Overview. Background and Context Ethanol Policies and Policy Rumblings. Assessment of the prospects for trade and trade disputes

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2 Overview Background and Context Ethanol Policies and Policy Rumblings Range of Policy Instruments Rationales for Government Action Emerging Criticisms Assessment of the prospects for trade and trade disputes

3 Thesis Fuel Ethanol has not been, is not, and, in our assessment, is unlikely to be treated as a freely traded international commodity with production locations determined by comparative advantage or production levels determined by relative cost. Policy measures to support ethanol are based on various forms of government intervention in the marketplace regulations, subsidies, and trade restrictions, among others There are plenty of grounds for trade disputes regarding ethanol, but no one would seem to have a clear motivation to initiate a complaint

4 Policy Measures Used to Promote Ethanol Production fuel excise tax exemptions production and blending requirements government procurement preferences local tax breaks on property taxes or and state/provincial taxes accelerated write off schedules biofuels related capital tax exempt bonds subsidized loans or loan guarantees capital gains exemptions regulatory exemptions producer credits state/provincial/federal subsidies environmental legislation mandating certain specific types of fuel additives (typically for fuel oxygen ation) government purchases of surplus agricultural stocks for conversion to bio ethanol agricultural farm supports government supported R&D.

5 Ethanol Production Global production ~ 45 billion litres per year Brazil ~ 16 billion litres United States ~ 16 billion litres Canada~ 230 million litres Mexico ~ 50 million litres Gasoline Consumption United States ~ 550 billion litres per year Canada ~ 45 billion litres per year

6 Global Policy Context The EU: Largest producer; strong ambitions Huge capacity; largest plants in the world Rapeseed-based, but increasingly multi-feedstock Canada: 5% renewable energy target by 2010 Canola, waste oils USA: Mandatory biofuel use of 7.5 billion gallons by 2012; primarily ethanol Biodiesel potential huge due to only 1% diesel car penetration Soybean oil - canola upcoming Brazil: B2 (2008) and B5 (2013) targets introduced Aim: rural support (palm, castor oils) Reality: primarily soybean oil; large-scale projects Source: Susan Hansen, Rabobank Argentina: Legislation passed in 2006 Focus on soybean oil China: Mandatory blend targets expected in 2007 Massive potential, but not realised South Korea, Japan, Thailand, Philippines: Various targets and initiatives Small industries or imports India: Infant industry; policies under preparation Jatropha-based Malaysia & Indonesia: Aim to set-aside 40% of palm oil production for biodiesel (aimed for exports specifically to EU) MAL: 5% blend (voluntary) of palm and diesel IND: B2 mandatory target by 2008 Australia: Non-mandatory target by 2010 Canola, waste oils, animal fats

7 Rationales for Ethanol Policy 1. Balance of Payments and Import Substitution (Brazil and Mexico) 2. Anti terrorism (United States) 3. Reduce oil imports/consumption (Brazil and United States) 1. Reduce air pollution (United States and Canada) 2. Reduce greenhouse gas emissions (United States and Canada) 4. Increase farm and rural incomes (United States, Mexico and Canada) 5. Infant Industry Argument (Canada)

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9 Emerging (?) Criticisms Net Energy Balance Reduction in Oil Use GHG reduction Anti terrorism Food vs Fuel Distributional Effects and Efficiency of Income Transfers Air Pollution Claims

10 y Reduce dependence on foreign oil borders on national security arguments (U.S.) y Improve trade balance reducing imports of secondary petroleum products (Mexico)

11 Net energy calculations suggest small gains at best High cost way of reducing GHG emissions Other emission results are mixed

12 Figure 1: Price of Crude Oil in Constant (2007) $US Constant 2007 $US per Barrel May 8, Average Jan - Apr 2007 Average Year

13 Figure 2: US CPI Adjusted Gasoline Prices, (2007 cents/gallon) 350 Price, All Types of Gasoline (2007 cents/gallon Average Jan - Mar 2007 Average May 7, Year

14 Source: US Biofuel Outlook, Credit Suisse, May 9, 2007

15 Figure 3: Toronto CPI Adjusted Gasoline Prices, (2007 cents/litre) Price, Regular Unleaded Gasoline (2007cents/litre) Average Jan - Mar 2007 Average May 7, Year

16 Figure 4: Constant (Jul, 2006) Peso Mexican Gasoline Price Converted to $US, Jan Jul Premium 2.5 US$ per Gallon Regular Jan-96 Oct-96 Jun-97 Mar-98 Dec-98 Sep-99 Jun-00 Mar-01 Dec-01 Sep-02 May-03 Feb-04 Nov-04 Aug-05 May-06 Year and Month

17 Figure 8: Supply and Demand for Gasoline and Ethanol - Increasing Marginal Cost of Gasoline MC e P MC e O Price MC g +t MC g Notes: Quantity Q* MC P e = Marginal cost of ethanol (pessimistic view); MC O e = Marginal cost of ethanol (optimistic view) MC g = Marginal cost of gasoline; MC g +t = Marginal cost of gasoline plus tax; D = Demand for gasoline/ethanol D

18 Figure 10: Supply and Demand for Gasoline, Ethanol and Ethanol Blends (Blends Only Exempt From Tax on Ethanol Proportion) S-20% Blend P 20 MC e O S-50% Blend S-10% B P 10 Price S-5% Bl P 5 MC g +t P 0 MC g Quantity Notes: MC O e = Marginal cost of ethanol (optimistic view); S-50% Blend = Supply of 50% blend ethanol; S-20% Blend = Supply of 20% blend ethanol; S-10% Blend = Supply of 10% ethanol; S-5% Blend = Supply of 5% blend ethanol; MC g = Marginal cost of gasoline; MC g +t = Marginal cost of gasoline plus tax; D = Demand for gasoline/ethanol D

19 Figure 11: Supply and Demand for Gasoline, Ethanol and Brazil-Produced Ethanol MC e O MC e B +tarrif MC e B Price MC g +t P* MC g Notes: Quantity Q* MC O e = Marginal cost of ethanol (optimistic view); MC B e = Marginal cost of Brazil-produced ethanol; MC B e +tarrif = Marginal cost of Brazil-prod ethanol plus tarrif; MC g = Marginal cost of gasoline; MC g +t = Marginal cost of gasoline plus tax; D = Demand for gasoline/ethanol D

20 Benefit to grain farmers is a cost to livestock producers Capitalization of gains into land prices Food vs fuel tradeoffs globally Subsidy cost per job created is high Competition among jurisdictions for facilities dissipates net benefits Movement toward consolidation of ownership of ethanol plants

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23 Impact of grain in livestock production: the Mexican case Products Grains as % of tfeed costs Feed costs as % of total costs Grains as % of total costs A B C=(A*B) Impacto of higher grain costs D=(C* % of increase of grain costs**) Milk 40% 65% 26% 15.6% Broilers 65% 62% 40% 24.2% Eggs 60% 55% 33% 19.8% Beef 65% 60% 39% 23.4% Hogs 72% 56% 40% 24.2% * Essentially corn and sorghum ** 60% average increase in price of feed grains Source: CNA ith data from producer based organizations

24 Because corn is the major feedstock for ethanol, in North America less is becoming available for the animal industry and for export 70% Use and production of corn in the U.S.: % and million of bu % Use and production of corn in the U.S.: % of total use 60% % 50% % 40% % 30% % 20% 10% 0% e 2008p % 10% 0% Alim. Animal Exportación Etanol Animal Exports Etanol Production estimación 2008 proyección Fuente: Rabobank con datos del USDA ERS, p

25 Do we need to talk about this rationale to this audience?

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27 Potential Trade Irritants? Differential levels of support and divergent Policy Goals

28 Divergent Policy Goals Drivers EU - 27 US Southeast Asia Rest of Asia Energy Security Medium - High High Low Medium - High Environmental Concern High Low - Medium Low Low Agriculture Revenues Medium High High Low - Medium Source: Rabobank

29 Table 2 Comparison of Ethanol Support Policies in Canada, Mexico and the United States Category of Support Import Duties Excise Tax Exemptions and Income Tax Credits Capital Grants or Concessional Loans Operating Grants Blending Requirements Canada Mexico United States Federal Provincial Federal Federal State $US 0.09/litre $US 0.09/litre Ethanol Expansion Program up to $US 0.03/litre 2007 Budget $US 0.09/litre 5% by 2010 Not Applicable $US 0.20/litre $US 0.142/litre Not Applicable Alberta $US 0.081/litre British Columbia $US 0.13/litre Manitoba $US 0.30/litre Ontario $US 0.132/litre Quebec $US 0.18/litre Saskatchewan $US 0.135/litre Ontario Ethanol Growth Fund up to $US 0.09 per litre of capacity Alberta $US 0.126/litre Ontario up to $US 0.099/litre Alberta British Columbia Manitoba 8.5 % in 2005 Ontario 5% in 2007, rising to 10% by 2010 Quebec Saskatchewan Not contemplated in Bioenergy Law Ad hoc support from Federal Agricultural Infrastructure Fund No target given, but government will make effort to use blended fuel $US 0.134/litre Illinois $US 0.079/litre Iowa $US 0.003/litre California $US 0.079/litre Indiana $US 0.03/litre Minnesota $US 0.053/litre Texas $US 0.053/litre Wisconsin $US 0.053/litre Minnesota 10%

30 Potential Trade Irritants? Differential levels of support and divergent Policy Goals Ambiguous status of fuel ethanol Agricultural good? Industrial good? Environmental good? Tariff category Blue, amber, green or black box? Biotechnology Food vs Fuel

31 Figure 5: Index of Consumer Level Tortilla Prices and the Overall CPI in Mexico: Jan 2006 = Tortilla Price Index Price Index Overall CPI Jan-06 Feb-06 Mar-06 Apr-06 May-06 Jun-06 Jul-06 Aug-06 Sep-06 Oct-06 Nov-06 Dec-06 Jan-07 Year and Month

32 Food vs Fuel Higher grain prices from ethanol demand has continental and event global consequences Percentage of total household food expenditure on corn and corn products: I = 10% poorest, X = 10% richest households Runge and Senauer project that the accompanying price increases from the use of food products to produce biofuels will exacerbate world hunger 12% They project an increase in the number of chronically hungry in the world of 600 million 0% 8% 4% I II III IV V VI VII VIII IX X Source: Rabobank with data from INEGI

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34 Policy response Quasi price controls on tortillas (Mexico) Promotion of corn production (Mexico) Export prohibition Argentina Ukraine China

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36 Potential Trade Irritants? Differential levels of support and divergent Policy Goals Ambiguous status of fuel ethanol Agricultural good? Industrial good? Environmental good? Tariff category Blue, amber, green or black box? Biotechnology Food vs Fuel Who would mount a trade challenge? OPEC countries? South and southeast Asian countries who might be future exporters?

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