Entry and Shutdown in the Ethanol Industry: Does Policy Matter?

1. Entry and Shutdown in the Ethanol Industry: Does Policy Matter? Juan Sesmero jsesmero@purdue.edu & Chris Hurt hurtc@purdue.edu Ag Economists Learning Tuesday - March 20, 2012 Acknowledgments: funding provided by USDA regional project NC 506. Thanks to Richard Perrin and Lilyan Fulginiti for helpful discussion.

2. Profitability and Entry into the Ethanol Industry: recent history • Profitability has been generally high since up to 2008. • Triggered entry and capacity expansion in the industry. • Margins have shrunk since 2008. • Triggered reduction in entry and shutdown. • Growth in production volumes slowed down: • Absolute quantities • As percentage of total liquid fuel consumption

3. Source: Tracking Ethanol Profitability, Agricultural Marketing Resource Center, Iowa State University, http://www.extension.iastate.edu/agdm/energy/xls/d1-10ethanolprofitability.xls

4. Entry and Competition in the Ethanol Industry Reduction in margins Anticipation of wall? Source: 2011 Federal Trade Commission Report on Ethanol Market Concentration

5. Renewable Fuel Standard and Blending Wall E10 reaches saturation in 2011

6. Reductions in margins and survival • Blending wall, reduction in foreign demand, and elimination of subsidy and tariff may reduce ethanol price and crush margin. • How big a reduction in margins can ethanol plants handle? • Answer to this question depend upon plants’ cost structure. • We estimate cost based on data from a survey of ethanol plants located in the US North Central Region.

7. Size, Corn prices, and Shutdown Price of corn (12/11): $6 Price of Eth > $2.23 during 2011 Price of Eth < $2.23 since 12/11 New wave of shutdowns?

8. Policy and Reductions in Margins • Hard to disentangle influence of different factors in ethanol price. General equilibrium models attempt to do this. • According to FAPRI model removal of subsidy and tariff was expected to reduce ethanol rack price from $2.25 to $2.10. • Policy may put ethanol price below shutdown. • “US Biofuels Baseline and impact of extending the $0.45 ethanol blenders credit.” FAPRI‐MU Report #07‐11. • Short term evidence is consistent with this prediction. • Observed ethanol price dropped from $2.75 to $2.

9. Byproducts Markets – evolution Hoffman, L. and Baker, A. Market Issues and Prospects for US Distillers’ Grains. USDA FDS-10k-01, Dec. 2010.

10. Byproduct Markets and Shutdown • Reductions in ethanol price may be compensated by increases in byproduct prices. • Byproduct prices are correlated with corn (and more so as the market becomes more efficient). • Corn stable so byproduct prices stable. • Some divergence occur between wet and dry prices in regional markets.

11. Price of DDGS, accessibility to Wet markets and Shutdown Price of corn (12/2011): $195 Estimated flexibility: 0.035 Price of Eth < $2.80 since 11/11 No flexibility Total flexibility Source: Sesmero, Perrin, and Fulginiti (2012)

12. Conclusions • Removal of subsidy and tariff may push some plants to shutdown. • Flexibility in byproduct mix choice does seem to matter in plants’ survival. • Flexibility is given by accessibility to wet markets and contracting decisions. • Size does not seem to make a difference in survival. • While bigger plants achieve greater ethanol yield per bushel of corn they use more natural gas per gallon and produce less byproduct per gallon.