CARD: Center for Agricultural and Rural Development

Increased ethanol production in Iowa and other Corn Belt states has led some to believe that the Midwest will no longer need to export any of its corn to other states or other countries. Farmer-advocates of more ethanol see such a future as making them free from reliance on unpredictable export markets, free from reliance on aging Mississippi River locks and dams, and free from worrying about the impacts of trade agreements and foreign competition. But such a future would not make the Corn Belt free of the need to export distillers grains, an ethanol by-product.

A 50-million-gallon ethanol plant uses roughly 18.5 million bushels of corn. At the 2006 Iowa state-trend yield of 160 bushels per acre, this represents 116,000 acres of corn (80–90 percent of corn acreage in an average Iowa county). On a dry basis, 315 million pounds of distillers grains must be marketed.

The best use of this by-product is as feed for dairy and beef cattle. But Iowa has large numbers of hogs and poultry, not cattle. Without some resolution of this mismatch, most distillers grains from Iowa will continue to be dried and shipped to other states.

Dairy cattle can be fed a diet with 20 percent of their dry matter intake in DDGS (distillers dried grains with solubles), which translates into 13 pounds of DDGS or approximately 40 pounds of wet distillers grains per cow per day. Thus, an ethanol plant produces enough feed for roughly 60,000 dairy cattle.

Iowa currently has only 190,000 dairy cows in the state. Current Iowa production levels of 900 million gallons of ethanol would require 1.08 million dairy cows. This number of dairy cows would produce 15 percent of total U.S. milk production, so this increase is not beyond the realm of possibility.

There are at least three synergies that could occur from bringing dairy cattle (or beef cattle) into Iowa to consume the DDGS, as illustrated in Figure 1. The first would occur if the dairy cattle were located close enough to the ethanol plants so that the distillers grains would not have to be dried. This would save the ethanol plant about $5 million in drying costs. The second synergy would be that 1.08 million dairy cattle generate vast amounts of valuable manure that can fertilizer crops and add to soil tilth. In most states where dairy cattle are located, the manure is a waste by-product rather than a valuable replacement for imported fertilizer. The third possible synergy is if the dairy farmer and the ethanol plant worked together to capture the methane from the manure before it is applied to farm fields. Recent estimates of the Iowa Department of Natural Resources indicate that the manure from one dairy cow over one year can generate 3,170 kilowatt-hours of energy if the methane is captured from the manure. The manure from 60,000 dairy cattle could produce enough methane to meet 25 percent of the natural gas requirements for a 50-million-gallon ethanol plant that does not have to dry the distillers grains. Capturing the methane from the manure would also help reduce odor problems for the dairy farm.

Whether Iowa embraces a future that includes a large increase in livestock depends on the strength of the financial synergies just described as well as the political environment in the state. High energy prices increase the value of locating more cattle in Iowa. But the current political environment works against more livestock. Many politicians and farm leaders must be asking themselves why they should lead the charge for more livestock when it is so much easier just to promote more ethanol production.

As shown in Figure 2, the top two uses for corn are domestic livestock feeds and exports. Ethanol has just passed the sum of all other uses, which includes seed, sweetener, and food. Given the planned expansion of ethanol production, exports will soon drop to the number three position. At first glance, this seems like a beneficial move for U.S. corn producers. After all, corn that is used domestically saves on transportation costs, boosts local basis, and creates domestic jobs. However, there are several reasons why ever-increasing reliance on ethanol markets may not be in the long-term best interest of Iowa's corn farmers.

One unforeseen impact of replacing exports with increased fuel use is that it will make the price of corn more sensitive to changes in quantity produced. Export demand is relatively price sensitive: a relatively small drop in price can result in large changes in exports. Domestic feed and fuel demand are price insensitive in that it takes a large drop in price to stimulate a significant increase in demand. By making total corn demand less price sensitive, the domestic price will drop by more in bumper crop years and will increase by more in short crop years. A future free of government subsidies would mean that corn farmers would have to rely on forward contracting and the purchase of put options to protect themselves against downside price risk. Similarly, livestock feeders and ethanol producers would have to use futures and call options to protect themselves against increased price volatility.

A second impact of greater reliance on ethanol production is increased vulnerability to changes in technology or government policy. Currently, the low-cost feedstock for U.S. ethanol plants is corn. But the high price of oil combined with ethanol tax credits and the obvious widespread availability of cellulose has increased investment in technologies that could result in cellulose becoming the low-cost feedstock for ethanol. If this happens, the impacts on corn prices could be dramatic. Vulnerability also arises because ethanol profitability largely depends on a combination of government tax credits and import tariffs. What would happen if in five years the price of oil were to decline and, in a fit of budget cutting responsibility, ethanol tax credits and ethanol import taxes were eliminated? After all, what is bestowed by government action can certainly be taken away.

Iowa is basking in the current economic benefits of the ethanol boom. But there are risks to corn farmers from ever-greater dependence on ethanol as a determinant of the price of corn. Technology changes, as do governments. It may be wise in the long run to support the industry that will be with us when corn-based ethanol is replaced by the next great thing. After all, the growth in consumption of meat, eggs, and dairy products should continue to outpace growth in income and population, unless human nature changes dramatically. ♦