Jf .«.*
EPA - 230/3-76-004
AN ANALYSIS OF THE ECONOMIC IMPACT OF
EPA'S REGULATIONS ON THE PETROLEUM REFINING INDUSTRY
EXECUTIVE SUMMARY
APRIL 1976
U.S. ENVIRONMENTAL PROTECTION AGENCY
Office of Planning and Evaluation
Washington, B.C. 20460
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PREFACE
This report is the result of a major program of studies sponsored by
the Environmental Protection Agency as part of its continuing effort to
assess the economic impacts of its regulatory programs. Unlike many of
EPA's other industry economic studies where the focus is on the impact of
a particular regulation, this study was aimed at examining the combined
effect during the period 1974-83 of all of EPA's direct regulatory programs
on the Petroleum Refining Industry.
In addition to providing an assessment of the combined impact of EPA's
regulatory programs, a major objective of this study was to advance the
methodologies used in previous studies of petroleum refining so as to provide
more accurate conclusions as well as provide a better foundation for future
studies. It is believed that such an advance has been achieved.
In sponsoring this study, the EPA wanted to make an independent assess-
ment'of the Petroleum Refining Industry. Although the overall conclusions
are endorsed by the Agency, the.re may be instances in which technical judg-
ments of the contractor differ from those of the EPA. Similarly, assumptions
used in the study that are of a policy nature should not be construed as
an indication of EPA policy intentions.
This report was prepared for EPA by Sobotka and Company, Inc. of
Stamford, Connecticut under contract number 68-01-2830. Additional
copies are availabe through the National Technical Information Service,
Springfield, Virginia 22151. Further information concerning this and
other economic studies conducted by EPA can be obtained through the Office
of Planning and Evaluation, U.S. Environmental Protection Agency.
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ABSTRACT
Consumption of petroleum products in the U.S. is
forecast to be larger in 1983 than it now is. Growth will
be supplied by expanding the U.S. petroleum refining industry.
During the nine-year period 1974 to 1983 the industry will
experience the following impacts from EPA's regulations,
relative to the status that existed in 1973:
Expansions will require capital investments of
1.1 billion dollars to meet EPA's regulations. Annual costs,
including capital charges, will be about 0.5 billion dollars
per year all of which will be recovered via price increases
averaging about one cent per gallon of product manufactured.
Refinery capacity that existed in 1973 will be
required to invest 4.8 billion dollars to meet EPA's regulations.
Annual cost to these plants will increase by about 1.4 billion
dollars per year. But the price change associated with EPA's
regulations for refinery expansion will, by 1983, increase the
sales revenue of existing-in-1973 capacity by 2.0 billion
dollars. This net improvement in cash flow reflects the large
investment to meet EPA's regulations already made in existing
refineries, most of which is not now being recovered.
No existing refineries are expected to be forced
out of business solely by EPA's regulations.
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EXECUTIVE SUMMARY
Ij. Introduction
The economic well-being of the petroleum refining
industry is influenced by United States and foreign government
policies unrelated to environmental considerations. These
policies have been in a state of flux for some years.
Until fairly recently, the output of the refining
industry had grown at a steady rate. This would not have
happened in the absence of economic incentives necessary to
attract capital to the industry. As long as normal market
incentives prevailed, the viability of firms within the industry
was governed by their relative economic efficiency. With the
imposition of price controls, and mandatory product and crude
oil allocations, normal economic incentives ceased function-
ing. Also the Congress is now considering legislation which
would significantly restrict petroleum companies' allowed areas
of operations. For example, proposals which would prohibit
crude oil producers from marketing oil products have been made.
It is not within the scope of this project to discuss
the desirability of the non-market rules now in effect. However,
it is necessary to point out that their economic impact is very
large. For example, a refiner who, under the current crude oil
entitlement program, is granted a substantially larger quota
of lower priced "old" crude oil than he would be able to
purchase on the open market is given a great deal of assistance
by government. On the other hand, a refiner who, because of
price controls, cannot charge market clearing prices - even if
the effect of price controls is to hold average prices only a
few percentage points below equilibrium levels - may have his
income reduced substantially below the levels that would prevail
in a free market.
Ooootka & Company, Inc.
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If the industry as a whole is growing, and capital
is being invested in new or growth facilities, then it is
reasonable to expect that aggregate product prices (and hence,
refiner's margins) will be sufficiently high to attract capital
to the industry. In this case there will be returns earned at
least on that portion of environmental capital associated with
growth. Because the prices of industry products from new or
existing facilities are indistinguishable, the prices will then
also be high enough to defray the costs of environmental capital
expenditures on existing facilities to the extent that they do
not exceed the per unit costs in new facilities.
However, if the industry is not growing and no capital
is required for the expansion of existing facilities or the con-
struction of new plants, recovery of the costs of environmental
capital presumably will not take place. Under these conditions
the bulk of the environmental expenditures to bring existing
facilities into conformance with environmental standards would
have to be absorbed by the refining industry, which would tend
to magnify the economic difficulties of those refiners who al-
ready are at a cost disadvantage due to size, location or type
of equipment.
This study is limited to assessing the economic
impact of pollution abatement costs which result from regulation
of petroleum refinery operations; the costs resulting in other
activities within the petroleum industry, such as exploration
and production, transportation, and marketing, are not within
the scope of this study. The impact of limitations on emissions
into the atmosphere and into water by refineries, and refinery
product quality regulations resulting from EPA regulations are
the primary concern. State or local regulations or Federal law
(or rules) not based on environmental considerations are excluded
from the impact analysis and are considered part of base costs.
DoLotka & Company, Inc.
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The level of emission control used in the study is
that envisaged under current and currently-proposed regulations.
The base period for the analysis is 1973 operations. Only
added impacts in the period 1974-1983 are covered in this study.
II. Industry Operations
The petroleum refining industry in the United States
and its possessions consists of some 277 plants, owned by about
139 firms, and located in 40 of the 50 states, Guam, Puerto Rico,
and the Virgin Islands. The refineries have a replacement value
in excess of 35 billion dollars. The refinery industry employs
:bout 150,000 persons.
The bulk of refining is done by firms which also
market refined products or produce crude oil, or do both. In
most firms the refining portion of the business is not its major
activity. Refinery investment is less than 15 percent of total
investment in the domestic oil industry. The industry manufactures
hundreds of distinguishably different products which,from the
viewpoint of environmental control, may be grouped into four broad
product classes: gasoline, middle distillates (often referred to
as intermediates), residual, and other.
Foreign, Federal, state and local governments all
influence the oil product market. In the recent past, the
Federal government's major influence has been through taxes, price
controls and tariffs (fees) on imports of crude oil and products.
Price controls hold prices down and discourage investment. Foreign
crude prices had, until 1973, been lower than domestic, so import
rights normally had had considerable value. These rights were
allocated among refining firms according to their wize. Although
large firms had larger quotas than small ones, the latter were
given a larger allocation per unit of throughput. Currently,
Oobotka & Company. Inc.
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imports are not quantitatively limited and may be somewhat en-
couraged by the combination of domestic price controls and the
way in which the entitlements to purchase domestic crude oil
are allocated.
Government influences the market for petroleum products
through imposition of environmental standards. This can take the
form of direct specification of product characteristics; e.g.,
sulfur content in residual oil. Or it may take the form of im-
posing environmental standards on petroleum product users which
affect the nature of the product. For example, control of auto
emissions has resulted in a requirement for unleaded gasoline.
1. The Manufacturing Process
In refinery operations certain polluting materials may
be released into the environment. The pollutants are by-products
of the various refinery processes.
The principal ones arise in operations as follows:
a. Hydrogen sulfide (F^S) is present in many
crude oils and is formed in hydroprocessing (catalytic
reforming, hydrotreating, and hydrocracking) and crack-
ing. H~S is either recovered (and converted to elemental
sulfur) or burned. Burning forms sulfur oxides,
(primarily SO^) which are air pollutants.
Sulfur oxides are also formed in the combustion
of sulfur-containing liquid refinery fuels. If these
fuels also contain nitrogen compounds, the formation of
NO is enhanced. This NO , as well as the small amount
X X
of SOo formed from sulfur compounds in the fuel, tend
to be the principal cause of stack plumes from refinery
furnaces.
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b. Hydrocarbon vapors can escape from refinery
tanks containing crude oil, gasoline, and volatile
intermediate products. Other sources of hydrocarbon
vapor emissions are tank truck and tank car loading,
volatiles unloading facilities, and oil separators
in the waste water effluent treating system.
c. Carbon monoxide emission in refineries is
essentially confined to flue gases from catalytic cracker
regenerators and fluid coker coke heaters.
d. Particulate emission in refineries is signifi-
cant only from catalytic crackers and fluid cokers
(unless coal or coke are used for fuel).
e. Substances which create a biological oxygen
demand (BOD) in waste water are formed in catalytic
and thermal cracking and in sulfuric acid treatment
of petroleum products. Also most of the solvents
(phenol, furfural, etc.) used in manufacturing
solvent-refined lubricating oils create BOD.
f. Entrained hydrocarbons and dissolved con-
taminants such as ammonia, light mercaptans and
salt (from crude and cooling water treatment) are
found in refinery waste water streams. These con-
taminants may also cause the pH of the water to be
outside permissible limits.
Crude oil is by far the most important raw material
used by the refining industry. Natural gasoline, a liquid product
of the natural gas industry, furnishes about 5 percent of refinery
intakes. Butanes contribute about 1.5 percent of refinery intake.
There are no other significant raw materials. About 73 percent of
industry raw material is of domestic origin; 27 percent is imported,
Oil refineries are categorized by size and by the range
of their products. There is also considerable variation in age of
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refineries. But additions to and modifications of plants are
the industry's principal form of expansion.
The Exhibit on the following page shows the growth of
refining capacity and the changes in the number of refineries in
the period 1968-1974.
Multiple plant operations are commonplace in the indus-
try. As of December 1, 1974, the 19 largest firms, each of which
has a capacity of over 200,000 barrels per day, operated 111 re-
fineries. These 111 plants accounted for 79 percent of the in-
dustry's capacity, even though 16 of them had capacities of less
than 26,000 barrels per day. Half of all industry refineries
(138 plants) are smaller than 26,000 barrels per day. They
account for only 8 percent of industry capacity.
Smaller refineries are frequently located within iso-
lated crude producing areas and/or they serve local, moderately-
sized marketing areas far from alternate product supply sources.
A common technology is used throughout the industry.
The differences that do exist are small and probably not signifi-
cant in terms of a plant's ability to meet environmental standards
economically. There are important differences in the extent to
which environmental control equipment has been installed to date.
Refinery employment as a whole has been fairly stable.
In 1964, there were 150,000 employees and in 1973, 147,000. The
imposition of environmental regulations tends to increase this
industry's demand for labor.
It is impossible to analyze the financial structure of
the petroleum refining industry using published data. Too few
firms, and none that are typical of the industry, are exclusively
or even primarily in the refining business. No data on refinery
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profitability are available. But it is reasonable to assume
that in the absence of price controls or product allocations,
refining operations are, on the margin, neither more nor less
profitable than the rest of a typical oil company's business.
While profitability of the business as a whole has
been subject to some variability, industry earnings have been
adequate to attract capital to finance growth and replacement.
Due to the uncertainties about future demands, it is
impractical to make a detailed estimate of the refining industry's
capital requirements for expansion and plant modernization in the
years to come. A recapitulation of current industry plans is
shown in Part Two and modified in Part Three of this study. In
1973/74, the thirty largest petroleum companies invested about
1.4 billion dollars per year in refineries in the U.S.
Roughly 17 percent of domestic capital expenditures in
1973 by the thirty largest oil companies was for refineries.
Total domestic investment in that year for the same group of
companies was about 52 percent of worldwide investment.
Were it not for price controls, the domestic market for
wholesale oil products would be competitive in the economist's
meaning of the term. Prices on the various unbranded markets in
the absence of effective price controls typically are close to
short-run marginal costs. This indicates that the industry is
highly competitive. But price controls have been in effect on
domestic products most of the time since 1971.
Prior to the oil embargo, the industry was in transi-
tion from a quota system to a tariff system via a price control
system. As a result of domestic price control, a significant
disparity between world and average domestic prices now exists.
And the combination of a three-price crude oil market (new and
old domestic, and foreign), with a system of entitlements to
purchase "old", lower-priced, crude oil, makes it impossible to
generalize about current market conditions. The price control
system is slated to terminate in less than four years. Con-
sequently, projections in this study are made on the assumption
Oobotka & Company, Inc
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that normal competitive market forces will prevail by the end
of the period under study (about 1983).
III. Economic Impact of EPA's Regulations
A. Price Effects
1. Methodology
The price analysis rests on two premises: First, the
demand for petroleum products in the U.S. will increase during the
1974/1983 period so that new refinery capacity will be required.
Second, total growth in U.S. petroleum product consumption will,
in keeping with current U.S. policies, be furnished by U.S.
refineries.
New refinery capacity will be constructed only if it is
economically attractive. That is, the value added by refining must
be adequate to pay operating costs and the cost of the capital re-
quired for the new capacity. Therefore, the capital required to
conform with EPA1s regulations in new refineries must earn an ade-
quate return on investment. Existing plants whose EPA costs per
unit of output are less than those of new refineries will receive
rents. And those with higher EPA costs will absorb those that are
in excess of new refineries' costs, or cease operations.
The following price analysis is used: Two "model" ver-
sions of refinery expansions will be evaluated. The "base" version
is designed to manufacture products demanded in the absence of EPA's
post-1973 regulations. Its waterborne and airborne emissions will
reflect no post-1973 implementation of regulations. The second
("EPA") version is designed to conform to emission and product
quality regulations to be implemented during 1974/1983. The cost
differences between these two designs, including return on invest-
ment, are the price effects of EPA's regulations. The model chosen
for this analysis is designed for a capacity of 123,000 barrels per
stream day (about 100,000 barrels processed per calendar day) of 35
degree API light Arabian crude oil. Its product slate exactly meets
that part of 1983 U.S. refinery outturn requirements that cannot be
met by existing-in-1973 refinery capacity. The yields are:
Oobotka & Company, Inc.
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Percent Yield from
Product Crude Oil
Gasoline
Kerosene Jet Fuel
Distillate Fuel Oil
Residual Fuel Oil
Petrochemical Feedstocks
Asphalt
Other Products
Internally Consumed
100.0
This yield structure is quite different from that
normally associated with U.S. refineries. Gasoline yield is much
lower while jet fuel, distillate fuel oil and chemical feedstocks
are much higher. These differences reflect the effects of the OPEC
crude oil price increase and the natural gas shortage on U.S. con-
sumption patterns. The yield structure will be achieved with crude
oil distillation, vacuum distillation of atmospheric bottoms, hydro-
cracking (to intermediates) of vacuum gas oil and catalytic reform-
ing of straight-run naphtha.
Product qualities differ between the two versions of the
model in the following respects: 1) Motor gasoline in the base ver-
sion is leaded 96 research octane number. In the EPA version it is
unleaded 92 research octane number; 2) Residual fuel oil in the
base version is 1.2 percent sulfur by weight. In the EPA version
it is 0.5 percent sulfur; 3) Refinery fuel averages 1.6 percent
sulfur in the base version, but 0.7 percent (New Source Performance
Standard) in the EPA version.
2. Costs Incurred in Conforming the Base Version of
the Model to EPA's Regulations
a. Water effluent control costs are about 22 cents
per barrel of crude oil processed.
Oonotka & (jompany, Inc.
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b. Airborne effluent control costs. In refineries
of the size of the model, it is economically attractive to control
all hydrocarbon emissions to the atmosphere from storage tanks,
waste water treating facilities, and product loading facilities.
Consequently, there are no EPA costs for controlling these emis-
sions in the model expansion. Catalytic cracking units emit
carbon monoxide and particulate matter, both of which must be
controlled. Since there is no catalytic cracking unit in the
model, these costs are zero. The base version of the model con-
tains units for desulfurizing naphtha, distillate, vacuum gas oil
and atmospheric bottoms. Hydrogen sulfide produced in these units
will be collected and converted to sulfur in order not to exceed
1973 SO emission limitations. However, Glaus plant tailgas clean-
J^.
up will be required only under EPA's regulations. The cost for
cleanup of Glaus plant tailgas produced in the base version is 2
cents per barrel of crude oil processed. The EPA version of the
model refinery will consume about seven thousand barrels per day
of liquid fuel. The cost of desulfurizing this fuel, including
the cost of recovering and converting by-product H~S, is 7 cents
per barrel of crude oil processed.
c. Product quality requirement costs. Sulfur con-
tent of residual fuel oil must be controlled to a level that will
allow its consumers to meet EPA's regulations for SO emissions.
X
The allocated cost, including the cost of recovering and converting
by-product t^S, is 8 cents per barrel of crude oil processed.
EPA's regulations on pollutant emissions from
gasoline-powered cars and trucks are being met mostly by the in-
stallation of catalytic converters on the vehicles. Unleaded gaso-
line must be used by such vehicles. Other current studies indicate
that the savings in lead anti-knock purchase costs will essentially
offset the increased capital and associated increased processing
costs required for generating higher clear pool octanes. Thus, a
net zero refining cost was determined for supplying 92 octane un-
leaded gasoline in the EPA version of the model in lieu of 96 octane
Ooootka & Oompany, Inc
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12
leaded product. The efficiency loss in vehicles due to lower
octane is considered elsewhere in this study.
d. Total EPA costs incurred by the model are
summarized below:
Cents per Barrel Crude
EPA Cost Element Oil Processed
Water effluent control 22
Airborne effluent control
a. Glaus plant tailgas cleanup of
base version operations 2
b. Refinery fuel desulfurization
(1.6 to 0.7 percent sulfur) 7
Product quality requirements
a. Residual fuel oil desulfurization
(1.2 to 0.5 percent sulfur) 8
b. Unleaded motor gasoline _-_
TOTAL 39
3. Impact on Prices
The EPA costs summarized in the preceding section will
affect petroleum product prices for the period 1974-1983. The
costs of water emission control, airborne emission control and
desulfurization of refinery fuel are properly allocated to all
products. The cost of residual fuel oil desulfurization is neces-
sarily allocated to all products except asphalt. ' The cost of
manufacturing unleaded gasoline should be allocated to that product
only. This leads to the following allocations (on the basis of
heating value):
Product Allocated Costs-Cents per Gallon
Motor Gasoline 1.0
Jet Fuel 1.0
Distillate Fuel Oil 1.1
Residual Fuel Oil 1.1
Asphalt 1.0
All Other Products 1.1
I"5 The reasoning underlying this conclusion is developed in
Section C. of Chapter II.
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13
These costs will all be passed forward to consumers as price in-
creases. Since weighted average consumer price for petroleum
products in 1983 will be on the order of 45 cents per gallon
(1974 prices), the average price increase faced by consumers
as a result of EPA's regulations will be about two percent.
4. Disposition of EPA Costs
a. Crude oil absorption. One might argue that a
portion of the costs of EPA's regulations will be absorbed by
crude oil producers in order that their markets grow as rapidly
as they would in the absence of EPA costs. Two markets must be
considered. First, foreign producers will be the source of the
crude oil displaced by EPA's regulations. It is impractical for
foreign suppliers of crude oil to discriminate between U.S. and
other customers. So it would be unattractive for foreign pro-
ducers to cut world prices to attempt to recoup the small volume
lost in the U.S. as a result of EPA costs. Hence, no pass-back
of the cost of EPA's regulations to foreign suppliers of crude
oil should be expected. Second, supplies of domestic crude oil
will fall well short of the intake of U.S. refineries so its
price will be determined by the price of imported crude oil (or
by price controls). Consequently, no significant EPA cost pass-
back to domestic crude oil producers is likely.
b. Foreign refining competition. Consistent with
U.S. energy policy, this entire analysis rests on the assumption
of tariff (or quota) protection adequate to insure that the total
growth of petroleum product consumption in the U.S. will be fur-
nished by new U.S. refineries. Consequently, foreign refining com-
petition has been "defined away." The extent of protection required
to validate this assumption is discussed later in the report.
c. Inter-fuel competition. With the exception of
transportation fuels, petroleum products compete with other energy
sources in all applications. Over the period of this study it is
oobotka & IJomnanv. T
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14
clear that neither natural gas, nuclear energy, solar energy,
hydroelectricity, nor geothermal power will be marginally avail-
able to compete with oil. Consequently, only coal (including
electricity generated from coal), need be considered. Should
coal competition materialize, the oil product price structure
will adjust as it has in the past. That is, the price of
residual fuel oil will fall below the price of crude oil, and
other products will increase commensurately. (Necessarily, the
weighted average price for products must be attractive if new
refineries are to be built.) As a practical matter, enough
residual fuel oil is imported into the U.S. that imports would
be expected to bear the brunt of coal competition. The resource
cost of domestic coal, including environmental costs, is equiva-
lent to about half of the cartel price for residual fuel oil.
The cartel could not compete without disrupting itself. So oil
prices would be largely unchanged by coal competition, but
volume would drop as coal became available.
B. Impact of EPA's Regulations on Sales and Output of
Petroleum Refineries
1. Consumer prices in the absence of EPA's regulations
are estimated to be as follows:
Q.I .1 ° r.
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15
Refinery Gate Price
Percent Of In Base Version Of Consumer Price
Model Expansion Model Expansion (Cents Per
Product Outturn (Cents Per Gallon) Gallon)
Motor Gasoline
Jet Fuel
Distillate Fuel
Oil
Residual Fuel
Oil
Asphalt
Other Products
(all low sulfur)
20.3
16.2
25.1
12.0
5.9
20.5
100.0
38
36
36
36
32
36
63
39
44
38
35
39
2. Estimates of product volumes in 1985 in the absence
of EPA's regulations are as follows:
Forecast Domestic
1985 Consumption
Product (Million Barrels Per Day)
Motor Gasoline 7.27
Jet Fuel (Kerosene Range) 1.52
Distillate Fuel Oil
(including Kerosene) 3.79
Residual Fuel Oil 3.09
Asphalt 0.73
Other Products
(all low sulfur) 1.77
Sobotka & \>f r-~
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16
3. Volume effects of EPA's regulations are estimated
to be as follows:
Effect of EPA's Regulations
On Petroleum Product Consumption
In the United States In 1985
Product Percent Million Barrels Per Day
Gasoline + .7 +,051
Jet Fuel - .3 -.004
Distillate Fuel Oil -1.5 -.057
Residual Fuel Oil -2.5 -.077
Asphalt - .3 -.002
Other Products -1.9 -.034
Total -.123
4. Sulfur Recovery and Lead Usage Changes
Refineries will recover about 1.1 million tons of sul-
fur as a result of EPA's regulations. This quantity represents
a small part of the United States' sulfur production which in
1971 was about 120 million tons. This, in turn, was about 43
percent of world output.
In 1973 the petroleum refining industry purchased about
959 million pounds of lead anti-knock compound valued at about
519 million dollars or 54 cents per pound. This amount of anti-
knock compound contained roughly 180 thousand short tons of lead.
By 1983 the purchases of lead for anti-knock compound manufacture
will be reduced to about 63 thousand tons (if the lead reduction
schedule is in effect) or to about 117 thousand tons (if no such
schedule is in effect but new automobiles require unleaded gaso-
line). Annual lead production in the U.S. is roughly 600 thousand
short tons and this represents only about 15 percent of world pro-
duction. Thus, the reduction in the use of lead by the refining
industry implies a reduction in demand of up to about a fifth of
current U.S. production, or about three percent of world pro-
duction.
CV I Ir
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C. Aggregate Industry Impacts
1. Capital Requirements
The gross requirements for capital to meet EPA's regu-
lations over the period 1974 to 1983 is about 6.3 billion dollars
(0.7 billion dollars per year on average). Offsetting this is a
capital requirements reduction of about 0.4 billion dollars to
account for new refinery capacity that would not need to be
built because product demands with EPA's regulations are lower
than without them. This 0.4 billion dollar reduction should
not be viewed as a decrease in the impact of EPA's regulations,
or as resulting in an improvement in social welfare due to a
lessening in the demands for capital. The net 5.9 billion
dollar capital cost of conforming to EPA's regulations repre-
sents roughly 1/6 of the replacement value of the domestic
petroleum refining industry. Capital expenditures for U.S.
refineries in 1973/74 averaged 1.4 billion dollars per year.
Total 1974 capital expenditures for the domestic integrated
oil industry (including exploration, production, refineries,
transportation, distribution and marketing) were 16.6 billion
dollars.
2. Impact on Growth of Refining Capacity
The combined effects of EPA regulations is to decrease
new refinery capacity requirements by 33 thousand barrels per
stream day. The investment cost for new refinery capacity is
about 2,500 dollars per daily barrel of crude oil processing
capacity. Hence, the investment requirements for new capacity
will be reduced as a result of EPA's regulations by a net of
83 million dollars. This cost savings is the net of a 330
million dollar cost increase for energy manufacturing facil-
ities needed to run EPA installations less a 413 million
dollar cost decrease because fewer products will be demanded
due to EPA-caused higher prices.
i )r »-~~
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3. Capital Needs and Annual Costs
a. Water effluent control costs are:
Cost - Million J)oliars
Capital "Annual^
Existing-in-1973 Capacity
Period 1974 thru 1977 1,610 617
Period 1978 thru 1983 553 834
New-after-1973 Capacity
Period 1974 thru 1977 217 111
Period 1977 thru 1983 286 230
2,666 1,064
* Operating costs plus capital charges in last year of
period indicated.
b. Airborne emission control costs are:
For hydrocarbon emission control from tanks, loading racks and
API separators -
Cost - Million Dollars
Capital" Annual
Existing-in-1973 Capacity
Period 1974 thru 1977 43 6
Period 1978 thru 1983 11 7
New-after-1973 Capacity
Period 1974 thru 1977
Period 1978 thru 1983 -_ _-
54 7
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For control of emissions from catalytic cracking units -
Cost •• Million Dollars
nnual
Existing-in-1973 Capacity
Period 1974 thru 1977 127 39
Period 1978 thru 1983 32 49
New-after- 19 73 Capacity
Period 1974 thru 1977 6 2
Period 1978 thru 1983 _ - _2
165 51
For control of sulfur oxide emissions from petroleum refineries
Cost - Million Dollars
Capital Annual
Existing-in-1973 Capacity
Period 1974 thru 1977 303 100
Period 1978 thru 1983 117 144
New-after- 19 7 3 Capacity
Period 1974 thru 1977 190 85
Period 1978 thru 1983 57 110
667 254
& (jornpany, Inc.
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c. Product quality requirements. The total costs
for U.S. refineries to meet EPA's regulations for the sulfur con-
tent of residual fuel oil are:
Cost - Million Dollars
CapitalAnnual
Existing-in-1973 Capacity
Period 1974 thru 1977 79 36
Period 1978 thru 1983 79 73
New-after-1973 Capacity
Period 1974 thru 1977 175 86
Period 1978 thru 1983 52 111
385 184
For the manufacture of unleaded gasoline, and lead phasedown -
Cost - Million Dollars
Capital" Annual
Existing-in-1973 Capacity
Period 1974 thru 1977 1,091 107
Period 1978 thru 1983 759 303
New-after-1973 Capacity
Period 1974 thru 1977 120
Period 1978 thru 1983 36 __^_
2,006 303
Note: As stated elsewhere in this study, lead regulations
do not impact the annual cost and price of gasoline
in new capacity. But the above capital costs are
real (even in new capacity) because they would not
be incurred in the absence of a requirement for
unleaded gasoline.
oobotka & Oompanj, In
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d. The total costs of EPA's petroleum refining
industry regulations are:
Cost - Million Dollars
CapitalAnnual
Existing-in-1973 Capacity
Period 1974 thru 1977 3,253 905
Period 1978 thru 1983 1,551 1,410
New-after-1973 Capacity
Period 1974 thru 1977 708 284
Period 1978 thru 1983 431 453
6,273J-/ 1,863
4. Recovery and Absorption of EPA's Costs
To the extent that unit costs of conforming an exist-
ing refinery to EPA's regulations are less than the costs of
conforming new refineries, the price increases that will occur
will create economic rent for the plant. Conversely, if exist-
ing plant costs are greater than those for new capacity, the
existing plant capital value will decline by the extent of the
difference. New refinery capacity will be neither advantaged
nor disadvantaged by having to conform to EPA's regulations.
This is so because new refineries will only be built if the
product price structure fully reflects EPA costs.
The amount of EPA costs recovered by existing refin-
eries will equal the volume of products manufactured in these
plants in 1983 times the price increase caused by EPA's regula-
tions. With one exception, existing refineries will observe the
same product price increases as were derived for expansions. The
exception is residual fuel oil. The higher sulfur content
T)Includes 330 million dollars for facilities to provide
energy to operate EPA installations.
tjobotka & Uompany, Inc
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residual fuel oil manufactured in 1983 in existing-in-1973 re-
fineries will sell for fifty cents per barrel less than the low-
sulfur product manufactured in expansions.
Recovery of EPA costs is:
Recovery of EPA Costs by Existing-in-1973 Refineries
Product Outturn EPA Price Increase
Gasoline
Kerosene Jet Fuel
Distillate Fuel Oil
Residual Fuel Oil
Asphalt
All Other Marketed
Products
Total
The difference between this cost recovery and the annual
EPA cost in 1983 of existing-in-1973 refineries is a (1.993 - 1.410 =)
0.6 billion dollars per year gain. That is, cash flow before tax
for these plants will increase by 0.6 billion dollars per year, or
about 11 cents per barrel crude oil processed. The EPA impact on
existing-in-1973 refineries is a gain because the cost of conform-
ing to EP,A's regulations in these plants is, on average, less than
it is in new capacity.
Capital expenditures in the U.S. during the 1974/1983
period will average roughly 150 billion dollars per year. Compared
to this the net capital requirements for conforming the petroleum
refining industry to EPA's regulations (0.7 billion dollars per
year) is trivially small. The reader is, however, referred to a
study of the construction industry ' for a thorough discussion of
IT Stephen Sobotka & Company, The Economic Impact: on the Construc-
tion Industry of Additional~T)emand Caused by New Environmentar~
Protection Standards, EPA Contract No. 68-01-0554, December 29,
In 1983
(Million Barrels)
2,379
317
1,012
384
188
717
4,997
Dollars
Per Barrel
0.42
0.42
0.46
(0.04)
0.42
0.46
Million Dollars
Per Year
1,000
133
466
(15)
79
330
1,993
boootka & (jompany, Inc.
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the distributive effects of capital demands placed both on the
capital markets and on the construction industry by EPA's regula-
tions for all industry and Government.
Implementation of EPA's regulations will increase em-
ployment in the petroleum refining industry relative to the level
that would have obtained in the absence of EPA. Operators and
maintenance personnel will be required for effluent treating
facilities and new desulfurization and catalytic reforming units.
Offsetting this will be a reduced need for employees in new plants.
Employment of production and related workers in refineries in 1973
was about 89,000. Replacement value of the 1973 industry (in 1974
dollars) was roughly 39 billion dollars. Net capital requirements
over the 1974/1983 period to meet EPA's regulations are six billion
dollars. A first approximation, then, of the employment increase
associated with the implementation of EPA's regulations on the
petroleum refining industry is:
89 x im = 14 thousand employees
This is a highly uncertain forecast because no allowance
is made for technological improvements. Nevertheless, there is no
doubt that implementation of EPA's regulations in this industry
will lead to employment increases over the levels that would
otherwise prevail.
D. Differential Impacts Due to Refinery Size and Configuration
In Section A the impact of EPA's regulations on the
cost structure of a model refinery expansion was presented. It
was shown there that the annual cost increases resulting from
EPA's regulations will be about 39 cents per barrel of crude oil
in 1983. For capacity expansions of the type that will set in-
dustry prices in the period under study this cost increase will be
exactly recovered by product price increases.
OoDotlca & Company, In
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In the preceding section the impact of EPA's costs on
the aggregate value of the existing-in-1973 refining industry was
presented. It was concluded that, on average, the capital value
of the industry was slightly enhanced by EPA's regulations.
1. Study Coverage and Methodology
89 of the smallest refineries were examined in
greater detail to determine if any of these plants will be suf-
ficiently impaired to prejudice their viability. This segment
includes all but eleven of the plants with less than 20,000
barrels per day of capacity. Because it was concluded that there
would be no aggregate industry capital impairment, there was no
need to investigate the larger, more viable, segment of the re-
fining industry in detail.
EPA's regulations will impact existing small refineries
in two ways. The refineries will face expenditures to conform
with EPA's regulations. Offsetting this, however, will be the
product price increases presented in Section A above. The
analysis of small refineries, then, will consist of determining
the net of EPA costs and EPA-induced price increases for each
small plant. The net cost (benefit) for each plant will then
be compared against the cash income before tax that would be
earned by the plant in the absence of EPA's regulations. If
EPA net cost exceeds cash income before tax, the plant will
most probably have to shut down. Conversely, if EPA cost is
less than cash flows, the plant will clearly have an economic
incentive to continue operation.
2. Net EPA Costs for the Small Refineries
A series of prototype model refineries was defined so
that the effects of processing configuration and capacity on
EPA costs could be determined. The following processing con-
figuration classifications were considered:
Ooootka & Company, In
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"T"-type - topping plants processing low-sulfur
crude oils into low-sulfur residual and
distillate fuel oils, and naphtha jet
fuel.
"A"-type - topping plus vacuum distillation to
process high-sulfur crude oils into
asphalt, high-sulfur distillates,
and naphtha jet fuel.
MR"-type - topping plus catalytic reforming to
process low-sulfur crude oils into
gasoline and low-sulfur fuel oils.
"C"-type - topping plus catalytic reforming plus
cracking (catalytic, hydro or thermal)
to process low-sulfur crude oils into
gasoline and low-sulfur fuel oils.
Processing capacities of 2.0, 6.0 and 18.0 thousand barrels per
day were considered.
The 89 small refineries for which water effluent flow
rates were available were each assigned to one of the prototype
classes. There are 28 "T"-type topping plants; 20 "A"-type
asphalt plants; 19 "R"-type reforming plants and 22 "C"-type
plants containing cracking facilities (14 catalytic, 6 thermal
cracking and/or coking, 2 hydrocracking). Product yield structure
and crude type for each class were assumed to be identical to
those derived for the prototypes. This assumption determined the
air emission control and product quality requirements (unleaded
gasoline and low-sulfur residual fuel oil) for each refinery.
Size-dependent annual costs for conforming to these regulations
were assigned to each refinery on the basis of the prototype
studies. Water effluent control costs were assigned to each
refinery based on actual 1973 water effluent flow rate and the
(flow-dependent) costs of conforming the quality and quantity 01
this effluent to EPA's regulations.
Ooootka & Company, I;
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The higher costs (relative to high-sulfur crude
oils) of the low-sulfur crude oils needed by existing small
U.S. refineries to meet 1973 product sulfur requirements
are not costs assignable to EPA's regulations because
sulfur-dependent crude oil price differentials will
develop in the world market (from sulfur oxide limitations
imposed by European and Japanese environmental protection
authorities) independent of actions taken by the United
States EPA. And world crude price differentials will
determine the differentials paid by U.S. refineries.
Small refinery prototype processing configurations
"T", "R", and "C" were premised to utilize low-sulfur grades of
crude oil to meet 1973 product quality requirements. This is a
rational premise, because the historical price differentials
between high- and low-sulfur crude oils were generally too small
to justify the high unit cost of installing corrosion-resistant
metallurgy and product desulfurization facilities in small re-
fineries. Also most small refineries are so located that they
have good access to (formerly plentiful) U.S. low-sulfur crude
oil supplies. In order to meet 1983 regulations small U.S.
refineries will need to process still lower sulfur and, conse-
quently, more costly grades of crude oil than they used in 1973.
This cost differential of about 12 cents per barrel is clearly
attributable to EPA's regulations.
Small "A"-type asphalt refineries are premised to
process high-sulfur crude oil so they will not face relative
crude price increases. However, in addition to asphalt and
naphtha jet fuel, "A" plants manufacture a high-sulfur heavy
distillate with physical properties intermediate between distil-
late and residual fuel oils. This material will not conform to
EPA's sulfur content regulations. The cost estimate for desul-
furizing this distillate was based on transporting it to a large
OoDotka & (jompany, I
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refinery for processing. This costs about 21 cents per barrel
crude oil processed.
Net EPA cost is the cost of conforming to water, air
and product quality regulations less the increased revenue re-
ceived due to product price increases caused by EPA's regula-
tions. There is a very large variation in water effluent control
costs faced by these plants - from nil to 45 cents per barrel
crude oil. (The costs reflect complete conformance to BATEA
requirements.) About half of the simple "T"- and "A"-type
plants will be net cost-advantaged by EPA's regulations. But,
because of high lead-in-gasoline control costs, all "R"- and
"C"-type plants will be net disadvantaged.
3. Refinery Cash Flows in the Absence of EPA's
Regulations
The revenue and cost elements needed to derive cash
income before tax ("cash flow" hereafter) for a refinery include
product yields, product prices, cash operating cost, and crude
oil cost. Product yield structures have been premised for the
base version of the model expansion and for the four prototype
small refinery configurations. Prices for products will be
those required to justify industry expansion.
Cash flow estimates for the small refinery prototypes
are:
Estimated Cash Income Before Tax For Small Refinery Prototype
In 1983 In The Absence
(1974 dollars per
Base Expansion Cash Flow
barrel
llmtl
1.84
of EPA's
Regulations
crude oil processed)
"R"
1.84
lip!!
\j
1.84
"A"
1.84
Adjustments Relative to Base Expansion
Product Revenue
Operating Cost
Crude Oil Cost-
Sul fur
Metallurgy
Gravity
Small Refinery Cash Flow
0.22
0.15
(0.73)
(0.10)
(0.10)
1.28
0.43
0.05
(0.73)
(0.10)
(0.10)
1.39
0.66
(0.10)
(0.73)
(0.10)
(0.10)
1.47
(0.73)
0.05
-
-
0.20
1.36
OoDotka & Oompany
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4. Impact of EPA's Regulations on Small Refineries
No refineries will be forced to close because of EPA's
regulations. This statement, of course, is an over-simplification
for it ignores cases of physical infeasibility or extraordinary
costs. It is possible that some of these exist. Nevertheless
the protection afforded existing refineries by the inflation of
refinery construction costs from 1970 to 1975 is more than
sufficient to shield all but special-case refineries from
serious harm by EPA's regulations.
None of the small refineries' cash income before tax
is reduced by more than one-half by EPA's regulations. And
the cash flow of the most affected plant is still about 70
cents per barrel of crude oil processed. If this refinery
were to have an expected remaining life of 20 years, its
capital value would be nearly one thousand dollars per daily
barrel of stream day capacity. It is likely that the inevitable
closures of certain of the older plants that are approaching the
end of their normal economic life will be accelerated by EPA's
regulations. Similarly the closure of plants whose viability
is adversely affected by changes in crude oil supplies or
customer requirements may also be accelerated.
5. Employment Effects
The 100 small refineries in the continental U.S. of
20 thousand barrels per day capacity or less have an aggregate
capacity of approximately 800 thousand barrels per day and
employ about 7,000 persons. Since no plants are expected to
close solely because of the impact of EPA's regulations, the
employment effect of these regulations is to increase em-
ployment by a small amount.
OoDotlca & Uompany,
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E. Sensitivity Analyses
1. Effect of Higher (and Lower) Capital Costs for
EPA Investments
Total annual EPA-caused costs rise from 1.9 billion
to 2.3 billion dollars in the 25 percent higher-, and drop to
1.4 billion in the 25 percent lower capital cost cases. Higher
unit, capital costs for conforming new refinery capacity to EPA
regulations will cause higher per-barrel annual compliance costs,
and (identically) higher EPA-caused price increases. So less
new refinery capacity will be needed. For existing-in-1973 re-
fineries the cost to conform to EPA's regulations will increase,
but so will cost recovery.
There will be negligible change in the numbers of
small refineries advantaged/disadvantaged by EPA's regulations.
In other words, varying EPA capital estimates plus or minus 25
percent has no significant effect on the viability of the small
refineries studied.
2. Effect of a Lower Level of Tariff Protection
The major effect of a lower level of tariff protec-
tion would be that no new refinery capacity would be constructed
that is not now firmly planned. Therefore, the price increases
necessary to justify EPA costs in such plants would not be forth-
coming .
A tariff level 40 cents per barrel below the level
needed to encourage expansion of EPA-conforming refinery capacity
was assumed. This level of tariff would eliminate new refinery
construction and lead to substantially lower cash income before
tax for existing refineries.
At the lower level of tariff EPA's regulations would
have no effect on prices in the U.S. market. This is because
prices would be set by imported products not subject to EPA''i
regulations. So there would be no recovery of EPA costs. An
there would be no volume effects of EPA's regulations.
Oobotka $T ' '• ij^u-/
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At the base tariff level, EPA1s regulations lead to
an increase in cash flow to existing-in-1973 refineries of about
eleven cents per barrel. At the lower tariff level the entire
EPA cost of 28 cents per barrel would have to be absorbed. This
is a substantial impairment of cash income but it is not so large
as to force abandonment of any known plants, including small ones
3. Effect of a Lower Price Differential Between
High-Sulfur and Low-Sulfur Crude Oils
The cost of EPA's sulfur regulations are strongly in-
fluenced by the sulfur content price differential. The basic
analysis used an implied differential of 86 cents per barrel
per percent sulfur. A zero differential was chosen for the
sensitivity analysis. Intermediate values can be adequately
estimated by linear interpolation.
It was found that existing-in-1973 refineries are
relatively advantaged by EPA's sulfur regulations. This is
because percent yield of residual fuel oil and use of liquid
refinery fuel are lower in these plants than in refinery
capacity expansions. The competitive impact of EPA's regu-
lations on small refiners is essentially independent of the
sulfur price differential and hence of sulfur regulations.
4. Effect of Different Demand Elasticity Estimates
Per barrel costs of EPA's regulations are Independent
of elasticity. So EPA-caused price changes are also independent
of elasticity estimates. Consequently, capital costs, annual
costs, and cost recovery for existing-in-1973 refineries, and
impacts on small refineries, are unaffected by changes in
demand elasticity estimates.
Different elasticity estimates do have effects on the
total EPA costs of new refinery capacity. Relative to the base
analysis the effects of a more elastic demand response are to
decrease product consumption, investment requirement for growt1"
and investment required to meet EPA's regulations. The effect-
Oobotka & (jorft
an,
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of a less elastic demand response are similar, but in the op-
posite direction; i.e., increased product consumption and
investments.
5. Effect of Lower or Higher Crude Oil Prices
A three dollar per barrel reduction of crude oil price
(from 12.75 dollars per barrel delivered to U.S. refineries to
9.75 dollars) would decrease the costs of EPA's regulations in
the model expansion by about two cents per barrel crude oil
processed (due to the lower value of refinery fuel). This
results in trivially lower product prices. EPA costs to
existing-in-1973 refineries would be slightly increased because
some investments would become EPA-caused rather than profitable.
Competitive impacts on existing-in-1973 small refineries would
be about the same as at the base crude oil price.
Because price affects quantity demanded, a crude oil
price of 9.75 dollars per barrel would require about twice the
volume of new refinery capacity to be constructed during 1974/
1983 as was needed at a 12.75 dollar price. So EPA-caused
costs for new capacity would be twice those shown in the base
case.
The effect of a one dollar per barrel crude oil price
increase (to 13.75 dollars) would be consistent with the price
decrease results, but in the opposite direction. That is, the
EPA impact on existing-in-1973 refineries would be almost the
same as at 12.75 dollars per barrel, but capital requirements
for expansion capacity would be less.
A crude oil price increase of five dollars per barrel
(to 17.75 dollars) would have a profound impact on the petroleum
refining industry. Product consumption in 1983 would be decreased
so that there would be some retirements of existing-in-1973 faci1i
ties. In that event prices would reflect the cash-out-of-pocket
costs of the least efficient refiner who was needed to balance
Ooootka & \Jonipuiy, Inn,
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the market - all higher cost plants would close. In such an
economic climate the only EPA cost recovery that could occur
would come from the cash operating cost increase experienced
by the least efficient refiner who was able to stay in
business. Essentially the entire capital costs of EPA's
investments would have to be absorbed by the industry.
A 15.75 dollars per barrel price (three-dollar in-
crease) could produce intermediate effects. The effect would
be to require additional refining capacity to manufacture
distillate fuel oil, jet fuel and petrochemical feedstocks,
coupled with a reduction in the output of gasoline and residual
fuel oil in existing refineries. At a crude oil price of 12.75
dollars per barrel, the EPA cost of manufacturing unleaded gaso-
line in new refineries is nil. Consequently, at that crude oil
price, existing-in-1973 refineries are forced to fully absorb
the cost of converting to unleaded gasoline. So a higher
crude oil price will not further disadvantage existing plants
on this account. The cost of controlling sulfur content of
residual fuel oil and refinery liquid fuel would be only
slightly increased by crude oil prices higher than 12.75
dollars per barrel crude oil. Net, the impact of EPA's
regulations on existing-in-1973 refineries would be about
the same at crude oil prices of 15.75 and 12.75 dollars
per barrel.
OoDotka & (jompany, Inc.
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