Daily News Update, Jan. 18, 2008

FAPRI: New biofuel mandates will significantly increase crop usage

Biofuel mandates in the energy bill passed by Congress could result in significantly higher corn and soybean use for fuel than would have occurred under pre-mandate policies, said economists at the University of Missouri (MU).

Production of corn-based ethanol goes up 24 percent and soydiesel goes up 89 percent under one set of assumptions in analyzing the Energy Independence and Security Act of 2007, according to the MU Food and Agricultural Policy Research Institute (FAPRI).

"Increased biofuel use results in higher prices for corn, soybeans and other crops," said Pat Westhoff, senior analyst at MU FAPRI. This brings a $3.4 billion increase in U.S. average annual net farm income under one scenario.

"To generate mandated levels of biofuel, prices paid to producers must be higher than they otherwise would have been," Westhoff said. "The energy bill results in a 17 percent increase in average wholesale prices for corn-based ethanol and a 37 percent price increase for biodiesel.

"The energy bill signed into law will have greater impact on farm commodity prices than any farm bill being considered," said Westhoff. Mandates to use set levels of biofuels increase demand for corn and vegetable oil and affect market-driven prices more than current or proposed farm bills.

FAPRI analyzed impacts of mandates using computer models of agriculture in the United States and the world. Results will be used to project agricultural baselines given to Congress annually. Those are expected by March 1.

In this analysis, economists used an implied mandate of 15 billion gallons of corn ethanol and one billion gallons of soydiesel. Mandates for other alternative fuels, such as cellulosic ethanol, are in the bill but were not analyzed.

Westhoff said many assumptions are necessary for any analysis of outcomes from the energy bill. "The biggest unknown is price of petroleum. If oil remains above $80 per barrel, corn-based ethanol production might exceed 15 billion gallons even without a mandate."

In the analysis, FAPRI looked at five scenarios, with three related to new mandates. Westhoff said the 28-page report looks at a small part of "very large and very complex legislation." Only corn-based ethanol and soy biodiesel were considered.

Legislated demand increases corn use by 1.1 billion bushels annually from 2011 to 2016 relative to pre-energy-bill markets. About 30 percent of that increase comes from more corn production. Another 30 percent comes from reduced corn exports, while the remainder comes from cuts in livestock feed and other domestic uses.

In the same period, soy oil use increases by 2.7 billion pounds on average. About half of that comes from reduced food oil exports with reduced domestic use and increased soy oil production accounting for the rest.

"Strong demand for corn and soybeans translates into higher prices for those commodities," Westhoff explained. The report shows corn prices going up an average 8 percent and soy oil up 36 percent. Soybean prices increase by an average of 9 percent.

Price increases ripple through other commodities. Wheat goes up by 3 percent as substitutions occur.

On the other hand, soy meal prices fall with increased bean crush. Also, more distillers grains, co-products of ethanol, come to market in competition with other feeds.

To meet demand, corn harvest expands by an average of two million acres per year in response to higher prices. However, soybean acres remain essentially unchanged. Higher soybean prices are offset by competition for corn acreage. Modest reductions occur in total acreage of other major crops.

The results Westhoff cited are based on one of three scenarios for implementing the energy bill. This assumes basics of the energy bill go into effect and that current biofuel tax credits and tariff protections remain. For example, tax credits for blenders of ethanol and gasoline are set to expire in 2010. Conventional wisdom is that they will be renewed. The FAPRI analysis also includes the no-tax, no-tariff alternative.

"Impacts of the energy bill on the livestock sector are sensitive to how the bill is implemented," says Westhoff. "All else equal, higher corn prices mean higher feed costs for livestock producers, which mean less meat and milk production. Consumer food costs could go up."

All else may not be equal. Producing more biodiesel requires more soybean oil. When soybeans are crushed to make oil for biodiesel, soybean meal is also produced. That means lower prices for soybean meal, a major livestock feed supplement.

"In one scenario, feed costs increased by an average of $750 million per year because of the energy bill," Westhoff said. "However, in another scenario the net change in feed costs was very small. The results depend on many factors, including how large the increases are in ethanol and biodiesel production."

Price analysis is difficult with unstable world petroleum production and pricing. "If oil prices fall sharply from present levels, then market demand for ethanol could drop sharply. This suggests mandates could have a much larger effect on farm commodity prices compared to a no-mandate policy."

The energy bill analysis was based on an agricultural baseline presented to Congress a year ago. "As Congress considers a new farm bill, we need a baseline that reflects current law, and the energy bill is now law of the land," said Westhoff.

Provisions in the energy bill will be part of the 2008 baseline that FAPRI will develop next. "The 2008 baseline could change both short-term and long-term projections," Westhoff said. "Consider this a preliminary report, contingent on a wide-range of assumptions."

FAPRI is part of a multi-state university think tank that studies policy implications of legislation from the U.S. Congress. Funding comes in part from the Agricultural Experiment Station, a part of the MU College of Agriculture, Food and Natural Resources.