The Relative Impact of Corn and Energy Prices in the Grocery Aisle
John M. Urbanchuk
Director, LECG LLC

Retail food prices measured by the Consumer Price Index (CPI) for food have begun to accelerate and are beginning to approach rates of increase last seen in mid-2004. Critics of renewable fuels are blaming the recent increases on high prices for corn caused by increasing ethanol production.  They fail to point out that corn prices are only one of many factors that determine the CPI for food, and in fact, directly affect a small share of retail food prices. Increases in energy prices for example exert a greater impact on food prices than does the price of corn.  A 33 percent increase in crude oil prices – which translates into a $1.00 per gallon increase in the price of conventional regular gasoline – results in a 0.6 percent to 0.9 percent increase in the CPI for food while an equivalent increase in corn prices ($1.00 per bushel) would cause the CPI for food to increase only 0.3 percent.

The purpose of this study is to examine and compare the impact on consumer food prices resulting from increases in petroleum and corn prices.

Background

The ethanol and corn industries are under attack by a wide range of critics for causing everything from sharply higher food prices for American consumers to shortages of and high prices for Mexican tortillas and even potentially higher tequila prices. Expansion of the ethanol industry to meet clean air standards and reduce dependence on imported petroleum has boosted demand for corn, the primary feedstock for U.S. ethanol.  This increased demand has caused corn prices to rise to their highest levels since the drought of 1995. Critics contend that the recent increase in retail food prices measured by the CPI for food is the direct result of higher corn prices caused by ethanol demand and that an even larger increase in food prices is in store for American consumers.

The actual record on the relationship between ethanol, corn, and retail food prices is less clear. Over the past five years, ethanol production has more than doubled, increasing from 2.14 billion gallons in 2002 to 4.86 billion gallons in 2006.  Over this same period, the demand for corn to produce ethanol has grown from 996 million bushels to 2.2 billion bushels. Over most of this period, cash market corn prices were relatively stable.  From January 2002 through September 2006, corn prices averaged $2.18 per bushel. However, between September 2006 and May 2007, corn prices jumped 61 percent to $3.56 per bushel in May 2007.

During this same period, the CPI for food averaged a year-over-year increase of 2.4 percent.  In fact, the inflation rate for food declined from a five-year peak of 4.1 percent in May 2004 to a 2.5 percent year-over-year rate in September 2006. However, since September 2006 the CPI for food has accelerated to a year-over-year rate of 3.7 percent in April 2007, an increase of 1.2 percent.   During this same period, cash market corn prices increased $1.15 per bushel.  While it is tempting to blame the entire increase in food price inflation over the past eight months on higher corn prices, most of the increase in food prices was the result of foods not impacted by corn such as fish, fruits and vegetables, sugar and sweeteners, and food away from home.  Meat, poultry, eggs, and dairy products – the foods where corn is a major input and are most affected by rising corn prices – accounted for about 0.2 percent of the 1.2 percent acceleration in food price inflation between September 2006 and April 2007. Rising energy prices had a more significant impact on food prices than did corn.

The shift in corn prices that occurred in late 2006 is clearly evident and has been mirrored by soybean meal and Distiller’s grains. During this same period energy price also accelerated rapidly. For example, the national average price of conventional regular gasoline increased 89 cents per gallon (39 percent) between October 2006 and May 2007.

Livestock and poultry producers are beginning to respond to higher feed costs by slowing the growth in animal numbers and market prices are reflecting these changes.  However, corn prices are only one of several factors that impact livestock and meat production.
• Heavy cow and calf slaughter and early placement of feeder cattle in feedlots have combined with poor fall and winter pasture conditions and higher grain prices to set the stage for slower growth in cattle numbers through early 2008. This will in turn slow growth in beef production in 2008 and support higher beef prices.

• Growth in hog inventories are expected to be constrained by higher feed costs.  However, this will be offset by growth in domestic demand supported by a stronger consumer economy and increases in exports as China turns to the U.S. to offset sharply reduced domestic pork production.

• Higher feed costs will dampen broiler producer’s zest to sharply expand production.  However, producers will respond to higher prices for red meat and growth in real disposable income that will support demand growth.  This will moderate any potential sharp increases in broiler prices in 2008.

Analysis

Retail food prices are not likely to accelerate significantly in 2008 and beyond, even as ethanol production continues to expand. In fact, consumers will be more severely affected by rising gasoline and energy prices than by increases in corn prices. 

Increasing petroleum prices have about twice the impact on consumer food prices as equivalent increases in corn prices.  A 33 percent increase in crude oil prices – the equivalent of $1.00 per gallon over current levels of retail gasoline prices – would increase retail food prices measured by the CPI for food by 0.6 to 0.9 percent.  An equivalent increase in corn prices – about $1.00 per bushel over current levels – would increase consumer food prices only 0.3 percent.

The reason for the larger impact on food prices from petroleum and energy prices stems from the relative importance of energy in food production, packaging, and distribution compared to that of a single ingredient.  While petroleum and energy prices affect virtually all aspects of agricultural raw material transportation, processing, and distribution of all finished consumer food products, corn prices affect only a segment of consumer foods – livestock, poultry and dairy. Corn is an important feed ingredient for livestock and poultry producers and changes in corn prices can have significant impacts on profitability and production. However, meat, poultry, fish, eggs and dairy products account for only a fifth of the CPI for food which, in turn, is only 15 percent of the overall CPI.

Crude oil and refined petroleum prices have increased sharply over the past several years and have put considerable pressure on consumers. Energy plays a significant role in the production of raw agricultural commodities, transportation and processing, and distribution of finished consumer food products.  Several studies have looked at the impact of increased energy prices on food prices. 
• Reed, Hanson, Elitzak and Schluter utilized three different model structures to examine the impact of a doubling of crude oil prices on the CPI for food.   They conclude that the short run impact of a doubling (e.g. 100 percent increase) in crude oil prices would cause a 1.82 percent rise in average food prices in the short run and 0.27 percent in the long run.

• A more recent analysis published by Chinkook Lee examined the impact of energy price increases as an intermediate input for food processing and concluded that a 10 percent increase in energy prices results in a 0.2709 percent increase in the purchase (consumer) price of food and kindred products prices.
As pointed out, earlier corn prices also have increased significantly over the past year as the markets have recognized the impact of increasing ethanol production on corn demand. The price of No. 2 Yellow corn at Central Illinois averaged $3.56 per bushel in May 2007, nearly 60 percent higher than year-ago levels. The USDA and many private sector forecasters project ethanol production to exceed 15 billion gallons by 2017, utilizing more than 4 billion bushels of corn and maintaining corn prices well above $3.00 per bushel for most of the decade.

We evaluated the impact of an increase in petroleum prices on consumer prices food prices by applying the impact elasticities summarized above to an assumed 33 percent increase in crude oil (the equivalent of a $1.00 increase in retail gasoline prices from current levels).  To determine the impact of an increase in corn prices on livestock, poultry, dairy and consumer food prices we imposed a 33 percent increase in corn prices (about $1.00 per bushel from current levels) on the current LECG agricultural sector baseline forecast over the five year period 2007 through 2012.  This is consistent with the increase in corn prices that has occurred over the past year.

The analyses by Reed and Lee indicate that a 33 percent increase in oil/energy prices would increase retail food prices by 0.6 percent and 0.9 percent.  Reed indicates that a 100 percent increase in crude oil prices results in a short-term increase of 1.82 percent in consumer food prices while Lee reports that a 10 percent increase in energy prices provides a 0.2709 percent increase in retail food prices.  Restating these on an equivalent 33 percent basis (1.82 percent times .33 and 0.2709 times 3.3) provides the 0.6 to 0.9 percent range.

The equivalent 33 percent increase in corn prices over the five-year period is expected to reduce beef, pork, and broiler production by 2.6 percent between 2008 and 2012 and increase prices by 2.4 percent.  Combined with higher turkey, egg, and dairy prices, the CPI for food is projected to increase an additional 0.3 percent.  This result is consistent with the 0.2 percent  contribution to food price inflation between September 2006 and April 2007 from meat, poultry, fish and dairy and the $1.15 per bushel increase in cash market corn prices.

Conclusion

The days of cheap corn are more likely than not over. Livestock and poultry producers who enjoyed low and relatively stable corn (and other feed) prices over most of the past decade are now faced with the challenge of adjusting to an environment of higher feed prices.  The new reality is that corn prices are likely to remain nearer to the $3.00 per bushel than the $2.00 per bushel mark for an extended period.  The good news is that prices may be more stable as corn production expands to meet ethanol requirements and new ethanol feedstocks and technologies emerge. Livestock and poultry producers also will have an incentive to increase use of the ethanol co-product Distiller’s grains in order to control feed costs.  This medium protein feed component can be used in place of corn in a substantial portion of the feed ration.  As ethanol production expands, so will production of Distiller’s grains and thus putting downward pressure on prices.

Corn and energy prices both affect consumer food prices.  However, since increases in corn prices are limited to a relatively small portion of the overall CPI for food, an increase in corn prices resulting from higher ethanol demand or a supply disruption such as a major drought is expected to have about half the impact of the same percentage increase in petroleum and energy prices.

About the Author
John M. Urbanchuk, Director, LECG LLC, is responsible for managing and providing a broad range of economic, planning, marketing, and policy analysis consulting services to firms and associations involved in the agriculture, renewable fuels, and consumer foods industries.

Green Energy sector in The EU Growing at Breathtaking Speed

Globally, it has already become a multi-billion dollar industry, with very high growth potential which is attracting record investment. Over the last few years, eco-industries in the European Union (EU) have grown to such an extent that they have now become a prominent force across the entire European economy. Today they represent about 2.1 percent of its GDP, and account for 3.5 million jobs.

Frost & Sullivan Green Energy experts are analyzing all the key segments of this market, both in Europe and globally. There is no doubt that this area is expanding at an extraordinary rate and – based on their research – Frost & Sullivan analysts forecast that revenues are set to double, triple or increase even more over the next few years.
 
Biodiesel -  Biodiesel is surely one of the fastest-growing areas in the chemical industry and in the Green Energy sector. Last year in Europe we consumed 3.89 million tones of biodiesel, generating revenues of €2.93 billion. By 2013 the total EU biodiesel market is forecast to be 9.75 million tones in terms of unit shipments while revenues are forecast to be €7.46 billion, based on current biodiesel market prices. The average growth over the forecast period will be 14 percent.
 
Renewable Energy - New analysis from Frost & Sullivan European Renewable Energy Market – Investment Analysis and Growth Opportunities reveals that this market earned €8.89 billion in 2005 and estimates this to reach €14.54 billion in 2010. Even in China, the Government feels there is an urgent need to take action and is stepping up efforts to accelerate the development of clean energy. Frost & Sullivan research analysts reveal that the Chinese Renewable Energy Markets earned revenues of $6.9 billion in 2006, and that these are likely to reach $17.9 billion by 2013. Amongst the market segments, solar PV will be one of the fastest growing renewable energy sources in China until 2013, with its growth exceeding even that of wind power. The biomass power industry has great revenue potential, not only because of sufficient Government funding but also due to the adequate availability of feedstock fuels.

Green Buildings - Buildings are responsible for 40  percent of Europe’s total carbon-dioxide emissions. Climate Change is the EU’s top priority according to the European Commission and Member States are committed to cutting down on CO2 emissions to meet the Kyoto Protocol targets. Despite all their efforts, Member States keep on wasting a significant proportion of their energy due to inefficiency. Therefore, if the EU is to achieve its targets, reducing energy use in all buildings is essential. According to Frost & Sullivan, if more stringent standards are applied to new buildings and renovations, the EU will achieve a significant cut in greenhouse gas emissions. Unfortunately, any efforts will be in vain if they are not accompanied by a change in consumer behaviour.

Waste Management and Recycling - An estimated 1.3 billion tones of waste is generated annually in the EU and this still continues to rise. The overall volume of waste is growing at rates proportional to the economic growth rate of the EU25. Amongst the various streams of waste generated, management of hazardous and municipal waste alone costs the EU an estimated €75 billion annually. This translates to the waste management and recycling industry earning huge revenues that are expected to increase enormously over the next few years. Frost & Sullivan finds that the European Waste Management and Recycling market earns total annual revenues of €100 billion.

“It is clear that this is a period of truly booming growth in the green energy sector and this is an issue that is here to stay,” says John Raspin, Frost & Sullivan Energy & Environment Practice Director. “We are seeing double-digit growth in many segments of the market and companies of all shapes and sizes are positioning themselves to exploit the growth opportunities.”

Joe Jobe, CEO of the National Biodiesel Board (NBB), noted that Congress recognized the need to reduce dependence on foreign oil when it enacted the biodiesel and renewable diesel tax incentives. As a result, the country now has a domestic biodiesel industry with 105 small biodiesel plants capable of producing 864 million gallons of fuel.
 
"This capacity and the future growth of the industry represents new capacity of environmentally friendly biodiesel and renewable diesel. Economic analysis shows that biodiesel production will create at least 40,000 new jobs and will add $24 billion to the US economy," Jobe said. "By contrast, subsidizing the existing operations of oil refineries accomplishes none of these goals, and in fact, could endanger free-standing biodiesel and renewable diesel producers by artificially inflating feedstock costs." 

The DOE JBEI’s six partners are the Lawrence Berkeley National Laboratory (Berkeley Lab), Sandia National Laboratories (Sandia), the Lawrence Livermore National Laboratory (LLNL), the University of California (UC) campuses of Berkeley and Davis, and Stanford University.

The other two DOE Bionergy Research Centers are the DOE BioEnergy Research Center, led by the Oak Ridge National Laboratory in Oak Ridge, Tennessee, and the DOE Great Lakes Bioenergy Research Center, led by the University of Wisconsin in Madison, Wisconsin, in close collaboration with Michigan State University in East Lansing, Michigan.

“These centers will provide the transformational science needed for bioenergy breakthroughs to advance the goal of making cellulosic ethanol cost-competitive with gasoline by 2012, and assist in reducing America’s gasoline consumption by 20 percent in 10 years,”
Secretary Bodman said. “The collaborations of academic, corporate, and national laboratory researchers represented by these centers are truly impressive and I am very encouraged by the potential they hold for advancing America’s energy security.”

Research at the DOE JBEI will focus on biofuels – liquid fuels derived from the solar energy stored in plant biomass. Harnessing even a tiny fraction of the total solar energy available each year could meet most if not all of the nation’s annual transportation energy needs.

“The selection of the DOE JBEI is a major vote of confidence in the Bay Area’s growing leadership in the national effort to develop new and cleaner sources of renewable energy,” said Jay Keasling, Director of Berkeley Lab’s Physical Biosciences Division and a UCB Professor of Chemical Engineering, who has been designated as the DOE JBEI’s Chief Executive Officer.

“Sharp shares a common goal with Google, which is to create products and technologies that benefit society and improve consumers’ lives,” said Ron Kenedi, vice president of Sharp’s Solar Energy Solutions Group.  “With this system, Google is setting an example for other corporations as to the tremendous environmental and financial benefits of solar energy.  But even more so, Google is demonstrating that solar electricity is just like regular electricity, and it can power anything – from computers and copiers to servers and hybrid electric cars.”

Sharp provided 9,212 208-watt modules for the project, which was designed and installed by EI Solutions of San Rafael, Calif.  The 1.6-megawatt system is designed to feed into Google’s overall operations, reducing the amount of electricity the company purchases from its local utility. The system utilizes almost all available roof space on the Googleplex campus.

Located just south of Buffalo, New York the 20 MW Steel Winds project is situated on a 30-acre portion of the former Bethlehem Steel facility, which is being returned to productive use under the New York Department of Environmental Conservation Brownfield Cleanup Program.  Steel Winds will generate enough electricity to serve the needs of approximately 6,000 western New York homes.  The project will be operated by UPC Wind, with turbine operation and maintenance services provided by Clipper Windpower for the first five years.

"Where Bethlehem Steel once supported an earlier industrial revolution, today the Steel Winds project is bringing new jobs and clean energy technology to the Lake Erie region," said Paul Gaynor, president and CEO of UPC Wind.  "We are pleased to be operating at full capacity and introducing this newest generation of wind turbines to the market."

The Clipper 2.5 MW Liberty wind turbine is the first wind turbine to utilize a patented, distributed powertrain and four permanent magnet generators to mitigate loads to components found in many of today's multi-megawatt wind turbine designs.  Manufactured in Cedar Rapids, Iowa, it is among the largest land-based wind turbines in the world, and the largest wind turbine manufactured in North America.

For the Steel Winds project, UPC Wind has partnered with BQ Energy to produce and sell clean energy, capacity and renewable energy certificates to energy retailer Constellation NewEnergy through 2009.

"Reaching full commercial operations and redeveloping a neglected brownfield site are both significant achievements for the Steel Winds project," said Paul Curran, Managing Director of BQ Energy.  "With the continued support from state and county leaders, we look forward to
providing New York State with clean and affordable energy."  

Onsite Power 2007 Final Program Announced!

Onsite Power 2007 has released its final program schedule. This educational event will feature more than 40 technical presentations! (Included with Remote Monitoring and Networking 200)

This is your chance to learn from leading professionals in back-up, UPS, emergency and standby power markets. Come and discover how recent advancements in the remote monitoring and onsite power markets are impacting your business today!

Key Presentations Include:

Guidelines for High Reliability Remote Power System Design
Kevin Conlin, vice president - Solarcraft, Inc.

Sustainable Fuel Cell Solutions to Provide Extended Run Times of Backup Power
Tucker Ruberti, Market Development Manager - IdaTech, LLC

Power Source Considerations for Remote EFM / SCADA Applications
Murray Hillsden, Product Manger of Power Generation Products - PGI International

Learn more at: www.remotemagazine.com/rem07_program.htm