It doesn't. Ethanol actually reduces miles per gallon of fuel because its energy density is lower than petroleum gasoline. It does increase octane number, but that is an index related to engine knock, not efficiency. Other gasoline blend components can increase octane just as much without diminishing miles per gallon.
The ostensible reasons for the ethanol mandate are related to energy security, international trade economics, and environment. The benefits claimed are all controversial and, from my study, dubious at best. We all know the real reasons for the ethanol mandate and subsidies. WRT natural gas powered cars: these are feasible, but your trunk will be occupied by a much larger fuel tank filled with heavy, high-pressure natural gas. The USPS trucks here in North Texas are dual fuel, but the USPS discontinued using natural gas for fuel here even though prices now are relatively low. It didn't work for them even though they fill up at same place for motor gasoline or natural gas.
That’s all nice, but mostly non-sequiturs of why there is ethanol in gasoline.
The real reason why ethanol was blended into gasoline was that the prior oxygenate, MTBE, was found to be responsible for contaminating ground water supplies where underground tanks leaked. So MTBE became a liability for refiners.
The EPA requires there to be an oxygenate additive in gasoline, so the next choice was ethanol. Modern closed-cycle EFI engines with O2 sensors in the exhaust stream don’t actually *need* any oxygenate additive in the fuel at all, but hey, we’re dealing with the environmentalists here who believe that without oxygenates that the LA basin would go back to the days of the 70’s, when you couldn’t see Mt. Wilson from Pasadena.
The reason why cars get worse mileage with ethanol in their fuel is that US automotive engineers can’t seem to remove their heads from their rectums and use the added octane boost to increase the compression ratio of the engine. Oddly enough, Ferrari was able to produce a 500HP high end sports car that gets better mileage on E85 than on pure gasoline.... just as any engineer who doesn’t have his head up his ass could do.
This cranial/rectal inversion that seems to run rampant in Detroit also seems to prevent them from delivering a small turbodiesel engine package that produces 50+ MPG vehicles as they have in Europe. Instead, they’re busy chasing utter twaddle like the Chevy Volt.