Macroeconomics concepts and applications

Ethanol

Macroeconomics

Explain how the market for corn would be affected if ethanol, a corn derivative, was used to fuel cars in the United States. How would the market be affected if a new technology caused corn farming to be more efficient?

If ethanol, a corn derivative, could be used as an effective fuel for all cars, the market for corn would be transformed. Demand for corn is already strong, given the applicability of corn in a variety of products, such as sweeteners and fillers, as well as the market for corn and cornmeal. The demand for corn increased exponentially when ethanol began to be used in even relatively limited amounts, and the U.S. government began exploring replacing conventional fossil fuel with ethanol. "As of February 2006, the annual capacity of the U.S. ethanol sector stood at 4.4 billion gallons, and plants under construction or expansion are likely to add another 2.1 billion gallons to this number...If this trend and the existing and anticipated policy incentives in support of ethanol continue, U.S. ethanol production could reach 7 billion gallons in 2010, 3.3 billion more than the amount produced in 2005" (Baker & Zanier 2006).

Because the output of corn by the U.S. is so sizable, "large corn stocks will enable U.S. ethanol production to increase initially without requiring much additional adjustment in the corn market" (Baker & Zanier 2006). However, the need for fuel is so vast corn production would still need to be increased for the crop to provide a meaningful fuel alternative. One option to increase production is that some producers may alter their crop rotation to a corn-corn-soybean rotation vs. A corn-soybean rotation. Some may even embrace continuous production of corn, although this raises concern about soil depletion (Baker & Zanier 2006).

Additionally, dependence on ethanol would increase the need for fertilizer and improved technology for growing corn. "One way to get more ethanol feedstock out of existing levels of corn production is to use the stalk, leaves, and cobs left over after harvest -- materials that are formally known as stover. An acre of corn will yield roughly 5,500 dry pounds of stover, enough to produce about 180 gallons of ethanol" (Baker & Zanier 2006). But once again, such intensive farming methods could result in depletion of the soil and ultimately hamper the fertility of the soil, given that corn stover is usually left on fields to minimize erosion. Ideally, the creation of new technology would improve productivity without hampering long-term soil quality.

At present, to make ethanol production more profitable, by-products are used as livestock feed (Baker & Zanier 2006). If new technology rendered corn farming more efficient, theoretically the price of ethanol and fuel would drop dramatically, given that supply would increase, and farmers could price the product more cheaply while still make a profit, and also profit more off of by-product sales. But given that corn is a subsidized crop within the U.S., this means that prices cannot fall to rock-bottom prices. "In 2009, $15.4 billion in subsidies were lavished on the growers of corn, cotton, rice, wheat, and soybeans" (Carr 2010).