Biofuel Taxes, Subsidies, and Mandates: Impacts on US and Brazilian Markets

Bruce A. Babcock, Marcelo Moreira, Yixing Peng
May 2013  [13-SR 108]

Future prospects for biofuels in the United States and Brazil depend on government policies, the prices of gasoline and feedstocks, and the ability of each country’s fleet of vehicles to use ethanol. Because trade barriers between the two countries are low, the prospects for biofuels in each country are dependent on what goes on in the other. To help sort out the complex web of interrelated markets and fuels requires a model of the markets in which the fuels are traded. In this paper we present an updated and expanded market model of biofuels in Brazil and the United States and use the model to help understand the economic impacts of the US biodiesel tax credit and a recent reduction in the tax on ethanol in Brazil.

The model looks ahead to the 2013/14 corn marketing year in the United States that begins on September 1, 2013. Crop acreage is assumed known and fixed. For 500 different yield levels of US corn and soybeans, Brazilian soybean, sugarcane and recoverable sugar yields, Argentine soybean yields, gasoline prices and demand for Brazilian exports, the model solves for market-clearing prices and quantities of US corn ethanol and biodiesel, Brazilian sugarcane ethanol, and world prices of corn, soybeans, soybean oil and meal, and sugar.

US biofuel mandates are a major driver of the market solutions. The competition between biodiesel and sugarcane ethanol to meet the US advanced mandate and the competition between sugarcane ethanol and corn ethanol to meet the US conventional mandate as well as ethanol demand in Brazil are what determine model solutions. The outcome of this competition is a set of equilibrium RIN (Renewable Identification Number) prices that reflect underlying biofuel supply and demand conditions.

The model is calibrated to USDA’s May 2013 WASDE projections and to Brazil’s latest CONAB projections. Both sets of projections indicate that corn and sugarcane supplies are likely to increase from recent levels, lowering the cost of producing ethanol. This lower cost helps to hold down conventional biofuel RIN prices, which still must be high enough to induce ethanol consumption beyond the 10 percent blend wall in the United States. In Brazil, more abundant sugarcane supplies will result in increased ethanol production and consumption, but because the demand for ethanol in Brazil is price elastic, market prices will not drop much from recent levels.

The biodiesel tax credit increases the competitiveness of US biodiesel relative to sugarcane ethanol. Thus, biodiesel production will likely exceed levels needed to meet the biomass-based diesel mandate and will result in lower imports of sugarcane ethanol. The decline in Brazilian ethanol exports decreases Brazilian domestic demand for imported US corn ethanol so the extent of two-way trade in ethanol is reduced under the tax credit. However, demand for ethanol in Brazil is strong enough, and the cost of producing corn ethanol will likely be low enough, to induce strong exports of corn ethanol to Brazil even with the tax credit. The strong demand for ethanol in Brazil due to its large fleet of flex vehicles is further boosted by the reduction in one of Brazil’s ethanol taxes. Because of the availability of corn ethanol, much of the ethanol consumption increase in Brazil caused by the lower tax is met by increased imports of US corn ethanol.

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