Another Plant?!...The Rapid Expansion in the Ethanol Industry and its Effect all the Way Down to the Farm Gate.

June 5, 2006

Summary
 

With more than 2 billion bushels of new crop corn destined for an ethanol plant somewhere in the US, corn prices, cropping patterns, and community economics around ethanol plants are in a state of flux. As farmers move their ethanol conversations from pickup trucks along rural roads, to coffee shops, to board rooms of new generational cooperatives, the dynamics of “the golden age of ethanol” has become a force to be reckoned with in Midwestern agriculture. Is that force behind you, against you, or do you really know?

If ethanol demand continues to multiply as it has the past several years, will we have enough corn to supply the demand? If Chinese demand for corn accelerates as export interests have predicted, will we have enough corn to supply the demand? How will a battle between ethanol and exports impact the Midwestern corn grower? Ag economists Josh Roe at Kansas State University and Bob Jolly and Bob Wisner at Iowa State University look at those questions and many others in their work: “Another Plant?!...The Rapid Expansion in the Ethanol Industry and its Effect all the Way Down to the Farm Gate.”

The trio of analysts says status quo will not work. Congress has mandated 7.5 billion gallons of ethanol production by 2012—that is 6 years from now. They say, “If corn production grows at the rate of trended yield predictions and acreage remains at the 2005 level, corn available for export falls to 0.1 billion bushels by 2012.” In other words, that leaves only 100 million bushels available for export, when the current export volume is two billion bushels.

Among their concerns is our ability to expand corn production. Bringing marginal land into production will produce only marginal yields. Planting corn after corn will yield 10-15% less per acre, so expansion of corn acreage will not produce bushels at the same volume as our current corn acreage does. Chinese demand for corn could consume substantial quantities of bushels that require extra acres. Roe, Jolly, and Wisner say a 300 million bushel per year Chinese demand, with a 5% annual increase, would require US farmers to plant nearly 14 million acres of additional corn.

With an average of one new ethanol plant being announced every week in the Midwest, economics of alcohol production from corn apparently are in the black. Based on ethanol market prices in the past year, Roe, Jolly, and Wisner say, “The breakeven corn price is $4.29. In other words, with ethanol at $2.11 the plant could afford to bid up to $4.29 a bushel for corn and still have a positive net-margin.” $4.29 is higher than any predictions for corn prices to reach in the coming year. The analysis looks at a variety of ethanol and corn prices to reconcile their profitability of the industry, but acknowledges that ethanol prices are related to oil prices the speculation ends there.

But what are the implications for the corn grower? Second year corn brings a lower yield, plus input and operational costs are higher than for a 50-50 corn soybean rotation. Based on current input costs and a $5.15 market price for beans, the ag economists calculated that at a $2.86 corn price, it becomes viable to switch from a 50-50 corn-bean rotation to a rotation with 2/3 corn; and at $2.91, it becomes viable to switch to 100% annual corn acreage, given yield drag from the lost rotational benefits. Those prices drop to the $2.50-2.57 range when fungicide costs are added to protect from Asian soybean rust, and lower still if Asian rust is present and reducing soybean yields.

There are some asterisks that Roe, Jolly, and Wisner added:
1) Cropping patterns will require adjustment if government program payments change.
2) Fluctuations in petroleum prices will cause fluctuations in the desire to expand construction of ethanol plants, and the price of oil will dictate how much ethanol plants can afford to pay for corn and remain profitable.
3) The loss of the $.51 cent ethanol tax break will reduce the demand for ethanol as a gasoline additive.
4) Any breakthrough to reduce the cost of biomass conversion to ethanol will have an impact on the demand for corn as the ethanol feedstock.
5) Any reduction in the cost of fuel cell technology will also impact the price of ethanol, and subsequently the demand for corn.

Summary:
The corn grower is in an enviable position, with the increasing demand for corn to produce ethanol, and the expected demand by China for significant increases in corn imports; both of which will underpin corn prices. The question becomes: will the US be able to produce enough corn to meet the expected demand, and at what market price do corn growers begin to switch alternative crop acres into corn. The trio of ag economists expect the ethanol industry to remain profitable because of oil prices, and for then ethanol plant operators to be able to offer prices that will encourage those acreage switches. Currently, the price guarantees are not there, but are expected to be in coming crop years.