet for our nation's transportation needs."

As the pols crank up their rhetoric ahead of the fall elections, auto makers have hitched themselves to various technology solutions. But let's be clear. None of the green, fuel-sipping car technologies that Detroit marketers, Tokyo engineers, or Washington wags are pushing will quickly lower drivers' costs if you factor in the up-front premium on the advanced technologies. Nor will they make a real dent in the nation's oil imports in the next year or two -- let alone by November.

Starting with China's unquenchable thirst, the demand for oil around the world is so strong that it will swamp any amount of petrol Americans may virtuously conserve. What's more, since the U.S. fleet of over 230 million vehicles turns over only about every 15 years, even major new technologies take a while to make a difference. Given how few compromises Americans are willing to make, "there is no silver bullet," says David E. Cole, director of the Center for Automotive Research in Ann Arbor, Mich. "The gasoline engine will be around for a long time."

Without doubt, developing alternatives is a vital goal for America. Car companies need to push research and development, and government must get serious about creating incentives for new technology. Alternative fuel approaches will require an immense amount of work to deliver on their promise of easing dependence on foreign oil. But it also pays to remember that these approaches will face a crucial test: The new vehicles must save drivers money at the pump, satisfy their driving preferences, and still let car companies turn a profit.

So what does the future hold? If gasoline prices continue to rise, America's highways will gradually morph to look like Europe's roads. SUVs will still be around, but more vehicles will be smaller and more efficient, and only the wealthy and those hauling big families will end up driving large vehicles. Already, sales of the biggest vehicles are slowing, while demand for more efficient four-cylinder models is surging. Over time, more diesels, hybrids, and other alternative fuel vehicles will join the flow. Here's what they can and cannot deliver.


Sure, hybrids cars save fuel. But for now their high up-front costs eat up any savings in fuel, and then some. That will probably be the case for another five years, until the hybrid premium falls. The reason: The onboard computers, electric components, and nickel metal hydride batteries just cost too much. Lindsay Brooke, senior editor for the Society of Automotive Engineers, says batteries alone account for about 60% of the roughly $3,000 in added costs for a hybrid.

Toyota Motor Corp.'s (TM ) new hybrid Camry, which hit the market in April, is a good case study. The $26,500, 39 mpg sedan costs about $5,000 more than a nonhybrid 4-cylinder Camry. And it saves about $500 annually in fuel, assuming the driver goes 15,000 miles a year with $3 gasoline. That means buyers need around 10 years to get their money back, assuming no other costly failures. For the math to work, gas prices need to head toward $5 a gallon, or, says Brooke, the hybrid premium must fall to $1,500 or less.

Granted many shoppers pick a hybrid for emotional reasons: They want to drive a green vehicle. But SUV drivers far outnumber them and have their own emotional needs. So while hybrids will gain popularity, they won't take over the roads. J.D. Power & Associates Inc. (MHP ) (owned, like BusinessWeek, by The McGraw-Hill Companies (MHP )) predicts that hybrids will grow from 1.2% of vehicle sales today to 4.75% by 2013.

Next-generation hybrids offer much more dramatic efficiency gains but at even higher prices. Plug-in hybrids, for example, rely on more potent battery packs that can be charged at night from an outlet, and thus can travel farther on electric power. This can effectively boost mileage to 100 mpg. But even if more efficient lithium-ion batteries take over, as is expected, beefier batteries will add cost and possibly more weight, points out Dave Hermance, Toyota's chief engineer for environmental issues.


Growing crop-based fuel makes sense on paper. General Motors Corp. (GM ) Chairman and CEO G. Richard Wagoner Jr. promotes ethanol as one of the best ways to cut oil imports and clean up emissions. "There is nothing that can be done over the next five years to address [energy] issues that's better than ethanol," he says.

But while ethanol brings a near-term payoff, Wagoner admits that "it's not free." To GM, the cost to make the engine ethanol-friendly is just a couple hundred dollars per vehicle. For consumers, however, the economics don't yet add up. Fuel made from 85% ethanol and 15% gas, or E85, now costs more than gasoline in many markets. Throw in the fact that it is 25% less efficient than gasoline, and the consumer's bill at the pump is much more. A Chevrolet Tahoe SUV running on E85 costs about $3,500 a year to fuel at $3 a gallon, an $800 premium over the cost to run an all-gas model.

Wagoner's solution could help America wean itself from foreign oil. But not the way ethanol producers are making the stuff today. From the diesel tractors tilling the fields and harvesting corn to the trucks shipping kernels to the boilers in the processing plants, making ethanol requires 1 energy unit of fossil fuel for every 1.3 energy units of ethanol produced.


Far more promising is an energy crop that's still a decade away or more. Cellulosic ethanol refers to alcohol that's cooked up from the whole corn plant -- the stalk, leaves, cob and all -- rather than just the kernels. It offers a massive boost in ethanol's potential. By tapping other crops and forest waste, along with corn, the Energy Dept. estimates that the U.S. could produce 1.3 billion tons of biomass per year, which could yield enough ethanol to replace around one-third of America's liquid fuel needs by 2030, up from barely 2% today.

But before the cellulosic industry starts crowing about reducing oil imports, there's a decade or so of R&D to be done. The challenges, explains Greg Stephanopolous, a professor of chemical engineering at Massachusetts Institute of Technology, lie in finding better ways to break down the cellulose into sugars, then breeding new microorganisms that can thrive on the unusual mix of sugars and complex chemicals in woody plant matter and spit out useful ethanol at the end.

Over the past decade both Archer Daniels Midland Co. (ADM ) and DuPont (DD ) have engineered ways to make new kinds of biodegradable polymers. Given that precedent, Stephanopolous estimates it will take 10 years and $500 million to come up with industrial processes to make cellulosic ethanol. "That's the downside," he says. "The upside is the potential to replace tens of billions of dollars in oil imports. It's a no-brainer."


Across the atlantic, German engineers say diesel is the way to go. While it is still no cure-all for drivers here, the fuel gives the best bang for the buck when it comes to fuel savings. Diesel engines sold in Europe by BMW, DaimlerChrysler (DCX ), and Volkswagen can boost fuel economy by up to 50%. Hook an air-blowing turbocharger to such an engine, and you can hike up fuel economy and provide the kind of tire-squealing torque that Americans crave. BMW is now mulling a diesel version of its popular 330 sedan for the U.S. market. The car gets 34 mpg with 231 horsepower and enough torque to make it an out-and-out hot rod off the line.

The catch is, the emissions are dirty, and filtering them to tolerable levels costs money. Diesel cars emit carcinogenic soot and a lot of nitrogen oxides, or NOx, a component of smog. The exhaust is cleaner than what emanated from the coughing, sputtering diesels of the '80s. But it's still too dirty to meet clean air rules in California, New York, and New England. That means almost one-third of Americans can't buy such a car.

There are new technologies that can remedy diesel pollution and meet clean air regulations in all 50 states, including the tougher emissions rules that go into effect next year. And according to Mercedes, they won't cost that much. Bernie Glaser, a general manager at Mercedes-Benz U.S.A. (DCX ), says the company's new BlueTec diesel technology should meet the regulations and could be on the market within two years. Today, Mercedes' E320 diesel is $1,000 more than a comparable gas-powered E350 sedan but with a 20% mileage boost. Glaser says the new clean diesels won't have much more of a premium, but the company is waiting for approval of its exhaust-cleaning technology.

The bottom line: If gasoline were to soar to more than $4 a gallon, carmakers could really push R&D to deliver better fuel economy. But not many people expect such high prices. GM analysts say near-term gasoline prices have peaked. And every time the cacophony of talk about alternative energy hits a crescendo, oil producers boost output and gas prices drop again, David Cole points out. While high energy taxes in other countries have kept the focus there on conservation, ebbing gas prices have disrupted U.S. efforts to conserve in the past. "We saw this after the gas price spike in the early '80s," Cole notes. And if prices slip back to $2 or less, "everyone will stop worrying about saving fuel."

Even if there is no relief at the pump this summer, there should be some solace in the fact that high gas prices will keep the world's top energy technologists thinking about alternatives. John B. Heywood, director of the Sloan Automotive Laboratory at MIT, says the best path is to push ahead with a variety of technologies, maintaining an honest sense of what is possible, and when. "It's not about being pessimistic," he says. "You can't speed up this change a hell of a lot."

By David Welch & Adam Aston

Before it's here, it's on the Bloomberg Terminal. LEARN MORE