CARD: Center for Agricultural and Rural Development

Although uncertainties abound, the outlook for Corn Belt corn and soybean farmers is bright. Demand for corn and soybeans remains high despite cutbacks in corn exports, feed use, and the financial difficulties of the biofuels industry. World supplies have not grown as rapidly as expected because of moderating prices, less-than-ideal growing-season weather around the world, and credit constraints caused by the world financial crises. A comparison of the situation farmers face today with what they faced in April 2006 before the rapid run-up in commodity prices offers some perspective on how the fortunes of corn and soybean farmers have changed over the last three years.

Costs and Prices, Then and Now

Table 1

Table 1 compares April 2006 conditions with current conditions. New crop futures prices have increased dramatically since 2006, with corn prices up 35 percent and soybean prices up 56 percent. These higher prices combined with continued growth in yields mean that for a farmer growing 50-50 corn-soybeans, expected revenue has increased 68 percent after accounting for average Iowa price basis. But, as any Iowa farmer will attest, costs have grown as well. Although the increases in fertilizer costs have garnered the most headlines, seed costs have also increased dramatically. It is difficult to compare seed costs across time because new, more productive hybrids and varieties are constantly being released. Cost-of-production budgets at Iowa State University estimated per acre soybean seed costs at $32 in 2005 and $54 for 2009, which implies a 14 percent annual increase in seed costs. Estimated per acre corn seed costs have increased even more, from $40 per acre to $93 per acre, which implies an average annual increase of more than 20 percent.

The price of fertilizer soared along with all other commodity prices in May and June of 2008. Most co-ops and other Midwest fertilizer dealers were worried about obtaining adequate supplies, so they booked their 2009 orders early to ensure availability. Many Iowa farmers have had to pay more than $1,000 per ton for DAP (diammonium phosphate), which represents a price just below the peak world price that occurred last summer. Current world prices are around $340 per ton. Many Iowa farmers are currently applying $900-per-ton anhydrous ammonia, which is about equal to the peak world price last summer. Current world anhydrous prices are about $300 per ton.

The high prices that farmers are paying for fertilizer and seed have about doubled variable production costs for a 50-50 corn-soybean farmer, as shown in Table 1. Although it would seem that a doubling of variable production costs combined with a 68 percent increase in revenue would result in lower net returns, Table 1 shows that, in fact, returns to land, management, and machinery have gone up about $70 per acre, or by about 43 percent, over 2006 levels. Of course, not all farmers have seen this increase in returns. Land renters have seen land rents go up by at least this amount, which leaves them in the same position as 2006 or worse off.

Table 1 shows that if fertilizer prices for the 2010 crop reflect current world prices, and all other costs stay at their 2009 levels, then expected returns in 2010 should increase by another $70 per acre. The idea that Monsanto and Pioneer will hold the line on seed prices may not be realistic, but of greater importance to crop farmers' bottom line is whether crop prices can stay at their 2009 levels.

Impact of Biofuels on Corn and Soybean Prices

The ethanol industry used a little more than 2.1 billion bushels of the 2006 corn crop. The industry will need about 4.3 billion bushels from the 2010 crop. This additional corn represents about 10 million acres after accounting for the additional distillers grains that replace corn in livestock rations. Another billion bushels of corn will be needed from the 2015 crop if mandated levels of ethanol are to be met. If the world financial crisis is resolved in the next year or two, then world demand for livestock feed will again resume because both incomes and population will continue to grow. The combination of growing demand from biofuels and from a larger, richer world population will outstrip yield growth over the next five years, unless yields grow faster than recent trends indicate. This means that the United States and the world will need to devote more acres to feed grain production to meet world demand. And the only way to expand acres is with higher expected returns to feed grains.

This rosy scenario relies on maintenance of current biofuels policy. If the ethanol industry severely contracts because of a change in biofuels or climate policy, then the resulting drop in the demand for U.S. corn could greatly affect price. There seems to be a limit to how severe the contraction could be, however, because the U.S. fuel industry has a robust demand for ethanol as a source of octane, and it is the only acceptable oxygenate for meeting Clean Air Act regulations. The sensitivity of corn and soybean prices to a change in biofuels policy can be measured by using a model of the 2009 corn and soybean markets that includes all current policies. The model simulates the impacts of removing each policy, first individually and then in tandem.

Table 2

The model was calibrated to USDA's March 31 prospective planting report and the April 9 World Agricultural Supply and Demand Estimates. Market-clearing prices for corn, soybeans, ethanol, biodiesel, soybean oil, and soybean meal were calculated for each of 500 different gasoline and diesel prices, export demands, and corn and soybean production levels. Crude oil prices average $63 per barrel across the 500 draws. The market valuation of ethanol is set equal to 67.8 percent of wholesale gasoline prices unless ethanol supplies drop below 6 billion gallons, when the demand for ethanol becomes much less price sensitive. The model results are summarized in Table 2.

The first thing to note is that corn prices are more sensitive to changes in biofuel policies than are soybean prices. The reason is that corn to ethanol represents a much larger proportion of corn demand than soybean oil to biodiesel represents to total soybean demand. If a change in biofuel policies results in sharply lower corn prices relative to soybean prices then in subsequent years, corn plantings would drop and soybean plantings would increase, thereby offsetting some of the relative price changes.

If the tax credit were eliminated, corn prices would hardly drop at all. This reveals that in most of the scenarios examined, the ethanol mandate is binding so that a drop in the tax credit would simply increase the RIN (Renewable Identification Number) price. This can be seen by the $0.32-per-gallon increase in the average ethanol RIN price. If the Renewable Fuels Standard (RFS) were waived, then corn prices would drop by $0.50 per bushel (11 percent). Elimination of the import tariff would reduce domestic ethanol production by about 900 million gallons per year. Imports would increase by an average of one billion gallons. The substitution of imported ethanol for domestically produced ethanol in subsequent marketing years would be larger because Brazil would eventually increase its export capacity. Removal of all incentives would reduce corn prices by about 20 percent. The estimated drop would be even larger, but ending stocks increase by an average of more than 800 million bushels. If the elimination of biofuel policies were permanent, then it is unlikely that stocks would grow by such an amount, and market prices would drop by an even greater amount.

An Outlook Linked to Energy Policy

The results in Table 2 clearly indicate that strong crop prices depend on a continuation of biofuel policies. If crude oil prices stay at projected levels, then maintenance of the RFS has the greatest impact on keeping crop prices high. Removal of the import tariff would have modest price impacts at first, but over time an increasing share of the RFS would be met by imported sugarcane ethanol. That the outlook for Corn Belt farmers depends on maintenance of a large biofuels sector should not be surprising. After all, the earliest, strongest, and most consistent supporters of biofuel policies have been farm groups. ?