Last year, with corn bouncing around $3.70/bu, I wrote an essay called The Mythical Ethanol Threat. I noted the number of new ethanol refineries under construction, and predicted that overbuilding would lead to additional ethanol mandates (which it did). I wrote – Note to self: Corn futures to double again by 2009.
Today corn for September delivery traded at $7.50/bu. Corn for later delivery flirted with $8/bu. Why has this happened? Lots of reasons: Increased demand due to the ethanol mandate, increased costs due to sharply higher fuel, fertilizer, and pesticide prices (all due to higher oil prices), and now decreased supply is the icing on the cake. As I warned in Unintended Consequences, all it would take was a natural disaster in the Corn Belt to push corn prices up very sharply. Surprise! We have our natural disaster in the form of Midwestern flooding.
Our esteemed political leaders have set up a situation with corn analogous to the situation with oil. As spare capacity dried up, the oil markets became volatile. Prices have climbed as spare capacity eroded. (See Peak Lite Revisited for a graphical explanation). If for some reason a million barrels of oil went off the market, you could easily see prices race past $200/bbl because there are no producers who can step in and fill the shortfall. This is now the situation with corn, where the biofuel mandates have assured that continued record harvests are the only hope against sky-rocketing prices. We now see what happens when the record harvest fails to materialize – there are no producers who can step in and fill the supply gap. That is a recipe for volatility, and rapid price increases at the first sign of trouble. Get used to it – as well as more rationalization from the ethanol lobby that the mandates aren’t impacting food prices.
“If for some reason a million barrels of oil went off the market, you could easily see prices race past $200/bbl because there are no producers who can step in and fill the shortfall.”
But adding a million barrels(your last post) a day would only shave $2 off the price of oil? I don’t understand how that works.
I think because the million barrels in the EIA analysis wouldn’t be added for another 10 years or so – and demand is presumably growing during that time. If you dumped a million barrels on the market today, I think it would cool prices in a hurry.
RR
The USDA and corn state politicans still cling to the belief that ethanol is not having a big impact on corn prices. But I think you have hit on the fundamental problem. The ethanol mandates assure that a certain amount of corn MUST go into gasoline regardless of price. Those bushells are just not available for other uses, reducing the available supply.
On the other hand, environmentalists would have you believe that opening new US acreage for exploration would have NO impact on crude prices. I’ve talked to a number of our traders who have said that a reversal in policy would immediately be factored into the market, putting downward pressure on prices, even though the oil would not hit the physical market for a number of years.
The low prices of the late 1990s came at a time when there was just 2-4 million barrels of excess capacity on the market. Adding 1 million barrels per day out of ANWR would have the same impact.
I have wondered about small “excesses” in global oil demand driving up worl oil prices. The price is set at the margin, and the marginal price by the most-hungry buyer. So, if we have excess crude demand of 1 mbd, the market rations demand, and oil skyrockets.
So what if global oil demand fall in 2008-2009 by 11 percent, as it did after the oil spike of 1979-80?
Do we see an oil price collapse? Even a five percent decrease in demand would mean about 4 mbd.
Last year, global demand up 1.1 percent. This year? Hard to imagine it will budge at all, given a doubiing of oil prices, and USA demand cratering. And 2009 — the down year.
Peak Demand — the Big Story.
RR has shown us the way: Ethanol is not the answer. Shale might be, jatropha, and EV cars — plenty of answers, and they are coming.
There are only two outlooks: Either oil comes down, way down, or demand comes down, way down.
If you are religious, you might want to pray for the success of the Volt.
yeash.
Explain why corn was $3/bu in 1973.
…or why in 1973 you could trade a bushel of corn even for a barrel of oil?
Pumping a barrel of oil has somehow increased by 40x, but effort to grow a bushel of corn has only increased 2.5x.
I think you are off an order of magnitude on what food should and will be worth when oil is no longer “cheap” and “plentiful”. It’s just lag and it will continue to lag because a farmer has no way to pass higher input costs onto consumers until enough of them go broke to cause a shortage in the commodity.
I think you are off an order of magnitude on what food should and will be worth when oil is no longer “cheap” and “plentiful”.
But, we have made a difficult situation much more difficult with the mandates.
By the way, I have spent a good chunk of my afternoon browsing through farmland in Texas and Oklahoma. I keep vacillating on whether to go ahead and buy 160 acres. On the one hand, I have access to a few hundred acres that isn’t that far away. On the other hand, I would feel a lot better if I owned some of my own.
RR
My opinion:
Your Dad knows first-hand what happens to a farmer when input costs jump. There is no way to pass the extra cost onto the consumer. The commodity prices won’t reflect the increase in diesel/fertilizer/chemical/machinery with $140/bbl oil for several years.
A lot of farmers are going to have to go broke or lower inputs and yields to cause a shortage for increased oil price to truly reflect in commodities.
I would think that if we really are entering “Peak Lite” and oil isn’t going to burst it’s bubble, it’s not the best time to buy farmland. There are going to be bankrupt farmers by the busload before commodity prices reflect the hyper-inflated input costs.
If oil bursts the bubble, I am having a hard time figuring out how they are going to run an ethanol plant on $10/bu corn and compete with “cheap” gas. Mandates or not, you can make ethanol out of other things besides corn.
Either way, I have a premonition that land prices are going to go down not up in the next couple of years and then skyrocket after that.
I seem to leave more comment wordcount than your original essays lately. It’s been a rainy week…
In this essay you quoted your Unintended Consequences as saying that a crop failure would spike prices. That’s not actually what you said in the “Unintended Consequences” essay, it was “If there was a major Midwestern drought that caused the corn crop to fail, it might cause a reevaluation of the policy as corn supplies disappeared.”
I said in a comment in Debunking Robert Zurbrin a month later: “I don’t think corn ethanol is going to go away just by the fact that it doesn’t make any sense. The only way I can see it happening is if there is a serious corn crop failure in the US and the price of feed corn adjusts severely.”
The crop failure hasn’t actually happened and there isn’t a feed corn shortage, it’s just speculation on a crop failure pushing up the corn futures.
Neither of us were exactly predicting the future, because we didn’t account for increase in commodity investment from $13b in 2003 to $260b in 2008.
You could put out a press release today saying “Farmer John says his corn ain’t lookin’ as good as the crop back in ’04” and drive up corn for delivery 3 months in the future by $0.50/bu.
There is a comment by a jackson42000 attached to your Midwest Flooding link that sums it up:
Tommorow’s Headline
“Crude prices skyrocket to $200/barrel on concerns of Martian satellites. A third grade class studying the solar system saw something in the sky that appeared to be a satellite when looking through high powered telescopes. When asked how the kids knew it was from Mars, one of the kids said, “because it was red.” A Morgan Stanley spokesperson confirmed the story and added that if indeed the satellite were to hit earth, there is a 99.9% chance of it landing in Saudi Arabia or in the already volatile country of Nigeria. This set off what is being classified as “Crude Friday” in which prices of crude oil soared to a record of $200/barrel. Prices are expected to continue it’s upward march next week as migratory whales are heading into the gulf coast region of the US. There is uncertainty of whether the oil rigs of the coast will be able to remain upright due to the extreme vibratory sonar the whales give off while in the migratory pattern. Gold was up $15.00 to close at $950 an ounce.”
Why are we picking on corn,when every commodity out there is going through the roof? We say all the food commodities skyrocketed because everyone wants to grow corn. Is that why all the metal prices soared,because everyone wants to pan for gold? Did coal and natural gas quadruple because everyone is hunting for black gold? I don’t get the logic. Find a commodity that hasn’t doubled a couple times in the last 5 years. Go ahead….I dare ya. No fair picking potatoes,LOL.
Btw,oil is 7X higher than it was 7 year ago. If not ethanol,then what?
If we quit using ethanol tomorrow,we’ll need 500,000 more barrels a day of oil. If a million more barrels causes a jump to $200 a barrel,what does half of that do? Maybe 175? Say what you want about the energy ratio to make ethanol,but those farmers will burn the same amount of fuel next year with or without ethanol.
$7.50 2008 prices. Still not high enough. 🙂
Robert “Pimentel Jr” Rapier must be running out of envelopes by now.
Stop eating so much red meat you fat amerikkkan slobs.
Well Robert, seems you’ve attracted quite an assortment of new readers since I last visited your blog.
Maury said: “but those farmers will burn the same amount of fuel next year with or without ethanol.”
Are you sure about that? Are you saying total acreage has to be the same year after year? And what of the fertilizer requirements of planting corn vs. say oats?
If we quit using ethanol tomorrow,we’ll need 500,000 more barrels a day of oil.
No we wouldn’t. Instead of focusing our energy on mandating E85 pumps, E85 vehicles, and such, we could expand the CNG fleet. Of all countries, Brazil – which we think of as ethanol country – has 8 times the CNG fleet that we do (yet with a smaller population). While we use our natural gas to recycle into ethanol – competing with food, they use their natural gas to fuel buses, cars, and public transport.
I saw the same when I was in India; lots of the public transportation ran off of natural gas. Instead, in the U.S. we take a BTU of natural gas, diesel, and gasoline, and turn it into roughly a BTU of ethanol, using corn as an intermediate. It’s a great program for helping farmers, but not so great as an energy policy.
RR