Ethanol and Corn Markets: The Unintended Consequences Are Starting to Show Up

Lynne Kiesling

Back when the Energy Policy Act of 2005 was passed, many analysts (including myself) argued that in addition to ethanol’s dubious claim to be more “environmentally friendly” than fossil fuels, subsidizing and otherwise favoring the production of ethanol would distort agricultural commodity markets. (If you just read that sentence and thought to yourself that they are in a permanent state of distortion because of pervasive and often contradictory subsidies and other farm policies, you would be correct. But I’m talking about an additional distortion at the margin here.)

Now we are really starting to see those consequences kick in, in the form of high corn prices, increased acreage planted in corn, and decreased acreage planted in soybeans. From Saturday’s Wall Street Journal (subs. req.), an article discussing increased corn plantings in the U.S., and anticipations of the largest U.S. corn crop ever.

Fueled by a booming demand for corn-derived ethanol, corn farmers across the nation are expected to plant 90.5 million acres of corn this year, according to the U.S. Department of Agriculture’s Planting Intentions report. With projected yields at 152 bushels per acre, the final corn harvest could amount to the largest on record, according to the National Corn Growers Association. At the same time, soybean acreage is expected to be sharply down.

This news produced a fall in corn prices at CBOT on Friday, but that fall is likely to be short-lived, according to the article:

There are currently 114 ethanol plants in the U.S., with another 80 under construction, according to the Renewable Fuels Association, the trade group for the U.S. ethanol industry. At the same time, total ethanol capacity is expected to increase to 8.5 billion gallons this year, up from 5.4 billion gallons last year. In addition, corn exports are soaring, which could help keep corn prices high, at least in the near term.

All of that means ethanol will keep soaking up more kernels of corn. Ethanol is expected to consume 3.2 billion bushels of corn from the 2007 crop, compared with 2.15 billion bushels of the crop last year, says Keith Collins, chief economist at the USDA. But Mr. Collins says that while ethanol will continue to “put pressure on our land base to keep finding ways to produce more corn,” the crop report is a good sign that corn farmers are responding to market signals and planting more corn.

I’ve also heard reports in the past couple of weeks about communities in Wisconsin and Indiana that are fighting the construction of ethanol plants. Although they would value the new jobs, those jobs would come at a cost of increased local air and water pollution, increased nasty aromas (ethanol production generates a smell that is like stale barroom floor, eeeeuw), increased industrial vehicle traffic, and dramatically increased water consumption.

Chicagoist also has a nice post this weekend about the ethanol boom and its political economy in the upcoming election. I was pleased to see them point out that the energy life cycle of ethanol production is such that it’s not clear that corn-based ethanol provides a net energy production, once you take into account the energy that goes into producing the fertilizer, the actual ethanol production itself, and the truck transportation of the ethanol to its final consumption destination.

Yes, we are reaping what we sow. As H.L. Mencken would have it, we are reaping it, and getting what we deserve, good and hard.