OverviewBackground and ContextEthanol Policies and Policy Rumblings

Range of Policy InstrumentsRationales for Government ActionEmerging Criticisms

Assessment of the prospects for trade and trade disputes

ThesisFuel Ethanol has not been, is not, and, in our

assessment, is unlikely to be treated as a freely traded international commodity with production locations determined by comparative advantage or production levels determined by relative cost.

Policy measures to support ethanol are based on various forms of government intervention in the marketplace – regulations, subsidies, and trade restrictions, among others

There are plenty of grounds for trade disputes regarding ethanol, but no one would seem to have a clear motivation to initiate a complaint

Policy Measures Used to Promote Ethanol Production fuel excise tax exemptions production and blending requirements government-procurement preferences local tax breaks on property taxes or and state/provincial taxes accelerated write-off schedules biofuels-related capital tax exempt bonds subsidized loans or loan guarantees capital gains exemptions regulatory exemptions producer credits state/provincial/federal subsidies environmental legislation mandating certain specific types of fuel additives

(typically for fuel oxygen ation) government purchases of surplus agricultural stocks for conversion to bio-

ethanol agricultural farm supports

government supported R&D.

Ethanol Production Global production ~ 45 billion litres per year

Brazil ~ 16 billion litresUnited States ~ 16 billion litresCanada~ 230 million litresMexico ~ 50 million litres

Gasoline ConsumptionUnited States ~ 550 billion litres per yearCanada ~ 45 billion litres per year

Global Policy Context

USA:•Mandatory biofuel use of 7.5 billion gallons by 2012; primarily ethanol•Biodiesel potential huge due to only 1% diesel car penetration•Soybean oil - canola upcoming

Brazil:•B2 (2008) and B5 (2013) targets introduced•Aim: rural support (palm, castor oils)•Reality: primarily soybean oil; large-scale projects

The EU:•Largest producer; strong ambitions•Huge capacity; largest plants in the world•Rapeseed-based, but increasingly multi-feedstock

China: •Mandatory blend targets expected in 2007•Massive potential, but not realised

Australia: •Non-mandatory target by 2010•Canola, waste oils, animal fats

Argentina: •Legislation passed in 2006•Focus on soybean oil

Canada: •5% renewable energy target by 2010•Canola, waste oils

South Korea, Japan, Thailand, Philippines:•Various targets and initiatives•Small industries or imports

India: •Infant industry; policies under preparation•Jatropha-based

Malaysia & Indonesia: •Aim to set-aside 40% of palm oil production for biodiesel (aimed for exports – specifically to EU)•MAL: 5% blend (voluntary) of palm and diesel•IND: B2 mandatory target by 2008

Source: Susan Hansen, Rabobank

Rationales for Ethanol Policy1. Balance of Payments and Import Substitution

(Brazil and Mexico) 2. Anti-terrorism (United States)3. Reduce oil imports/consumption (Brazil and

United States)1. Reduce air pollution (United States and Canada)2. Reduce greenhouse gas emissions (United States

and Canada)4. Increase farm and rural incomes (United States,

Mexico and Canada)5. Infant Industry Argument (Canada)

Emerging (?) CriticismsNet Energy Balance

Reduction in Oil UseGHG reduction Anti-terrorism

Food vs FuelDistributional Effects and Efficiency of

Income TransfersAir Pollution Claims

Reduce dependence on foreign oil – borders on national security arguments (U.S.) Improve trade balance reducing imports of secondary petroleum products (Mexico)

•Net energy calculations suggest small gains at best•High cost way of reducing GHG emissions•Other emission results are mixed

Figure 1: Price of Crude Oil in Constant (2007) $US 1913-2007

0

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1913 1919 1925 1931 1937 1943 1949 1955 1961 1967 1973 1979 1985 1991 1997 2003

Year

Co

nsta

nt

20

07

$U

S p

er

Ba

rrel

May 8, 2007

2006 Average

Jan - Apr 2007 Average

Figure 2: US CPI Adjusted Gasoline Prices, 1970-2007 (2007 cents/gallon)

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50

100

150

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1970 1973 1976 1979 1982 1985 1988 1991 1994 1997 2000 2003 2006

Year

Pri

ce, A

ll T

yp

es o

f G

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07 c

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ts/g

allo

n)

May 7, 2007

2006 Average

Jan - Mar 2007 Average

Source: US Biofuel Outlook, Credit Suisse, May 9, 2007

Figure 3: Toronto CPI Adjusted Gasoline Prices, 1979-2007 (2007 cents/litre)

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120

1979 1982 1985 1988 1991 1994 1997 2000 2003 2006

Year

Pri

ce, R

egu

lar

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lead

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aso

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(200

7ce

nts

/litr

e)

May 7, 2007

2006 Average

Jan - Mar 2007 Average

Figure 4: Constant (Jul, 2006) Peso Mexican Gasoline Price Converted to $US, Jan 1996 - Jul 2006

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1

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3.5

Jan-96 Oct-96 Jun-97 Mar-98 Dec-98 Sep-99 Jun-00 Mar-01 Dec-01 Sep-02 May-03 Feb-04 Nov-04 Aug-05 May-06

Year and Month

US

$ p

er

Ga

llon

Premium

Regular

Figure 8: Supply and Demand for Gasoline and Ethanol - Increasing Marginal Cost of Gasoline

Quantity

Pri

ce

Notes:

MCeP = Marginal cost of ethanol (pessimistic view); MCe

O = Marginal cost of ethanol (optimistic view)MCg = Marginal cost of gasoline; MCg+t = Marginal cost of gasoline plus tax; D = Demand for gasoline/ethanol

MCeP

MCeO

MCg+t

MCg

D

Q*

Figure 10: Supply and Demand for Gasoline, Ethanol and Ethanol Blends (Blends Only Exempt From Tax on Ethanol Proportion)

Quantity

Pri

ce

Notes:

MCeO = Marginal cost of ethanol (optimistic view); S-50% Blend = Supply of 50% blend ethanol; S-20% Blend = Supply of 20% blend ethanol; S-10% Blend = Supply of 10% blend

ethanol; S-5% Blend = Supply of 5% blend ethanol; MCg = Marginal cost of gasoline; MCg+t = Marginal cost of gasoline plus tax; D = Demand for gasoline/ethanol

S-20% Blend

MCg

MCg+t

S-5% Blend

S-10% BlendS-50% Blend

MCeO

P0

P10

P20

P5

D

Figure 11: Supply and Demand for Gasoline, Ethanol and Brazil-Produced Ethanol

Quantity

Pri

ce

Notes:

MCeO = Marginal cost of ethanol (optimistic view); MCe

B = Marginal cost of Brazil-produced ethanol; MCeB+tarrif = Marginal cost of Brazil-produced

ethanol plus tarrif; MCg = Marginal cost of gasoline; MCg+t = Marginal cost of gasoline plus tax; D = Demand for gasoline/ethanol

MCeO

MCeB+tarrif

MCeB

MCg+t

MCg

D

P*

Q*

•Benefit to grain farmers is a cost to livestock producers•Capitalization of gains into land prices•Food vs fuel tradeoffs globally•Subsidy cost per “job created” is high•Competition among jurisdictions for facilities dissipates net benefits•Movement toward consolidation of ownership of ethanol plants

Source: CNA ith data from producer based organizations

* Essentially corn and sorghum** 60% average increase in price of feed grains

ProductsGrains as % of

tfeed costsFeed costs as % of

total costsGrains as % of

total costsImpacto of higher

grain costs

A B C=(A*B)D=(C* % of increase of

grain costs**)

Milk 40% 65% 26% 15.6%

Broilers 65% 62% 40% 24.2%

Eggs 60% 55% 33% 19.8%

Beef 65% 60% 39% 23.4%

Hogs 72% 56% 40% 24.2%

Impact of grain in livestock production: the Mexican case

Because corn is the major feedstock for ethanol, in North America less is becoming available for the animal industry and for export

Use and production of corn in the U.S.: % and million of bu.

2007 – estimación 2008 - proyecciónFuente: Rabobank con datos del USDA- ERS,

p

Use and production of corn in the U.S.: % of total use

Do we need to talk about this rationale to this audience?

Potential Trade Irritants?Differential levels of support and divergent

Policy Goals

Divergent Policy Goals

Drivers EU - 27 USSoutheast

Asia Rest of AsiaEnergy Security Medium - High High Low Medium - HighEnvironmental Concern High Low - Medium Low LowAgriculture Revenues Medium High High Low - Medium

Source: Rabobank

Table 2 Comparison of Ethanol Support Policies in Canada, Mexico and the United States

Canada Mexico United States Category of Support

Federal Provincial Federal Federal State

Import Duties $US 0.09/litre

Not Applicable $US 0.20/litre $US 0.142/litre Not Applicable

Excise Tax Exemptions and Income Tax Credits

$US 0.09/litre

Alberta $US 0.081/litre British Columbia $US 0.13/litre Manitoba $US 0.30/litre Ontario $US 0.132/litre Quebec $US 0.18/litre Saskatchewan $US 0.135/litre

Not contemplated in Bioenergy Law

$US 0.134/litre Illinois $US 0.079/litre Iowa $US 0.003/litre California $US 0.079/litre Indiana $US 0.03/litre

Capital Grants or Concessional Loans

Ethanol Expansion Program up to $US 0.03/litre

Ontario Ethanol Growth Fund up to $US 0.09 per litre of capacity

Ad hoc support from Federal Agricultural Infrastructure Fund

Operating Grants

2007 Budget $US 0.09/litre

Alberta $US 0.126/litre Ontario up to $US 0.099/litre

Minnesota $US 0.053/litre Texas $US 0.053/litre Wisconsin $US 0.053/litre

Blending Requirements

5% by 2010

Alberta British Columbia Manitoba 8.5 % in 2005 Ontario 5% in 2007, rising to 10% by 2010 Quebec Saskatchewan

No target given, but government will make effort to use blended fuel

Minnesota 10%

Potential Trade Irritants?Differential levels of support and divergent

Policy GoalsAmbiguous status of fuel ethanol

Agricultural good?Industrial good?Environmental good?Tariff categoryBlue, amber, green or black box?

Biotechnology Food vs Fuel

Figure 5: Index of Consumer Level Tortilla Prices and the Overall CPI in Mexico: Jan 2006 = 100

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Jan-06 Feb-06 Mar-06 Apr-06 May-06 Jun-06 Jul-06 Aug-06 Sep-06 Oct-06 Nov-06 Dec-06 Jan-07

Year and Month

Pri

ce In

dex

Tortilla Price Index

Overall CPI

Food vs Fuel Higher grain prices from

ethanol demand has continental and event global consequences

Runge and Senauer project that the accompanying price increases from the use of food products to produce biofuels will “exacerbate world hunger

They project an increase in the number of chronically hungry in the world of 600 million

Percentage of total household food expenditure on corn and corn products: I = 10% poorest, X = 10% richest households

Source: Rabobank with data from INEGI

Policy response

• Quasi price controls on tortillas (Mexico)

• Promotion of corn production (Mexico)

• Export prohibition

• Argentina

• Ukraine

• China

Potential Trade Irritants?Differential levels of support and divergent Policy

GoalsAmbiguous status of fuel ethanol

Agricultural good?Industrial good?Environmental good?Tariff categoryBlue, amber, green or black box?

BiotechnologyFood vs FuelWho would mount a trade challenge?

OPEC countries?South and southeast Asian countries who might be

future exporters?