Distributional Implications of U.S. Ethanol Policy*

Abstract

The U.S. ethanol industry is at a crossroads. In its favor is that Congress is poised to pass an increase in the renewable fuel standard (RFS) in the pending Energy Bill. Such an expansion would guarantee a market for all the ethanol that could be produced from plants currently operating and plants in various phases of construction. The industry desperately desires an expansion in the RFS because of a cost-price squeeze. Costs are up because the industry's rapid expansion (and the promise of more expansion in the future) has increased the cash cost of corn to $4.00 per bushel. Ethanol prices are down because of infrastructure bottlenecks and the need to compete with gasoline directly as a substitute rather than as a complement in a gasoline blend. The margin squeeze has reduced the financial incentives to complete all the ethanol plants that are under construction. But Congressional approval of an expansion of the RFS is not a certainty. The U.S. livestock industry has launched an aggressive public campaign against ethanol in an attempt to both forestall the RFS expansion as well as to rollback current government incentives. A large adjustment in ethanol production and corn prices would likely occur if the livestock industry has its way. The purpose of this study is to estimate the magnitude of the transfers and the associated welfare changes that are involved in the use of corn to supply a significant portion of the U.S. transportation fuel supply. To accomplish this objective requires estimates of prices and quantities with and without ethanol. There are few existing studies on this topic. Gardner recently estimated the welfare analysis of ethanol subsidies relative to a deficiency payment program for corn farmers. He analyzes the removal of the $0.51 per gallon blender's tax credit in both the short and the long run. He concludes that in the short run, the