Hardly a day goes by without another report from another government agency arguing that everybody’s doing it wrong and if only we’d take this agency’s advice, everything would get better. Yesterday was a bonus day, with two such reports. One from the Obama administration announcing a $250 million loan program from the US Department of Agriculture to help modernize the US electricity grid.  That’s swell, but cost estimates for upgrading the US grid come in at around $500 billion.

Yesterday’s other report came from a blizzard of acronyms, headed by the UN Food and Agriculture Organization, on high food prices and what can be done about them.  The report lists no fewer than 10 reasons for the recent price volatility in food prices. Assuming that the report lists its reasons in descending order of importance, the first reason for high food prices is growing population and wealth in emerging nations.

The second reason is demand for food and feed crops for the production of biofuel. According to the report, from 2007 through 2009 20% of the sugar cane crop, 9% of the vegetable oil and coarse grain crops (which includes corn), and 4% of the sugar beet crop were used to make biofuels. The report also cites a study that claims international prices for coarse grains will rise by 13% in the next several years, and vegetable oil prices will rise by 35% as a result of the demand for biofuels.

Then the report hits the money quote: “Moreover, as long as governments impose mandates (obligations to blend fixed proportions of biofuels with fossil fuels, or binding targets for shares of biofuels in energy use), biofuel production will aggravate the price inelasticity of demand that contributes to volatility in agricultural prices.”

Mandates and subsidies drive high prices by creating an arbitrary level of demand that would not otherwise exist. If mandated and subidized biofuel feedstocks compete with food, the winner is selected before the race is even begun.

The report offers a solution and the policies that need to be overcome for the solution to work:

“Removing the policies that create conflict between the use of crops for fuel relative to food and feed and which increase price volatility is the most efficient option. This suggests that biofuel mandates should be removed, along with subsidies and trade barriers. Governments are reluctant to take these steps for various reasons. They may not want to forego the environmental or energy security benefits they believe the policies generate, or they may not want to see the substantial investment that has already taken place in biofuel production under-utilized.”

About 5 billion bushels of the US corn crop is headed for the country’s gas tanks this year. That’s 40% of the total harvest. And every grain is mandated and subsidized.

At the end of this year, the US corn-ethanol subsidy is set to expire while the mandate for production will live on. Expect a lot of sound and fury from the biofuel makers and trade associations. It is also  reasonable to expect that the Obama administration and the Congress will cave-in to the biofuel industry. It is, after all, the beginning of an election season.

Paul Ausick

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