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Essay: Neil Harl on the Ethanol Boom

posted on October 16, 2007 at 3:33 PM

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Ethanol has been much in the news of late and for good reason. It’s been driving the state’s commodity prices to levels not ever seen. But with an eye on history, seasoned Iowa State Economist Neil Harl cautions that gravity also applies to bull markets.

The recent run-up in commodity prices for corn, wheat, and soybeans has resulted in almost unbelievable increases in cash rents and in land values. While not exactly unprecedented, it is certainly unusual. The sales in 1972 of the very same commodities to the Soviet Union touched off a decade-long boom in the agricultural sector that ended with the farm debt crisis of the 1980s.

The major driving force this time around is the sharp increase in demand for corn because of ethanol production. That has pushed the other commodity prices up as fulfilling the demand for the other commodities, particularly soybeans, involves competing for land for production. But will it last? That is the key question.

The future of ethanol production depends upon three key factors.

The first is U.S. energy policy. Right now that policy is friendly to ethanol production. But as we learned in 1981, plans for alternative fuels projects were quickly shelved when the political winds shifted. That could happen again, especially if peace breaks out in the Middle East, which right now does not appear likely.

Second is the economics of ethanol production itself. With corn at $2 per bushel and crude oil at $70 a barrel, ethanol was very profitable. With corn hovering around $4 and oil in roughly the $80 range, the picture is a great deal different. Oil at $40 per barrel would place an even greater brake on ethanol production. Ironically, success in ethanol production carries the seeds of a slowdown in investment in new plants as increased ethanol output boosts corn prices.

Thirdly, and probably most importantly, the future of ethanol is heavily dependent upon technology. We’ve never had as much economic incentive to develop and implement new technologies as we have currently. Some of the technologies are already known, ethanol from cellulosic materials, hydrogen (with vehicles expected in 2008 powered by hydrogen), solar, wind energy, and a return to more emphasis on nuclear, to mention just a few. Others will likely emerge over the next few years.

So what does this all mean for farmers, landowners who stand to be the major beneficiaries of the economic benefits of ethanol and for the country? Enjoy the boom, don’t spend it all. And avoid making decisions that could not be sustained if commodity prices drop back to near historic levels.

Tags: agriculture alternative energy biofuels economy energy policy ethanol Iowa markets renewable fuels


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