By Inae Riveras and Brian Winter
SAO PAULO (Reuters) - By most measures, this should be a golden age for sugarcane ethanol in Brazil.
Yet, despite high prices for the biofuel and a massive expansion in the domestic fleet of cars that use it, Brazil's ethanol industry is struggling with stagnant investment, insufficient supply growth and a government that can't seem to figure out whether to treat it as a friend or a foe.
Efforts to resolve the impasse will be front and center at a major Brazil ethanol summit that starts on Monday. The event brings together government officials including Energy Minister Edison Lobao, global energy executives, and members of the Unica ethanol industry group, which is hosting the event.
The atmosphere may get tense. Officials in Rousseff's government have criticized ethanol producers for what they describe as a failure to invest and plan -- and, thereby, a failure to prevent cyclical ethanol shortages that prompted a near-revolt among consumers at the pump earlier this year.
Meanwhile, producers have pointed their finger right back at the government, arguing that supply growth remains stagnant because of uneven taxes, the government's vague talk of future regulation, and a lack of incentives to invest.
"As long as there is no clarity about the policy for fuels, there is a risk for investments," said the president of Sao Paulo-based Datagro consultants, Plinio Nastari.
Indeed, investments are currently on ice. After a boom that saw 117 ethanol mills built since 2005 to cope with soaring demand, there are no plans for more new mills after five more come online later this season, Unica says.
The demand exists. As Brazil's economy booms, the domestic auto fleet is expanding at a torrid 20 percent annual pace. Meanwhile, the percentage of vehicles that are flex-fuel -- which can run on any mixture of gasoline and/or ethanol -- is expected to rise to 86 percent by 2020 from its current level of 45 percent, according to Unica.
Unless the ethanol industry starts growing at a faster pace, Unica estimates that there could be an annual cane deficit of 400 million tonnes by 2020/21 -- compared to current production levels of 650 million tonnes.
"We're working with the government, looking at ways we can get back to expanding again," Unica president Marcos Jank said in an interview. "We'll be discussing this at the conference."
HEAVY INTEREST FROM ABROAD
Despite the challenges, interest in the sector abroad remains high.
Multinational companies including Royal Dutch Shell, Noble Group and Glencore have poured billions of dollars into the sector over the past year, although they too have focused more on acquiring existing mills than expanding production.
The barriers to growth can be attributed in part to the sometimes uncomfortable mix of pro-business policies and state intervention that has characterized left-leaning Brazilian administrations over the past decade -- including Rousseff's, which took office on January 1.
On one hand, the government has given incentives for the growth of the flex-fuel fleet through tax breaks as part of a larger push toward renewable energy, in which Brazil is a pioneer.
However, Brazil also tightly regulates gasoline prices, which have stayed broadly steady at the pump since 2005. That has placed a virtual cap on ethanol prices, since Brazilian consumers tend to switch to gasoline if ethanol prices at the pump are broadly similar.
A rapid rise in ethanol prices earlier this year prompted widespread anger among consumers and a wave of media attention, which in turn prompted Rousseff's government to act. It changed ethanol's status to a strategic fuel, not a mere agricultural product, meaning the National Petroleum Agency (ANP) will oversee the market from production through distribution.
It's unclear still what that will mean in practice. Greater regulation could mean fewer market distortions, or it could result in the government setting production targets, for example.
"Ethanol is an opportunity and a problem, and there is still considerable debate within the government as to how to act," a government source told Reuters.
REGULATION COULD BE POSITIVE
Industry officials are holding their breath.
"Regulation could be a positive development," Jank said. "We're waiting to see what will happen."
Complicating matters further, costs are rising despite the virtual ceiling on prices. According to Datagro, the sector's average production costs are now equivalent to a FOB raw sugar price of 17.5 cents per lb, from 5.5 cents in 2002.
After growing at an annual average rate of 10 percent since 2000, cane output in Brazil rose by no more than 3.3 percent per year starting in 2008, when the global financial crisis hit hard several companies that had leveraged to expand, data from the sugar cane industry association Unica shows.
Looking to boost production, the government recently announced a much-awaited credit line for the renewal of cane fields, which are getting older and therefore less productive. It should soon release new financing conditions for mills to build ethanol stocks, which are critical to stabilizing prices and avoiding future spikes in supply, officials said.
Companies with representatives at the summit will include: BP Plc, Total, Petrobras, Shree Renuka Sugars and Louis Dreyfus.
For more information on the ethanol summit, see: http://www.ethanolsummit.com.br/index.php
(Editing by Kieran Murray)