Today, FarmEcon LLC released RFS, Fuel and Food Prices, and the Need for Statutory Flexibility, a study of ethanol’s impact on food and fuel prices. FarmEcon prepared the study for the American Meat Institute, California Dairies Inc., Milk Producers Council, National Cattlemen’s Beef Association, National Chicken Council, National Pork Producers Council, and National Turkey Federation.
The study argues that the Renewable Fuel Standard (RFS), commonly known as the ethanol mandate, is detrimental to both non-ethanol industry corn users and food and fuel consumers. The program should therefore be reformed. The RFS has “destabilized corn and ethanol prices by offering an almost risk-free demand volume guaranty to the corn-based ethanol industry.” Consequently, food producers who use corn as a feedstock “have been forced to bear a disproportionate share of market and price risk” when corn yields fall and prices rise. This has become painfully obvious in recent weeks as drought conditions in the Midwest depress yields and push corn prices to record highs.
Appropriate reform* would assure food producers “automatic market access” to corn stocks “in the event of a natural disaster and a sharp reduction in corn production.” Ethanol producers should “bear the burden of market adjustments, along with domestic food producers and corn export customers.” The study also recommends that the RFS schedule “be revised to reflect the ethanol industry’s inability to produce commercially viable cellulosic fuels.”
Pretty tame stuff. An argument for flexibility to avoid the RFS’s worst market distortions and the cellulosic farce rather than an abolitionist manifesto. Nonetheless, the study paints a fairly damning picture of the RFS as a whole:
- Increases in ethanol production since 2007 have made little, or no, contribution to U.S. energy supplies, or dependence on foreign crude oil. Rather, those increases have pushed gasoline suplies into the export market.
- Current ethanol policy has increased and destabilized corn and related commodity prices to the detriment of both food and fuel producers. Corn price volatility has more than doubled since 2007.
- Following the late 2007 increase in the RFS, food price inflation relative to all other goods and services accelerated sharply to twice its 2005-2007 rate.
- Post-2007 higher rates of food price inflation are associated with sharp increases in corn, soybean and wheat prices.
- On an energy basis, ethanol has never been priced competitively with gasoline.
- Ethanol production costs and prices have ruled out U.S. ethanol use at levels higher than E10. As a result, we exported 1.2 billion gallons of ethanol in 2011.
- Due to its higher energy cost and negative effect on fuel mileage, ethanol adds to the overall cost of motor fuels. In 2011 the higher cost of ethanol energy compared to gasoline added approximately $14.5 billion, or about 10 cents per gallon, to the cost of U.S. gasoline consumption. Ethanol tax credits (since discontinued) added another 4 cents per gallon.
Some other key points presented in the study:
- Ethanol typically sells for less per gallon than gasoline, but “engines do not run on gallons, they run on energy,” and a gallon of ethanol has only 67% of the net energy in a gallon of gasoline.
- Consequently, on a per-mile basis, ethanol is more expensive than gasoline. This accounts for the failure of E85 (motor fuel blended with 85% ethanol) to achieve significant sales. “According to recent Department of Energy statistics, ethanol blends of more than 55 percent account for only 2,000 barrels per week out of total gasoline production of about 8.7 million barrels per week.”
- The RFS has dramatically altered U.S. corn markets. Corn prices have increased from $2.00 a bushel in 2005/2006 to $6.00 a bushel in 2011/2012. Corn use for ethanol increased from 1.6 billion bushels in 2005/2006 to 5.0 billion in 2011/2012. Feed use of corn declined from 6.2 billion bushels in 2005/2006 to an estimated 4.6 billion in 2011/2012. Corn exports declined from 2.1 billion bushels in 2005/2006 to an estimated 1.7 billion bushels in 2011/2012.
- The RFS creates risks as well as benefits for ethanol producers. “Since the first RFS schedule in 2005, the corn cost in a gallon of ethanol has increased from about 50 percent to more than 80 percent of total ethanol production costs. Corn costs for ethanol producers have also been much more volatile. . . .This higher volatility [after the 2007 RFS] has increased business risks for all corn users. The result has been the bankruptcy of a number of ethanol companies and food producers.”
- Corn is a key commodity used by meat, poultry, and dairy producers. Corn prices also influence wheat, soybeans, and other commodities, because corn competes with those crops for customers and/or land. The cost of corn, wheat, and soybeans used in U.S. food production has risen from $26.5 billion in 2005, when the first RFS was enacted, to $69.5 billion in 2011. “The cumulative cost increase over 2005-2011 was $141.9 billion.” Higher energy prices also played a significant role. Nonetheless, the RFS mandates were an important factor.
- The cost of food has increased much faster than overall inflation since the 2007 RFS was enacted. “Overall price inflation of items other than food, even including energy, declined dramatically after December, 2007. The decrease was largely due to the 2008-2009 recession. In 2005 to 2007, food prices were increasing slower than all items other than food. However, post-RFS food price inflation accelerated, even in the face of the recession.”
- “Higher corn prices (and associated increases in wheat and soybean prices) have dramatically raised the costs of producing meat and poultry.” Unspurprisingly, per capita meat and poultry consumption “has declined to the lowest level since 1990.”
- Like the MIT study I reviewed earlier this week, the FarmEcon study rejects the ‘finding’ of Iowa State University researchers that ethanol, by expanding the U.S. motor fuel supply, reduced the crack spread (refiner profit margin) by $1.09 per gallon in 2011, sparing consumers an equivalent increase in pain at the pump.
- FarmEcon offers a critique based on statistical models but also presents an Econ 101 argument: “The 2000-2011 average gasoline crack price spread was 27.8 cents per gallon. The 2011 margin averaged 37.1 cents. A $1.09 increase in that margin would lead to refineries quickly increasing gasoline production and reducing gasoline exports. The increase in gasoline supply available to the U.S. market would largely, likely entirely, wipe out the higher gasoline price.” In other words, the market is self-correcting. Refiners don’t need big-daddy government to tell them to produce more fuel when demand increases faster than supply and prices rise.
* The reform examined in the study, proposed by Rep. Bob Goodlatte (R-Va.), would relax the RFS targets as the corn stocks-to-use ratio declines below 10%. Stocks-to-use measures the quantity (“stock”) of a commodity at the end of a particular time period as a percentage of total use of the commodity during that time period. TradingCharts.Com explains how a stocks-to-use ratio is calculated.
The stocks to use ratio indicates the level of carryover stock for any given commodity as a percentage of the total demand or use. The mathematical formula for this relationship is as follows:
Beginning Stock + Total Production – Total Use ÷ Total Use
. . . . beginning stocks represent the previous year’s ending or carryover inventories. Total production represents the total grain produced in a given year. Total usage is the sum of all the end uses in which the stock of grain has been consumed. This would include human consumption, export programs, seed, waste, dockage and feed consumption. By adding carry-over stocks to the total production you will obtain the total supply. From the total supply, subtract the total use and the resultant figure will be the year ending carryover stock. The carryover stock divided by the total usage can be expressed as a ratio which when compared with previous years gives the market analyst an indication of the relative supply/demand balance for a particular commodity. This ratio can then be used to indicate whether current and projected stock levels are critical or plentiful.The ratio can also be used to indicate how many days of supply are available to the world marketplace under current usage patterns ( eg. a 20% stocks to use ratio for wheat indicates that there are 75 days supply of wheat in reserve).
TradingCharts.Com notes that historical stocks-to-use data provide “bench mark ratios” useful for predicting movements in commodity prices: “On a world basis a stocks/use ratio for wheat under 20% has typically led to strong price advances. For corn, the comparable number appears to be under 12% . For soybeans, the critical level is below 10%.”
The Goodlatte proposal adjusts the RFS targets as follows:
- No reduction in the mandated quantity of renewable fuel if corn stocks-to-use is above 10%;
- a 10% reduction if stocks-to-use is 10.0%-7.5%;
- a 15% reduction if stocks-to-use is 7.49%-6.0%;
- a 25% reduction if stocks-to-use is 5.99%-5.0%; and,
- a 50% reduction if stocks-to-use is below 5%.
According to FarmEcon, corn stocks-to-use in 2010/2011 was 6.2% and in 2011/2012 is 6.7%. In both crop years, the RFS target would be reduced by 15% under Goodlatte’s proposal.