Ethanol — an agricultural policy that worked perfectly

Hardly new The idea of having some buffer stocks on hand goes back to Joseph and the Pharaoh

Reading Time: 3 minutes

Back in the days of $2 corn, someone got the bright idea of turning it into ethanol.

Not only would this boost prices by eliminating burdensome carryovers, it would partly diversify the U.S. away from imported energy and create rural jobs at ethanol refineries. Throwing a few subsidies and tax breaks in that direction and legislating a minimum percentage of ethanol in gasoline seemed like a win-win-win policy decision.

By any measure, you’d have to say the policy worked. Today, as much as 40 per cent of U.S. corn goes into ethanol, and prices of late have topped $8 with the potential to go higher.

The trouble is, with much of the U.S. caught in a drought no one could foresee a few short months ago, livestock producers and other processors are getting priced out of the market.

In all likelihood, that means a downsizing in U.S. livestock herds and higher meat prices for the foreseeable future. The livestock industry has its critics on environmental, health and animal welfare, but no one can say this boom-to-bust cycle is a good thing for anyone. Also unpalatable is the likelihood of food price increases as this weather disaster works its way through the food chain.

The U.S. is the world’s largest corn exporter, which means these developments have global implications, including right here in Canada, where the hog sector has been thrown into another tailspin by the rapid rise in feed prices.

The UN is poised to call an emergency summit to discuss the implications of a pending spike in food costs. Not only do these developments push the world’s poorest down the food chain, they have a politically destabilizing effect at a time when the world’s political and economic status is already wobbly.

The easy target in all this is ethanol. Demands are growing for the ethanol-blending mandate to be reduced or waived until the supply shortage has passed.

But is ethanol the problem, or is it a lack of buffer stocks?

The free market philosophy shuns the idea of maintaining emergency stocks because it dulls the ability of the market to moderate demand through price signals.

It’s true that in the past, the vast stockpiles accumulated under European and U.S. farm policies were counterproductive. Governments were propping up domestic prices by buying up the excess and either storing it, giving it away as food aid or eventually dumping it on the world market in a failed attempt to buy market share. But they also served as a buffer against shortages.

Not the first drought

U.S. agricultural economists Daryll E. Ray and Harwood D. Schaffer point out that this month’s USDA World Agriculture Supply and Demand Estimates forecast a 10.1 per cent reduction in corn utilization against a 12.8 per cent reduction in production.

But they point out that there have been droughts before. For example, the corn harvest in 1980 was 16.3 per cent lower than a year earlier but cuts in export and feed use fell by only 4.2 per cent. In 1983, a combination of reduced acreage and drought resulted in a corn harvest that was 49 per cent below the year before, but “Even with half a crop, corn utilization declined by a mere 7.7 per cent and corn exports matched the 1982 level.”

In 1988, corn production was 30.9 per cent lower than in 1987 while corn utilization dropped by 6.4 per cent. In 1993, the corn crop was down 33.1 per cent and use by 10 per cent.

The difference between then and now was buffer stocks. The U.S. entered into the crop year in those earlier droughts with more than two billion bushels in a combination of private and government stocks.

The programs that maintained these buffers are gone. Corn users are left to feel the full brunt of this year’s production shortfall. The most the U.S. government can offer its panicking livestock producers is to open up grazing lands in the Conservation Reserve.

Corn production could be back on track as early as next year. But if there is a significant decline in use because livestock herds have been depleted, it could take years for those herds to rebuild — which could result in price-depressing corn surpluses.

The idea of holding buffer stocks is hardly new. The Bible tells of Joseph interpreting Pharaoh’s dream of seven fat and seven lean cattle as a sign to gather grain from seven years good production from the seven poor ones to follow. Ray and Schaffer’s analysis shows that the effect of past droughts was mitigated by holding buffer supplies.

In the face of more market volatility — caused by rising demand, increased speculation, and more severe weather — having a few million extra bushels around is a good idea.

About the author

Vice-President of Content

Laura Rance

Laura Rance is vice-president of content for Glacier FarmMedia. She can be reached at [email protected]

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