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June 2007

Food versus fuel: higher corn prices may cause conflictThe USDA predicts United States farmers will plant 90.5 billion acres of corn this year.

The ethanol industry is booming, causing corn prices to increase. While some predict a conflict between food producers and ethanol producers, others say the food-versus-fuel debate is overblown and will subside when the price of corn drops.

The Earth Policy Institute, an environmental group in Washington DC, is one of the groups that predict that the conflict will only increase as more ethanol plants open. It estimates that ethanol producers could use up to half of the nation’s corn supply by 2008.

In contrast, the United States Agriculture Department (USDA) forecasts that ethanol production will consume 23 percent of the country’s total corn supply by 2015.

Janet Larsen, director of research at the advocacy group, said that the government’s numbers do not tell the whole story. She said that the USDA relied heavily on estimates by the Renewable Fuels Association, a trade group for the ethanol industry, which were lower than other estimates of the amount of corn being used for ethanol.

There are currently 114 ethanol refineries nationwide with the capacity to produce 5.6 billion gallons annually, according to the RFA. Plus, there are 80 ethanol refineries and 7 expansions currently underway with an annual capacity of 6 billion gallons.

The USDA predicts farmers will plant around 90.5 million acres of corn this year, up 12 million acres from 2006, the largest amount planted since World War II.

“The big question is how much will farmers respond to higher prices,” Larsen said. She said the growth in planting does not look as fast as the growth in refineries.

The increase in demand for corn from ethanol producers, meanwhile, is already causing some conflict over prices with food producers and might even eventually lead to “urban food riots in poorer countries,” according to the environmental advocacy group.

“Ethanol isn’t the golden solution that a lot of people hope it is,” Larsen said.

Rick Tolman, chief executive officer of the National Corn Growers Association, said ethanol production would have only a modest impact on food prices in the short term. The leader of the trade association based in the St. Louis suburb of Chesterfield, Missouri said that the price of corn was abnormally low for the past several years.

“The value of corn in products at the retail level is quite small and even dramatic increases in the price of corn will have little significant impact,” Tolman said.

When corn is $4 a bushel, there is less than $.05 worth of corn in a $2.89 box of corn flakes. There is $.14 worth of corn in a pound of chicken that costs $2.99, according to the NCGA. “The media has overplayed the impact and both consumers and food processors are perceiving a bigger impact than what is real,” Tolman said.

“We are rapidly reaching a point where ethanol production will exceed the required market use. This will put downward pressure on prices and make ethanol production returns less lucrative. I expect to see a slowdown in new construction and expansion for a 6 to 12 month time period later this year or early next year.”

Matt Drinkwater, an analyst at New Energy Finance Ltd., a specialist provider of research to investors in renewable energy in London, also questions whether a conflict over corn between food producers and ethanol producers would last long.

Drinkwater cited a recent deal between Houston-based ConocoPhillips and Springdale, Arkansas-based Tyson Foods Inc. The alliance plans to use beef, pork and poultry fat to create as much as 175 million gallons per year of renewable diesel.

“This gives them a way into the other side of the market. Those kinds of reactions to the situation may make it a little more tolerable for both sides,” Drinkwater said.

Inflation in the price of basic foods, like corn, would have an impact on the poorer sections of society, however, Drinkwater said. That might put pressure on governments around the globe to intervene. “Basics foods stuffs are politically sensitive,” he said.

“The way out of the impasse would be to liberalize the trade in agriculture commodities, like corn. That, however, is a political hot potato as well.”

The United States is currently subsidizing ethanol with a $.51 per gallon tax credit that goes to refiners. The United States also imposes a $.54 tariff on the imports of ethanol from other countries, like Brazil, which is the largest producer of ethanol in the world.

Drinkwater said that the debate between food and fuel would fade away as soon as the price of corn drops. “But if ethanol production expands because it looks cheap again, then we’ll have the same discussion a year from now. There is going to be this constant seesaw as long as the situation is driven by a set of policies,” he said.

Richard Lucas, an energy analyst at Ambrian Capital Plc., an investment bank in London active in the natural resource sector, said that other factors around the world are impacting the price of corn, including a relatively poor harvest in Australia and China.

“However, since the start of the ‘war on terror’ and the Iraq war, a far more powerful argument has exercised governments, namely ‘security of supply.’

Governments are striving to reduce the reliance of their economies on imported oil and gas, which often comes from increasingly politically unstable and/or unfriendly parts of the world such as the Middle East, South America and Russia,” Lucas said.

Lucas said that governments will often hide behind environmental arguments, which may be politically more acceptable, to persuading citizens to use biofuels, even if the biofuels are more expensive than traditional types of fuels.

“The election of left leaning/protectionist governments in South America and the examples of the Russian government cutting off gas supplies, albeit briefly, to states such as Ukraine, has driven the impetus for ‘security of supply’ even faster,” Lucas said.

In the short-term there is not much that can be done to head off a potential conflict between food producers and ethanol producers. “Government attempts to control price and supply are notoriously ineffective and usually end up making the problem worse – as the former command economies of the Soviet bloc showed for years,” Lucas said.


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