Food or fuel? This is the decision that policy makers appear to be facing in light of the U.S. government’s announced policy to increase the production and use of ethanol as fuel in the United States. Right now, the corn acreage destined for ethanol production in the U.S. is part of the same corn production that feeds consumers, and livestock, here and abroad.
This ethanol policy adds to the existing demand for corn, and is already making corn relatively more scarce. As the demand for corn for all purposes increases, so does its price. If producers and consumers respond by switching from corn-based to wheat-, oat-, or rice-based products (and some will), they will raise the demand for these grains and increase prices in those markets as well. Where corn is an input in other production, costs will rise.
How should policy makers come to a decision on this weighty topic? Whether or not they should weigh in, the fact is that they have. Among other things, it seems inevitable that corn acreage will increase as the ethanol policy is implemented. This would reflect a sound reallocation of resources if it were the result of risk-return calculations using market data. But the nature of centrally-directed industrial planning is to leave market data out of the calculation process. A food vs. fuel dilemma somewhere in the future of this policy is not entirely out of the question; still, the policy has appeal.
Greater production of corn for fuel, taken as freedom from petroleum dependency and/or responsible environmentalism, sounds appealing to many folks, and the use of ethanol for fuel is far more extensive outside than inside the U.S. In Brazil, ethanol fuels about a third of all vehicles in the country, vs. 3 percent in the U.S. A half billion gallons are exported yearly from Brazil, whose ethanol export customers include the U.S.
If the goal is that the U.S. become energy independent, however, we will have to eschew both oil and ethanol imports. That means devoting more and more domestic agricultural assets to the production of corn for conversion to ethanol. We should consider both the vulnerabilities and the trade-offs associated with this decision. If this is not our comparative advantage, we incur more opportunity costs than benefits in the process.
Increasing U.S. corn production means decreasing other kinds of production as well, not exclusively in agriculture. A shift in the structure of energy production toward ethanol, and away from petroleum-based fuels will create changes throughout our existing economy. That means that incomes, prices, products, and available consumer choices will be adjusting as the value of our resources (including labor) changes. Increases in the value of some resource uses, and decreases in the value of others are bound to occur. Will Iowa, Illinois, Minnesota, Nebraska and Indiana be our next economic and industrial boom states?
The policy to significantly bump up ethanol production derives from a complex brew of ingredients, some economic, some not. Into the policy mix have gone fears about U.S. vulnerability to foreign oil producers, and an extreme aversion by U.S. environmentalists to exploration for, production, or refining of additional domestic oil. Add to that a pervasive attitude of paternalism toward the American consumer, and an often unapologetic disdain for capitalism and its (some would say horrible) progeny, the profit-seeking American business.
The more economic assets the government directs (or creates ‘incentives’ to direct), the less economic freedom its citizens enjoy. Government policies crowd out individual choices and eliminate market-directed alternatives. And since policy often has economic as well as non-economic objectives, we cannot be certain that policy decisions reflect sound investment and production strategies.
Key ideas, missing in energy policies such as the new ethanol proposal, are that authentic market information as well as incentives matter in creating economic opportunity, wealth and prosperity throughout a nation. It’s part of the mystery of capital and capitalism.
More on this in another Minute.