(Reuters) - The U.S. Environmental Protection Agency’s decision to allow an increase in the maximum level of ethanol to 15 percent in reformulated gasoline (RFG) supplies will have an impact on roughly one third of the gasoline sold in the United States.

The current mandate, generated by the Clean Air Act, calls for a maximum of 10 percent ethanol by volume in all gasoline sold in EPA-designated non-attainment areas, where existing regulations have not been complied with. The EPA’s rules requiring gasoline sold in non-attainment areas be reformulated to reduce toxic and ozone-producing emissions.

Previously, methyl tertiary butyl ether (MTBE) was the main oxygenate used for this purpose, but environmental opposition resulted in state and federal bans. Ethanol became the primary oxygenate in 2007 for all RFG sold in the US.

Ethanol is an alcohol produced mainly from corn and wheat in the United States and from sugar in other parts of the world. Ethanol is corrosive in older engines and pipelines. Blending takes place as close to the distribution terminal as possible.

Despite the allowance, ethanol does face some challenges in rising to the new level.

STATES REQUIRING RFG

California, Connecticut, Delaware, Georgia, Illinois, Indiana, Kentucky, Louisiana, Maryland, Massachusetts, Missouri, New Hampshire, New Jersey, New York, Pennsylvania, Rhode Island, Texas, Virginia, Wisconsin, and Washington, DC.

RFG is required in the generally larger cities in each of these states, not in all areas. All of New Jersey and Delaware are treated as non-attainment areas.

REFINERS AND BLENDERS

The 15 percent maximum may require the production of a new sub-gasoline that will be formulated differently from the existing RBOB (reformulated blendstock for oxygenate blending) and CBOB (conventional blendstock for oxygenate blending).

The new “BOB” could further reduce the liquidity of gasoline markets and increase the number of different blends needed in different parts of the United States, according to analysts.

The 15 percent maximum may increase liabilities for refiners and blenders, since segregated storage and blending tanks will have to be used for the new RFG blend. Congress and the regulators will have to produce new storage guidelines.

While refiners and blenders can collect a Renewable Identification Number (RIN) credit of 45 cents per gallon produced, current and forecast high prices for ethanol are making RFG blending much less profitable.

Refiners and blenders routinely pass the credit to consumers in the form of lower gasoline prices, but the higher percentage of ethanol in the mix might lead to higher prices for the fuel.

Refiners and blenders could benefit from increased fuel sales since ethanol has a lower energy content and reduces the overall fuel economy of a gallon of gasoline.

ETHANOL PRODUCERS

Ethanol production takes places generally in the middle of the United States, while most of the markets for it on the coasts. Since pipelines cannot transport it, most ethanol deliveries to terminals are made by trains and trucks, which drives the price of the oxygenate higher.

Ethanol producers need the increase to 15 percent in RFG in order to meet the Clean Air Act mandate of 15 billion gallons of ethanol to be mixed into gasoline per year by 2015. The mandate for 2010 is 12 billion gallons.

GAS STATION OWNERS

The 15 percent maximum could lead to misfueling at the pump, since the increase will only be for cars built since 2007. The EPA said Wednesday that it will not rule on whether older cars can use the fuel this year. However, there are concerns that misfueling could lead to lawsuits due to damage to engines.

Different pumps and underground storage tanks would likely be necessary for service station owners to be able to sell the new gasoline blend in some non-attainment areas.

Having two types of gasoline blends at service stations likely means the end of mid-grade sales, unless owners want to install new pumps that would allow different blends to be blended and sold from the same pump.

Gasoline demand is inelastic, so rising prices could eventually curtail demand.

CONSUMERS

High current and forecast ethanol prices could also make gasoline more expensive at the retail level. Some studies suggest the higher ethanol content will decrease miles per gallon in all cars.

CONGRESS

Many of the subsidies in place for ethanol expire at the end of 2010. The lame duck Congress may have trouble with extending the current subsidy and tariff regime or modifying it before the end of the year.

One proposal on the table would be to shift the RIN credit to ethanol producers and away from refiners and blenders.