Dueling Lobbyists, Ethanol Exports, & Bankrupt Farmers
Ethanol prices are at record lows, changes in the Renewable Fuel Standard and trade policies will directly impact the price going forward.
Low ethanol prices have made it difficult to be in the ethanol industry. The leading causes of low prices are more ethanol production and smaller ethanol markets. Low commodity prices across agriculture, are a leading cause in significantly higher farm bankruptcy rates in 2018. This trend that will likely increase in 2019, with farm income expected to fall into negative territory.
Ethanol production grew by three billion gallons or 21% over the past decade. Ethanol demand is highly influenced by the U.S. Environmental Protection Agency (EPA) policy changes and export levels, which are uncertain because of higher trade tensions and increased counter-tariffs targeted at American ethanol.
Let’s start from the beginning. Ethanol is a renewable fuel source that is made from corn and other plant parts. When you buy gasoline that has an E10 sticker on it, it contains 10 percent ethanol and 90 percent gasoline. Of the 90 million acres of corn planted every year in the United States, approximately 25 percent of the acreage was grown for ethanol production.
The amount of ethanol blended into gasoline is dictated by the Renewable Fuel Standard (RFS). You may have heard about RFS in terms of the Iowa presidential primaries. This regulation is always a major talking point among presidential candidates in Iowa. In season six of the West Wing, the episode “King Corn” is about all of the candidates taking a pledge to support ethanol. Candidate Matt Santos did not take the pledge and that was one of the reasons he lost the primary. Supporting ethanol or supporting the RFS will directly help farmers and hurt oil refineries.
Throughout the Trump presidency, the ethanol and oil lobbies have been fighting over the blending requirements in RFS. The zero-sum nature of the situation puts Trump in a difficult situation with his supporters and congressional leaders representing corn and oil states.
Under Trump, the EPA has issued more exemptions to small refineries. This lowers ethanol demand since refineries don’t have to blend with ethanol. When the price of ethanol is higher than gas, refineries do not want to include the ethanol because it raises their prices. If refineries are not legally required to blend ethanol, they won’t because of the higher price and then the demand for ethanol drops.
There is currently a debate within the government about moving to E15 year round. This would increase the amount of ethanol in gasoline and help farmers. Currently, E10 is used in the summer because the extra ethanol is blamed for smog in the hot summer months. Because of the government shutdown, it is unlikely that the new E15 requirement will go into effect before the busy summer holiday driving season starts. Meaning ethanol demand will not increase.
Changes to these rules have a real and immediate impact on ethanol demand and corn prices, which translates to farmer incomes.
The United States also exports ethanol. In 2018, the biggest markets for U.S. ethanol exports were Brazil, Canada, India, and China. Final data from 2018 is not available yet. However, through November, U.S. ethanol exports increased over 2017 exports. Brazil purchased more ethanol and China purchased significantly less.
China only bought American ethanol in the first quarter of 2018. In April, China raised the tariff on American ethanol by 25 percent. Chinese imports would now have to pay a 40 percent tax. At this rate purchasing U.S. ethanol was cost prohibitive. Even though sales were zero, China placed another counter-tariff on American ethanol in July. This was in response to the American tariffs on $200 billion worth of Chinese goods. Agriculture exports, including corn, are extremely important to American farmers. Adding the new tariff may have been more symbolic than anything.
In the first quarter, China purchased about 50 million gallons of ethanol. Then, exports to China stopped. The 2018 export data suggests that American ethanol producers found new buyers since total exports didn’t decline. Data from the Chinese government shows that China started importing ethanol from other sources. Interestingly, some of that ethanol came from Indonesia and Malaysia, two countries that do not produce ethanol domestically.
When Chris Prentice and A. Ananthalakshmi from Reuters reviewed the Chinese import data, they determined that a ship containing American ethanol that started in Texas stopped in Malaysia where the contents were blended with other ethanol sources and are ultimately taken to China. So, China is still purchasing some American ethanol and American ethanol companies are still exporting ethanol. It’s just being done in a way that avoids tariffs.
China, Indonesia, and Malaysia are all members of the Association of Southeast Asian Nations (ASEAN). ASEAN is a trading block with preferential tariffs. This agreement allows Malaysia to sell ethanol to China with no tariff. Malaysia can also purchase ethanol from the United States tariff-free. So, the Malay are bringing in U.S. ethanol. They are mixing it with 40 percent domestic ethanol. Once the mixing is complete, the blended ethanol is officially Malaysian origin and can be sold to China tariff-free.
Beijing must be aware of this loophole. However, China needs the ethanol and the trade truce between the United States and China is giving Beijing political cover to indirectly purchase American ethanol. If tensions rise again, China will likely close these backdoor sales. This will likely decrease the demand for American ethanol and put additional pressure on the price.
Prices are still low
Ethanol production has increased by 20% over the last decade. Today, prices sit at a ten year low. The University of Illinois estimates that 2019 average net loss on Illinois grain farmers could be $55,000 per farm. This is a much lower income than we saw during the 1980s during the height of the farm financial crisis. This is aligned with the recent rise in Midwest farm bankruptcies, even though farm incomes were positive in 2018.
The price of ethanol and the profitability of corn (and soybean) farms will greatly be impacted by domestic ethanol policy (RFS) and international trade relations. If domestic or international demand drops further, corn/ethanol prices could drop even more, further reducing farm income.
Originally published at gns.pub.