The article, The New Corn Laws, published in the economist on September 15th 2012, (http://www.economist.com/node/21562912) is a criticism of government involvement in the agriculture industry. Due to simultaneous droughts in Russia, Australia and the United States, 2012’s agricultural harvest was bad and the world is experiencing its third spike in food prices in five years. While the article covers general global government policies, this essay will focus on the corn production issue covered in the article. The United States government’s meddling in the corn production industry when it is facing one of the biggest agricultural crisis to support ethanol production is having an adverse affect on the agricultural industry.
January 1st 2012 marked the day the subsidy for corn ethanol production, in the United States, expired. Ethanol had been subsidized by the United States government since the Energy Tax Act of 1978 granted $0.40 per gallon tax exemption for ethanol. The highest subsidy rate was $0.60 per gallon of ethanol but at the end of 2011, ethanol subsides expired at $0.45 per gallon of ethanol. However, the elimination of subsidies for ethanol has not solved the issue. The revised Renewable Fuel Standard (RFS2) ensures that annual production of 36 billion gallons of biofuel (which includes ethanol) is set to be obtained by 2022. This means that there will be annual increments to the production requirement and more corn will be used to produce ethanol annually. Estimates suggest that over 40% of the corn production in the United States (equal to 27% of the corn in the United States after 1/3 of 40% is returned as feed grains. Also, equivalent to 10.8% of the world’s corn) will be used for ethanol production. Also, due to the droughts, food prices including the cost of corn has risen. From June to August of 2012, price of corn went from $5.10 to $8.39 per bushel of corn. The estimated corn production of 2012 is estimated to be 10.7 billion compared to 12.4 billion bushels in 2011.
To start analyzing the data above, we will start with the supply and demand of corn production. The United States government is continuing to apply government policies that dictate the demand of corn remains high due to 40% of corn production in the United States being used to produce ethanol. The graph below shows the demand curve of corn has shifted to the right due to RFS2.
Having 40% of the entire corn production taken away limits initial supply of corn. In addition, the global drought crisis means there is less supply of corn than estimated. The global drought and the RFS2 limiting corn has left corn supply severely diminished. Below is the supply and demand curve of corn.
On the left is supply and demand curve without the RFS2 and government limitations. D1 represents the demand curve and S1 represents the supply curve, both without restrictions. The graph on the right shows the supply and demand graph when the supply limitation and government policies are in effect. D2 represents the demand curve after it has shifted to the right due to increased demands by the RFS2. S2 represents the supply curve after it has shifted to the left due to the global drought crisis. Also note the difference between the price on the left (P1) and the price on the right (P2)
With the RFS2 ensuring continuous increase in demand for corn at least until 2022, new firms will enter the market however, black markets will also form due to the continual limited supply. In 2011, 90,200 jobs were created due to ethanol production however, RFS2’s continual increase in demand for corn in ethanol production shows there will continue to be limited supply of corn in the market. The global droughts in 2012 did not help as weather also factored into the lack of corn supply. The lack of supply of corn will lead to corn being sold in the black market. Limited supplies of corn will be sold at extraordinary high prices in the black market. A market needs to fluctuate to find the equilibrium but the RFS2 creating artificial demand by taking away 40% of the corn production in the United States is preventing the market find the true equilibrium.
In order to solve the corn supply issue, it is necessary to take action and perhaps even study success stories of foreign countries. The RFS2 needs to be abolished or reformed in order to compensate for the limited supply of corn. When RFS2 is abolished, 10.8% of the world’s corn supply will be freed from ethanol production. The artificial demand created by RFS2 will be removed and the United States and global corn market will be able to fluctuate to find the true equilibrium price. The United States could also learn from Malawi’s agricultural subsidies system. Malawi, which is one of the most impoverished countries in the world, has implemented a revolutionary agricultural subsidies program based on a voucher system. Malawi’s subsidies program, which is known as Farm Input Subsidy Program (FISP), has defied experts by tripling maize production within two years. From Malawi’s crisis of 2005, it is now a self sustained country. FISP limits two fertilizer coupon and one seed coupon per household based on a set criteria and given to eligible households. FISP cannot be directly implemented in the United States due to the difference between developing and developed world. However, it can be tweaked to take advantage of the advanced technological resources available to farmers in the United States. GPS technology in combination with soil sampling can be utilized to accurately pinpoint areas that need fertilization. There are more readily available genetically modified seeds to handle drought conditions. No till farming in combination with the usage of herbicides can also be implemented.
The combination of drought and harmful government regulations have lead to elevated prices and drastic reduction in supply of corn. One solution would be to abolish the RFS2 and allow the market to fluctuate naturally to find the equilibrium. Lessons from other countries like Malawi and combining it with modern technological advances available in the United States should be implemented to improve corn supply in this time of global drought crisis. Even using a combination of both can allow the United States to overcome the agricultural crisis. Foregoing ethanol production especially in a crisis such as the drought can improve overall economy of the United States as well as help out the agricultural industry.
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