Government energy policies are haunted by the ghosts of unintended consequences. Despite the fracking and alternative-energy revolutions of the past decade, legislation put in place during the 1970s energy crisis continues to play havoc with energy and consumer markets, well after the country’s economy no longer suffers from supply threats.

A case in point is the growing fear among refiners and automakers of an “octane shortage” in the coming years, as demand for high-octane fuel surpasses refiners’ ability to supply it. Such demands could ultimately destroy the value consumers have enjoyed of greater mileage as they are forced to pay more than natural-market prices for fuel.

Federal fuel-efficiency requirements began in the mid-1970s, when oil prices quadrupled in price following the 1973 OPEC oil embargo. After plateauing for several decades, the “corporate average fuel economy” — or CAFE — standards started rising again in 2009 thanks to a direct push by the Obama administration. CAFE standards have risen from 25.3 miles per gallon in 2009 to 35.4 mpg in 2016.

The Obama administration’s goal was to move the U.S. fleet average to more than 40 mpg. But to get the fleet that last 5 mpg, automakers are having to design engines with higher compression ratios to meet the higher fuel economy standards.

These higher-compression engines need higher-octane gasoline, which smooths gasoline ignitions, boosts the energy density of the fuel and is costlier for refiners to make. That’s why there are three separate prices at gas pumps across the United States, with the more expensive gasoline having higher octane levels. Also, car manufactures now threaten to void engine warranties if lower-octane fuel is used in higher-compression engines.

As carmakers start making engines that can meet higher CAFE standards, the share of the total gasoline market consumed by premium gas has continued to rise, hitting a nearly 13-year high of 12% in August 2016. But this rising demand has not been easily met by the refining market. The price differential in average retail prices for premium and regular gasoline reached 50-cents per gallon at the end of 2016, where it has stayed.

If such differentials persist, any anticipated savings to consumers through better fuel economy would be undercut, undermining one of the main talking points undergirding the entire fuel standards program.

For refiners, the options to obtain additional octane are few, according to Tom Kloza, global head of energy analysis at the Oil Price Information Service. Many of the additional costs will be passed through to consumers, as large refiners are forced to make capital investments in technologies that can make higher-octane fuel, Kloza said.

Large refiner Valero, for instance, spent $300 million to build an alkylation unit at its Houston refinery, which can produce 13,000 barrels a day. This investment will be needed to supply the new cars that will hit the market three or so years from now, which will need premium gasoline of over 93 octane.

Refiners and carmakers also are in a cold war with the ethanol industry, which already makes up 10% of the gasoline pool. Engine manufacturers void warrantees for many engines if gasoline with more than 10% ethanol is used. This likely precludes the increased use of ethanol, which has its own market distortions to content with, as an octane-boosting agent.

Many analysts anticipate a spike in premium gasoline prices and other disruptions over the next three years as a result of these government interventions in the fuel market. A supply-side solution, such as a carbon tax, rather than mandated efficiency standards, would do more to cut greenhouse gas emissions and likely improve fuel economy in line with customer demand — which is how a marketplace is supposed to work.

Image by l i g h t p o e t

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