Abstract
Biofuels have gained increasing attention as an alternative to fossil fuels for several reasons, one of which is their potential to reduce the greenhouse gas (GHG) emissions from the transportation sector. Recent studies have questioned the validity of claims about the potential of biofuels to reduce GHG emissions relative to the liquid fossil fuels they are replacing when emissions owing to direct (DLUC) and indirect land use changes (ILUC) that accompany biofuels are included in the life cycle GHG intensity of biofuels. Studies estimate that the GHG emissions released from ILUC could more than offset the direct GHG savings by producing biofuels and replacing liquid fossil fuels and create a 'carbon debt' with a long payback period. The estimates of this payback period, however, vary widely across biofuels from different feedstocks and even for a single biofuel across different modelling assumptions. In the case of corn ethanol, this payback period is found to range from 15 to 200 years. We discuss the challenges in estimating the ILUC effect of a biofuel and differences across biofuels, and its sensitivity to the assumptions and policy scenarios considered by different economic models. We also discuss the implications of ILUC for designing policies that promote biofuels and seek to reduce GHG emissions. In a first-best setting, a global carbon tax is needed to set both DLUC and ILUC emissions to their optimal levels. However, it is unclear whether unilateral GHG mitigation policies, even if they penalize the ILUC-related emissions, would increase social welfare and lead to optimal emission levels. In the absence of a global carbon tax, incentivizing sustainable land use practices through certification standards, government regulations and market-based pressures may be a viable option for reducing ILUC.