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Fuel and economics

Trust me, I don’t know what I’m talking about.

Biofuels are a really hot topic these days, especially since the Bush administration has set a goal of 35 billion gallons of “renewable an alternative fuel” by 2017. On the surface of it, renewable fuels seem like a perfect solution to the joint problems of fuel security, declining petroleum production and global warming. Since these fuels are not coming from the politically unstable Middle East, the risk of a disruption of supply is reduced. Since the production of biofuels comes from this year’s photosynthesis, it should be carbon-neutral. Sounds like a true win-win situation.

Unfortunately, it isn’t that simple. One of the major sources of alternative fuels is corn ethanol. It takes huge amounts of fossil fuels to grow corn in the American Corn Belt in the form of fertilisers, pesticides and machinery. It also takes energy to transport, process and ferment the corn. The net energy gain is low.

Corn is also heavily subsidised. According to Pollan’s Omnivore’s Dilemma, to the tune of about $15 billion a year. And the subsidies end up in the bottom line of the big corporations (ADM, Cargill) rather than the farmers (who are going broke growing corn). Of course, demand for corn ethanol pushes up the price of corn, which should (according to the pricing model outlined by Pollan) reduce subsidy payments (again, the farmer doesn’t benefit, but hopefully the taxpayer will).

But corn isn’t only an agricultural commodity, it’s also food. Higher corn prices translate into higher food prices. In some cases (in the food industry) they may be able to switch from one highly processed corn derivative to another. In other cases though (like the cattle-chickens-pigs feedlot industry) the entire model is built around cheap (subsidised) corn.

But this is where I get confused. Craig Mackintosh at Celsias blog reports on Lester Brown‘s senate testimony (transcript here). Brown points out that the US accounts for a 40% of the world’s grain harvest and 70% of corn imports:

The U.S. corn crop, accounting for 40 percent of the global harvest and supplying nearly 70 percent of the world’s corn imports, looms large in the world food economy. Annual U.S. corn exports of some 55 million tons account for nearly one fourth of world grain exports. The corn harvest of Iowa alone exceeds the entire grain harvest of Canada. Substantially reducing this export flow would send shock waves throughout the world economy.

In addition, world grain stocks are at an all-time low, and this is likely to push up food prices worldwide:

In six of the last seven years, total world grain production has fallen short of use. As a result, world carryover stocks of grain have been drawn down to 57 days of consumption, the lowest level in 34 years. (See data.) The last time they were this low wheat and rice prices doubled.

Brown reports that demand for corn by ethanol distilleries is driving up the price of food worldwide.

The escalating share of the U.S. grain harvest going to ethanol distilleries is driving up food prices worldwide. Investment in fuel ethanol distilleries has soared since gasoline prices jumped at the end of 2005. Once completed, distilleries now under construction could double U.S. ethanol output, turning nearly 30 percent of next year’s U.S. grain harvest into fuel for automobiles. This unprecedented diversion of the world’s leading grain crop to the production of fuel will affect food prices everywhere, risking political instability.

This all sounds terribly disturbing. Brown has a graph that show corn demand for ethanol production spiking up over corn exports. So here’s the problem. The same data show that between 1980 and 2007 corn exports have oscillated around the same mean (30-60 million tonnes per year) while production has gone from 169 million tonnes in 1980 to 316 million tonnes in 2007. Granted, world grain supplies are at their lowest in that entire time sequence, and there have been production shortfalls in seven of the last eight years. What doesn’t quite add up though is the fact that 60% of corn (according to Pollan, I really should check his numbers) is fed to animals. When it comes down to it, meat is a luxury item, albeit one that American consumers have come to regard as a staple.

All of this is pretty up in the air without real numbers. A story in the Christian Science Monitor reports that corn prices hit $4 a bushel earlier in the year – so that would be more than double the $1.45 that Pollan reports in his 2006 book. Unfortunately, for the “blame the price on ethanol” argument, in most things corn only accounts for a few cents of the price.

Facing higher costs at the farm and shareholder pressure to maintain profits, companies such as Tyson Chicken and Coca-Cola are raising prices. The fact that fuel prices remain relatively high hasn’t helped either, allowing no break in the cost of transporting perishable goods.

Using the WalMart model, everyone has kept prices low (and profits high) by squeezing the supplier. Will higher prices cause people to cut down on their consumption of grain-fed beef? That would be nice, but unlikely.

Of course, there’s another wrinkle to all of this. Brown points out, quite rightly, that rising grain prices are affecting food prices in poor countries.

The stage is now set for direct competition for grain between the 800 million people who own automobiles, and the world’s 2 billion poorest people. The risk is that millions of those on the lower rungs of the global economic ladder will start falling off as rising food prices drop their consumption below the survival level.

Unfortunately, low grain prices (subsidised by US and EU taxpayers) aren’t a universally good thing. Cheap imported corn makes it impossible for local farmers to compete. This drives them off the land into the cities (or, in the case of Mexico, into the US), where they switch from being food producers to hungry people dependent on corn imports. While this may take pressure of tropical forests, it probably isn’t an effective conservation strategy. There is no easy solution, but at some point the imbalances of almost 40 years of bad policy are going to shake themselves out. Granted, it’s upsetting when the winners remain the same no matter what (ADM, Cargill). But saying that fuel ethanol hurts poor people misses a major point. The problem is subsidised corn and grain-fed beef.

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