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Food vs Fuel…The Ethanol Debate

 

Ethanol has been produced in the Midwest for over 30 years now, with some of the early plants being built back in the '70s. Since production of ethanol began, there has been a debate as to whether or not the production of ethanol provides a net energy gain. Most recent studies from the U.S. Department of Energy and the U.S. Department of Agriculture indicate that ethanol today provides a 67% net energy gain, a number that continues to improve every year.

 

The opponents of ethanol, perhaps realizing that the fight over net energy gain is being lost, have taken a new tact. Over the last 2-˝ years we have had rapidly increasing grain prices, and shortages of certain types of grain around the world. During the last few months, there has been a well orchestrated campaign to blame ethanol production for 100% of the increase in grain costs from grain shortages around the world leading to increasing food costs.

 

Grain prices have doubled in the last two years. The demand for corn to produce ethanol has played a factor in that price increase. A University of Nebraska at Lincoln agricultural economist's study indicates that ethanol is responsible for about 40% of that increase. Doubled grain prices contribute about 3% to the increase in food prices; 40% of 3% would indicate that the new demand for corn to be used in ethanol production has caused 1.2% of the current increase in food costs.

 

A report published by the Federal Reserve Bank of Kansas City, authored by Jason Henderson, Assistant Vice-President and Omaha Branch executive, shows that in 2005 farm commodities accounted for 20% of retail food costs, down from 41% in the 1970s. In other words, for every retail dollar spent on food by the consumer, 20˘ goes towards farm commodities. This amount is less than half of what it was three decades ago.

 

In 2005, for example, 45% of retail beef costs and about 25% of retail fruit and vegetable costs went back to the farm. In contrast, commodities accounted for only 6% of retail cereal and bakery costs. As an example, the USDA reports that farmers receive 19˘ from every dollar spent on a bag of wheat flour, but only 5˘ from a dollar spent on a loaf of bread, and just 4˘ from every dollar spent on a box of corn flakes. So, as you can tell, a much greater percentage of the cost of meat, vegetables and fruit are determined by the farm price of those products. The food bill of poor people in poor countries however is more sensitive to grain prices, simply because grain constitutes more of their food, and food takes more of their income.

 

Some have argued that cattle and hog prices are up due to the higher price of corn, leading to higher meat prices. In reality, cattle and hog prices have not increased in relation to grain prices, as there is not a direct correlation between the two. Eventually, as grain prices remain high, the cattle or hogs on feed numbers will go down, which will lead to fewer cattle and hogs going to market. This will eventually lead to higher prices, but it is certainly not an immediate effect, and it has not been seen yet at this time.

 

Information from the National Corn Growers Association indicates that 8% of the corn crop currently produced is used for human consumption. The number one use for corn is still livestock feed, and since ethanol production utilizes only the corn starch, the protein is concentrated as a livestock feed product and remains available for that purpose. Simply put, a bushel of corn being used for ethanol does not take that entire bushel out of the food chain for livestock. In fact, the dried distiller's grain (ddg), which is a by-product of the ethanol production, is widely used for cattle feed throughout the United States.

 

So, what is causing food prices to increase?

 

Additional information from a study produced by the Federal Reserve Bank indicates that in 1950, marketing costs (the difference between the farm value and consumer spending for food at grocery stores and restaurants) accounted for 59% of total retail food costs. Over the past three decades, rising labor and energy costs have boosted that share steadily from 67% in the 1970's to over 80% today.

 

Labor costs have emerged as the biggest component of the retail food dollar. Labor is used to process and manufacture food, serve food at restaurants, and sell food at supermarkets and other food stores. Labor costs have risen as people have consumed more processed and prepared foods and increased away-from-home food consumption.

 

Most studies indicate that a great deal of the recent inflation in food costs has come about because of increasing energy costs. Energy prices today are a very large component of the retail food dollar

 

Another factor affecting food costs is demand. With expanding global populations, and improving economies in those developing countries, there is a desire for an increased standard of living. In many underdeveloped countries of the world, an increase in the standard of living means something very basic, an increase in the amount of protein that they have to eat. The most common form of protein is meat, and many countries need to import grain in order to produce more meat, as they are unable to produce enough grain on their own. This global demand is another major factor in the rapid increase in grain prices the last 2 ˝ years. Global demand has also been fueled by the weak dollar in relation to other currencies.

 

There have also been weather problems causing rice and wheat crop failures in different parts of the world. Over the last ten years, global grain stocks have been drawing down. Right now, any weather problem in any part of the world can cause the markets to react quickly. While we have adequate supplies of grain to satisfy demand at this time, we also need to continue to produce a good crop, and increase our production every year.

 

The technology is available to satisfy the demand of consumers around the world for food. Many countries have been reluctant to adopt that technology for political reasons, protectionist reasons, or in some cases, consumer concerns. The current prices and spot shortages are forcing more and more countries to rethink their policies concerning use of new technologies that would increase their crop size.

 

Demand has increased in the past and tested agriculture's ability to produce. But, as in the past, I feel that the United States farmer, as well as farmers around the world, will be able to continue to make the rapid gains in technology that will allow them to increase production while still being good stewards of the land.

 

For more information on this topic, as well as other rural and farm issues, check out the landowner news area on the Farmers National Company web site, or go to the Federal Reserve Bank of Kansas City web site, their section, the Main Street Economists. The web address is www.kansascityfed.org/regionalaffairs/mainstreet/MainStMain.htm .

 

Jim Farrell, FNC President/CEO