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U.S. Ethanol Subsidies: A Bad Policy That Refuses to Die


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Ethanal subsidies snuck into the new Bush tax cut extension law.

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U.S. Ethanol Subsidies: A Bad Policy That Refuses to Die

  1. 1. More Slides from Ed Dolan’s Econ Blog Ethanol Subsidies: A Bad Policy that Refuses To Die Posted December 19, 2010 Terms of Use: These slides are made available under Creative Commons License Attribution— Share Alike 3.0 . You are free to use these slides as a resource for your economics classes together with whatever textbook you are using. If you like the slides, you may also want to take a look at my textbook, Introduction to Economics, from BVT Publishers.
  2. 2. Ethanol in the 2010 Year-end Tax BillIn addition to extending income tax cuts and unemployment benefits, the tax bill passed by Congress in December, 2010, extends key elements of U.S. ethanol policy, otherwise set to expire A $.45 per gallon tax credit for ethanol used as motor fuel (plus a $. 10 bonus for small producers) NEDAK Ethanol Plant A $.54 per gallon tariff that applies to Atkinson, Nebraska Photo source: http://upload.wikimedia. org/wikipedia/commons/e/e3/Atkinson%2C_Nebraska_factory_to_SE.JPG most ethanol imports Posted Dec. 19, 2010 on Ed Dolan’s Econ Blog
  3. 3. Stated Goals of the Policy Enhance U.S. national security by reducing dependence on foreign oil Improve the environment by encouraging substitution of ethanol for gasoline An oil tanker loading at an offshore terminal in the Middle East Photo source: Posted Dec. 19, 2010 on Ed Dolan’s Econ Blog
  4. 4. Negative Externalities and Social Cost The logic of intervention in fuel markets is that pollution and national security concerns are “social costs” (externalities) that are not included in market costs Because of them, the true opportunity cost of using petroleum-based fuels is higher than the market price At the price P0 the quantity sold Q0 is greater than the efficient amount Q1 that would be sold at price P1. However, it is doubtful that U.S. ethanol policy accomplishes its stated objective of offsetting harmful social costs Posted Dec. 19, 2010 on Ed Dolan’s Econ Blog
  5. 5. Problem 1: Net Energy Gains from Ethanol are Low Energy Energy Energy Producing ethanol from corn uses value of value of value of energy inputs in farming and ethanol inputs corn distilling that are nearly as great, or greater, than the energy value of ethanol produced Studies differ slightly because of assumptions about technology, energy value of by-products, land use effects, and so on In addition to the net energy problem, other studies suggest that there is little or no net carbon Source: Tad W. Patzek, “Thermodynamics of the Corn-Ethanol Fuel Cycle,” U.S. Berkeley , gain from corn-based ethanol Posted Dec. 19, 2010 on Ed Dolan’s Econ Blog
  6. 6. Problem 2: Subsidies are Not the Best Corrective Policy Even if corn-based ethanol were highly efficient, subsidies would be a bad way to correct the social cost problem Instead, each fuel (gasoline, ethanol, natural gas, electricity, etc.) should bear a tax proportional to its social costs Such a policy would encourage use of the most efficient fuels, and would also provide an incentive for reducing overall fuel use through choice of more efficient cars, moving closer to work, use of local products, and other lifestyle changes Revenue could be returned through cuts in other taxes or used to reduce the deficit Posted Dec. 19, 2010 on Ed Dolan’s Econ Blog
  7. 7. Problem 3: Ethanol Tariff Blocks Efficient Trade International trade operates most efficiently when products move from relatively low-cost to higher-cost producers (the principle of comparative advantage) Brazilian sugarcane-based ethanol is the world’s lowest cost source However, imports of Brazilian ethanol to the U.S. are blocked by a $.54 per gallon tariff Sugar cane harvesters in Brazil Photo source: Mariordo, Piracicaba_10_2008_Sugarcane_harvester_199.jpg Posted Dec. 19, 2010 on Ed Dolan’s Econ Blog
  8. 8. Problem 4: Ethanol Exports International trade is further distorted by the combined effect of U.S. ethanol tariffs and tax credits Rather than simply blocking ethanol imports, these policies have made the United States a net ethanol exporter, in direct contradiction to comparative advantage The reversal of ethanol trade imposes costs on consumers and taxpayers that far exceed the increased profits to corn farmers and ethanol distillers Posted Dec. 19, 2010 on Ed Dolan’s Econ Blog
  9. 9. The Bottom Line: A Bad Policy that Refuses to Die U.S. ethanol policy is ostensibly intended to improve environmental quality and national security Its actual effects are the opposite—it does little or nothing for the environment and national security while imposing huge costs on taxpayers and consumers It is a bad policy that deserves to die, but refuses to do so Posted Dec. 19, 2010 on Ed Dolan’s Econ Blog