us and french biofuels policy ^^^ possibilities for the future#

7/31/2019 US and French Biofuels Policy ^^^ Possibilities for the Future#

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US and French Biofuels Policy Possibilities for the Future

by

Wallace E. Tyner and Maxime Caffe

Purdue University

This paper provides an analysis of biofuels policy in the United States and inFrance. In both cases we compare the current fixed subsidy policy with a possiblefuture variable subsidy. The first section is on the United States and the second onFrance.

U.S. Ethanol Policy

Ethanol has been produced for fuel in the United States for at least 26 years.The industry launch was initiated by a subsidy of 40 cents per gallon (10.6 cents/liter)

provided in the Energy Policy Act of 1978. Between 1978 and today, the ethanolsubsidy has ranged between 40 and 60 cents per gallon (10.6 and 15.9 cents/l). Thehistory of subsidy changes is provided in Table 1. The federal subsidy today is 51cents per gallon (13.5 cents/l). Throughout all the history, the subsidy has alwaysbeen a fixed amount that is invariant with oil or corn prices (Tyner and Quear, 2006).

In addition to the federal blending credit subsidy, there are also some otherfederal and state subsidies. In fact, Koplow (Koplow, 2006) calculates the totalsubsidy available for ethanol in 2006 to range between $1.05 and $1.38 per gallon ofethanol (27.8 36.5 cents/l) or between $1.42 and $1.87 per gallon of gasolineequivalent (37.6 49.5 cents/l). Many would regard these figures as being high, butthey do demonstrate that the ethanol industry has been one with substantialsubsidies.

Ethanol economics

Ethanol gets its value from the energy it contains and its additive value.Ethanol has value as a gasoline additive because it contains more oxygen thangasoline (and therefore causes the blend to burn cleaner) and because it has a muchhigher octane than gasoline (112 compared with 87 for regular gasoline).Historically, ethanol prices have been higher than gasoline because of the additivevalue and because of the federal and state subsidies. Figure 1 provides the monthlyethanol and gasoline prices for Omaha, Nebraska, between 1982 and 2006.Examining Figure 1, one can see that the relationship between gasoline and ethanolprices began to change in 2002. Figure 1 also contains the regression fits for theentire period, and for the separate periods 1982-2001 and 2002-2006. Thecoefficients are all significant, and the regressions explain between two-thirds andthree-fourths of the variance in ethanol prices.


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Except for the summer of 2006, the spread between ethanol and gasoline wasgreater in earlier years than in the period 2002 and after. Ethanol even fell belowgasoline for a few months in 2005 leading some to believe that the natural price forethanol would be on an energy equivalent basis with gasoline. The spread increasedsubstantially in summer 2006 because of a change in federal rules that took effect

May 8, 2006. As of that date, the federal requirement for blending a certainpercentage of oxygen ended. One of the major sources of oxygen had been acompound named MTBE. However, this compound is highly toxic and had beenfound in the water supplies in several areas. With there no longer being arequirement to blend a certain amount of oxygen, many companies feared legalprosecution if they continued to use MTBE and switched to ethanol, which increasedsubstantially the demand and price of ethanol.

Table 1 History of Ethanol Subsidy Legislation

1978 Energy Tax Act of 1978$0.40 per gallon of ethanol tax exemption on the $0.04gasoline excise tax

1980Crude Oil Windfall Profit TaxAct and the Energy Security

Act

Promoted energy conservation and domestic fueldevelopment

1982Surface Transportation

Assistance Act

Increased tax exemption to $0.50 per gallon of ethanoland increased the gasoline excise tax to $0.09 pergallon

1984 Tax Reform Act Increased tax exemption to $0.06 per gallon

1988 Alternative Motor Fuels ActCreated research and development programs andprovided fuel economy credits to automakers

1990Omnibus BudgetReconciliation Act

Ethanol tax incentive extended to 2000 but decreasedto $0.54 per gallon of ethanol

1990 Clean Air Act amendments Acknowledged contribution of motor fuels to airpollution

1992 Energy Policy ActTax deductions allowed on vehicles that could run onE85

1998Transportation Efficiency Act

of the 21st CenturyEthanol subsidies extended through 2007 but reducedto $0.51 per gallon of ethanol by 2005

2004 Jobs Creation Act

Changed the mechanism of the ethanol subsidy to ablender tax credit instead of the previous excise taxexemption.Also extended the ethanol tax exemption to 2010.

2005 Energy Policy ActEstablished the Renewable Fuel Standard starting at 4billion gallons in 2006 and rising to 7.5 billion in 2012.

Source: (Commerce, 2006), North Dakota Chamber of Commerce.

As indicated above, there are three components to the market value ofethanol: energy, additive, and subsidy. It is interesting to portray these values interms of the relationship between crude oil price and the maximum a corn dry millcould afford to pay for corn at each crude price. To estimate such a relationship


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many assumptions were needed, and these assumption are detailed in Appendix A.displays the relationships between crude oil price and break-even corn price on thebasis of energy equivalence, energy equivalence plus additive value (assumed to be25 cents per gallon (6.6 cents/l) for this illustration, and energy equivalence plusadditive value plus the current federal blending subsidy of 51 cents per gallon (13.5

cents/l). The energy equivalence line was done assuming a figure of 70 percent,slightly more than the direct energy equivalent. Using Figure 2 one can trace out thebreak-even corn price for any given crude oil price. For example, with crude oil at$60/bbl., the break-even corn price is $4.82/bu. ($189.70/mt) including both theadditive premium and the fixed federal subsidy. This figure is for a new plant andincludes 12 percent return on equity and 8 percent debt interest. If we consider anexisting plant with capital already recovered, we add $0.78 per bushel $30.70/mt) toyield a break-even corn price of $5.60 ($220.40/mt).

Figure 1

Historic Ethanol and Gasoline PricesOmaha, NE

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Gasoline Ethanol

Ethanol = 0.671 + 0.870 * gasoline (1982 - 2006)

Ethanol = 0.212 + 1.121 * gasoline (2002 - 2006)

Ethanol = 0.547 + 1.096 * gasoline (1982-2001)

Any number of sensitivity analyses could be performed on the calculations

contained in this paper. Table 2 provides results on some important sensitivityanalyses. All the reported results are the corn breakeven for $60 crude oil. First,suppose that not all the subsidy gets passed through to dry millers and to the cornprice. The first sensitivity assumes the subsidy is effectively 40 cents (10.6 cents/l)instead of 51 cents. The breakeven corn price with the fixed subsidy becomes $4.50($177.11/mt) instead of $4.82 ($189.70/mt). Next suppose that the additive value is30 cents per gallon instead of 25. The corn breakeven price becomes $5.02($197.57/mt). With the additive value of 40 cents, the corn breakeven becomes$5.37 ($211.35/mt). There is no doubt that ethanol has an additive value as anoxygenate and for octane, but it is impossible to predict what it will be as ethanolproduction increases beyond the needs for octane and added oxygen.


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Another type of sensitivity would be to assume that ethanol might be pricedequivalent to gasoline on a volumetric basis instead of energy basis. Some arguethat in the long term refiners will choose to modify their refining process to produce alower octane gasoline, say 84 octane, which could be blended at 10 percent ethanolto produce the standard 87 octane regular gasoline. We conducted two sensitivity

analyses one with the supplemental additive value then at zero and one with theadditive value at 20 cents (5.3 cents/l). With volumetric equivalent pricing and noadditional additive value, the corn breakeven becomes $6.20 ($244.01/mt). Withvolumetric pricing and 20 cents additional additive value, the corn breakevenbecomes $6.89 ($271.17/mt). In all these cases except the lower subsidy passthrough, dry millers could afford to pay more for corn than in the base case.Combination of these cases could be done as well, but the approximate outcomescan be inferred from these results.

Figure 2

Breakeven Corn and Crude Prices with

Ethanol Priced on Energy and Premium Basesplus Ethanol Subsidy

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Table 2 Sensitivity Analysis for Corn Breakeven Prices with the Current Subsidy

Sensitivity Case Corn Breakeven with$60 Crude Oil

Subsidy pass-through equal to $0.40 instead of $0.51 $4.50

Additive value equal to $0.30 instead of $0.25 $5.02Additive value equal to $0.40 instead of $0.25 $5.37Ethanol priced equal to gasoline on a volumetric basisinstead of energy basis with no supplemental additive value

$6.20

Ethanol priced equal to gasoline on a volumetric basisinstead of energy basis with $0.20 supplemental additivevalue

$6.89


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During most of the history of the federal ethanol subsidy, crude oil pricesranged between $20 and $30 per barrel. With crude oil price in that range, the fixedfederal subsidy did not put significant pressure on corn prices. However, with crudeoil today around $60, there is significant pressure on corn prices. Ethanolinvestments in the United States have been during the past two years highly

profitable with payback periods as short as one year. This high profitability hasattracted significant new investment in the industry as shown in Figure 3. Ethanolproduction grew 1 billion gallons in 2005 and 2006 and is expected to grow 3 billiongallons in 2007, a doubling in two years. Because of this current and expected futuregrowth in ethanol production, corn prices have skyrocketed in fall 2006. In just a fewmonths, prices are up from about $2.25 ($88.55/mt) to $3.70 per bushel($145.62/mt), an increase of about 65 percent. This leap in corn prices is provokingan emerging opposition to ethanol subsidies on the part of animal agriculture andother corn users. Some are also concerned about the $4 billion cost (Euros 3 billion)of the subsidy in 2007.

Figure 3

Policy alternatives

In essence, the situation is that we are living an unintended consequence of

the fixed ethanol subsidy. When it was created, no one could envision $60 oil, buttoday $60 oil is reality, and many believe oil prices are likely to remain high. So giventhis reality, what changes in federal policy could be considered that would supportthe ethanol industry but provide less incentive for rapid growth in the industry leadingto abnormally high corn prices? There are several possible policy options that couldbe considered:

Ethanol Production

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Keep the subsidy fixed but reduce it to a level more appropriate for crude oilprices around $60

Find a way to limit the quantity of ethanol that would receive the subsidythereby permitting better control of the growth of corn based ethanol

Provide higher subsidies for cellulose based ethanol in hopes of accelerating

development and implementation of that technology Convert the subsidy from a fixed subsidy to one that varies with the price of

crude oil

Any of these options could be considered, but the remainder of this paper presentsan alternative subsidy in which the level of the subsidy varies with the price of crudeoil.

Variable subsidy

In designing such a variable subsidy, there are two key parameters: the price

of crude oil at which the subsidy begins, and the rate of change of the subsidy ascrude oil price falls. We will illustrate the variable subsidy using $60 crude as thepoint at which the subsidy begins. That is, when crude is higher than $60, there is nosubsidy, but some level of subsidy exists for any crude oil price lower than $60. Inthis illustration, we will use a subsidy change value of 2.5 cents per gallon (0.66cents/l) of ethanol for each dollar crude oil falls below $60. Thus, if crude oil were$50, the subsidy per gallon of ethanol would be 25 cents. If crude oil were $40, theethanol subsidy would be 50 cents per gallon. Therefore, for any crude oil priceabove $40, the ethanol subsidy would be lower than the current fixed subsidy. Forany crude price less than $40, the subsidy would be greater than the current fixedsubsidy of 51 cents per gallon.

Figure 4 illustrates the corn break-even price for different crude oil prices if thisvariable subsidy were in effect. In this case, the corn break-even price for a newethanol plant would be $3.08 per bushel ($121.22/mt), compared to $4.82 with thefixed subsidy shown in Figure 3. With oil at $50, the corn break-even would be $2.77($109.02/mt) for a new plant with the variable subsidy. $40 oil would support a cornprice of $2.27 ($89.34/mt) for a new plant and $3.05 ($120.04/mt) for an existingplant with capital recovered. So the variable subsidy provides a safety net for ethanolproducers without putting inordinate pressure on corn prices.

The difference between the two subsidy approaches can be visualized inFigure 5, which displays both the fixed and variable subsidies. From examining thisfigure, it is clear why the variable subsidy provides so much less pressure on cornprices. For any crude oil price above $60, there is no ethanol subsidy with thevariable subsidy, so ethanol plant investment decisions are made based on marketforces alone instead of being driven by the federal subsidy. For any crude pricebetween $40 and $60, the variable subsidy is less than the fixed subsidy therebyproviding less incentive to invest and less pressure on corn prices, but maintaining asafety net. However, with the fixed subsidy, ethanol plant investment decisions


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continue to be heavily influenced by the government subsidy even at crude oil pricesthat render ethanol very profitable in the absence of a subsidy. Thus, the variablesubsidy alternative is one option that merits further consideration in the policydecision process.

Figure 4

Figure 5

Breakeven Corn and Crude Prices withEthanol Priced on Energy and Premium Bases

plus Variable Ethanol Subsidy

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With price premium andvariable subsidy ($60/0.025)

Breakeven Corn and Crude Prices withEthanol Priced on Energy and Premium Bases

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French Biofuels Policy Analysis

This section provides analysis of the impacts of implementation of a variableethanol and biodiesel subsidy in France, compared to the current fixed subsidyapproach. It is based upon a recently completed M.S. thesis at Purdue (Caffe, 2006).

The recent law of agricultural orientation n 2006-11 from January 5, 2006,aims to increase the share of biofuels in total French fuel consumption to 7 percent,on an energy basis, by 2010. In 2005, French drivers incorporated 1 percent ofbiofuel in their automobile tanks. Liquid biofuel support programs launched in 1993 inFrance are implemented through a fixed tax exemption. The current tax credits are25 Euros/hl for biodiesel and 33 Euros/hl for ethanol. If the level of these taxexemptions stays the same, total spending by the French government could reach1,350 billion Euros by 2010.

The objectives of this study were first to analyze the feedstock and biofuels

costs of production in France and secondly to compare the current policy and avariable subsidy depending on crude oil prices. In order to estimate the futurefeedstock and biofuel cost of production as well as tax exemption levels, a micro-economic biofuel activity model (OSCAR) containing both a detailed agricultural andbiofuel industry sector was used.

Due to land scarcity in France, feedstock cost of production for the biodieselsector will increase compared to historical levels. On the other hand, French ethanolproduction could be moderately expanded compared to the current governmentobjective. We estimate that future biofuel cost of production, using feedstockproduced by most productive farms by the year 2010 would be 56 Euros/hl forbiodiesel and 39 Euros/hl for ethanol.

The value of any government subsidy or tax exemption must be judged onhow well it achieves its intended objective. In our case, the tax exemption mustprovide to the biofuel industry a fiscal advantage in order to be competitive withregular fuels and allowing biofuel production to meet the government biofuelincorporation objectives. It is possible to measure the efficiency of this tax exemptionby comparing the main objectives versus the cost to the government andconsequently to the tax payers.

Comparing the fixed and variable subsidy

In this section we compare the current fixed subsidy with a subsidy that varieswith the price of crude oil. We will examine the cost of the two approaches and therisk reduction brought about by the alternatives. We choose to use the example ofRME and ETBE, as prior to 2005 ethanol direct incorporation into gasoline waspractically non-existent. We used the difference between the cost of production,corresponding to the volume produced, and the valuation of biofuel on an energybasis to compute the variable tax exemption. Figure 6 shows the cost of the variable


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tax exemption from January 2002 until May 2006 for RME. We also can remark thatwhen crude oil price is close to an equivalent of 60-65 $/bbl, biodiesel becomescompetitive.

Figure 6 - Variable Tax Exemption vs. Existing Tax Exemption for RME from January 2002 untilMay 2006

Figure 7 shows the cost of the variable tax exemption for ETBE from January2002 until May 2006. We can see that in April 2006 the variable tax exemption costfor the government and consequently for the tax payer would have been close to 0.Effectively, the cost for the government corresponds to the area under the taxexemption times the volume of biofuel produced under agreements.

Figure 7 - Variable Tax Exemption vs. Existing Tax Exemption for ETBE (2002-2006)

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The total estimated cost for the government in the period 2002-2005 isestimated at 60.9 million Euros due to the tax exemption. If the variable taxexemption were implemented, this cost would shrink to 24.6 million Euros.

As mentioned previously, the variable tax exemption reduces government

costs, while giving the biofuel industry a safety net and truncating its down sidereturns. Also, this will automatically reduce the cost of saving one ton of CO2 forsociety. The variable tax exemption corresponds to a zero economic profit. A zeroeconomic profit is different from its meaning in accounting. A zero economic profitallows the biofuel industry to benefit from a normal rate of return. We decided tocompute two different variable tax exemptions, one with a zero economic profit and asecond one where the value of the difference between the cost of production and thevaluation is increased by 10 percent assuring that the industry would be profitable.We used the biofuel cost of production, obtained from the OSCAR model results atthe future volume required by the government objectives by the year 2010.

If we use an exchange rate of 1.25, the government would subsidize thebiodiesel industry until crude oil reaches approximately $85.5/bbl in both cases. Itwould subsidize the ethanol industry until crude oil reached approximately $89/bbl inboth cases. Also considering the current tax exemption, the variable tax exemptionwould exceed the current tax exemption if crude oil price would decrease under$46.8/bbl for the biodiesel industry and $9/bbl for the ethanol industry in the case ofno extra profit. In the case of extra profit, the variable tax exemption would exceedthe current tax exemption if crude oil price would decrease below $43/bbl for thebiodiesel industry and $1/bbl for the ethanol industry.

In order to see the total effect on the government expenditure, we computedthe total cost of the current tax exemption policy versus our variable tax exemptionunder three scenarios, where crude oil price is set up at $40/bbl, $60/bbl, and $80/bblcorresponding to the low, and high price scenarios of the Annual Energy Outlook(AEO) and the high of the crude oil market in 2006. Table 3 provides the total cost forthe French government of the tax exemption under three scenarios of crude oil pricefor the year 2010.

Table 3 - Total Tax Exemption Cost for the French Government in Year 2010

Notation: -ep stands for extra profit variable tax exemption case and -nep stands for no extraprofit variable tax exemption

If the government does not change its policy regarding the tax exemptionscheme, the total cost of supporting biofuel could reach 1.35 billion Euros, if 100

in x1000 Crude oil price $40/bbl $60/bbl $80/bbl $40/bbl $60/bbl $80/bbl $40/bbl $60/bbl $80/bbl

Biodiesel 913,788 913,788 913,788 1,061,822 583,728 105,634 966,057 531,825 97,593Ethanol 339,518 339,518 339,518 204,739 118,317 31,894 186,940 108,543 30,145

ETBE 98,824 98,824 98,824 63,547 31,833 412 57,977 29,138 1,029Total 1,352,130 1,352,130 1,352,130 1,330,108 733,878 137,940 1,210,974 669,506 128,766

Variable tax exemption-nepActual tax exemption Variable tax exemption-ep


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percent of the volume agreements are produced. If the price of crude oil stays onaverage at $60/bbl in year 2010, the cost of supporting biofuel under a variable taxexemption would fall to 0.733 and 0.669 billions Euros for the extra profit and noextra profits cases respectively. This corresponds to a decrease of 46 or 50 percentof total costs depending on the type of variable tax exemption implemented.

Also using the market condition as of November 10, 2006 for December crudeoil future and implementing them in the Black/Scholes model, we find out that themarket values the odds of crude oil being bellow $40/bbl in 2010 at 9 percent, 55percent being above $60/bbl and 28.5 percent being above $80/bbl using deltavalues1 of the options of the corresponding strike for the December 2010 contract. Byweighting those probabilities, we find that under those market conditions the totalexpense for the government with the variable tax exemption would be 0.601 billionEuros for the extra profit case and 0.549 billion Euros for the no extra profit case,which is 55 and 60 percent respectively less than the amount that the governmentwould pay by keeping the current tax exemption.

Comparison of cost of CO2 saved

Then, concerning the cost of saving one ton of CO2 the current cost for thebiodiesel sector is 159 /ton of CO2 saved. This cost is not effective compared toother alternative subsidies such as the efficiency enhancement of conventionalpower plants. However, if the price of crude oil reaches $60/bbl, this cost decreasesto 102 or 93 /ton of CO2 saved depending on the type of variable tax exemptionimplemented, but it could decrease even to 17-18 /ton of CO2 saved if the crude oilprice reaches $80/bbl. Table 17 provides the cost of saving one ton of carbon dioxideunder different oil price scenarios.

Table 4 - Cost of Saving One Ton of Carbon Dioxide under Different Oil Price Scenarios.

Notation: -ep stands for extra profit variable tax exemption case and -nep stands for non extra profitvariable tax exemption

It is important to note that the exchange rate has an important effect on those

costs. If the exchange rate decreases to 1.15 $/, then the total cost for thegovernment with a crude oil price at $80/bbl would be zero, so the cost of avoidingone ton of carbon dioxide would be also zero.

1The delta of an option for a specific strike price can be interpreted at the odds that the underlying contract being

above or below this strike price at its expiration; below for a put delta and above for a call delta.

in /ton of CO2 saved

Crude oil price $40/bbl $60/bbl $80/bbl $40/bbl $60/bbl $80/bbl $40/bbl $60/bbl $80/bblBiodiesel 159 159 159 185 102 18 168 93 17

Ethanol from wheat 355 355 355 214 124 33 196 114 28Ethanol form sugar beet 385 385 385 232 134 36 212 123 31

Variable tax exemption-nepActual tax exemption Variable tax exemption-ep


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To sum up, a variable tax exemption would decrease the cost for the tax payerby 12 to 100 percent, depending on crude oil price and exchange rate, and would stillstimulate investments in the biofuel industry market but decrease the biofuel industryprofit, while still providing the industry a normal rate of return. The industry wouldhave a safety net and less profit variability.

By comparing the current fixed tax exemption and a variable tax exemption,we find that the second option could decrease pressure on taxpayers while stillproviding a safety net to the biofuel industry despite profit erosion in the industry.Moreover, the risk side for the government would be a fall in the crude oil price, buteven if the crude oil price falls to $40/bbl, the government would still save 0.142billion Euros with an exchange rate of 1.25 $/.

Conclusions

Ethanol has been subsidized in the US since 1978. Currently the subsidy is

51 cents per gallon, and combined with $60 oil, ethanol production has becomehighly profitable. This profitability has stimulated a huge increase in ethanolproduction capacity with 6 billion gallons of new capacity under construction as ofJanuary 2007. This increase in ethanol production is increasing corn demand andprices. Under the current policy, ethanol producers could still invest profitably in newproduction with corn price as high as $4.82/bu. ($189.70/mt). Other assumptionscould yield substantially higher corn prices.

If government is interested in reducing upward pressure on corn prices,alternatives to the current fixed 51 cent per gallon subsidy could be considered. Oneoption would be to lower the fixed subsidy. This alternative would reduce thepressure on corn prices but would still provide ethanol subsidies under higher oilprices. It is also invariant to underlying market conditions. A second option would bea variable subsidy that provided an ethanol subsidy, which changes with the crude oilprice. The option evaluated in this paper provided no subsidy for crude oil priceabove $60, and a subsidy that increased 2.5 cents per gallon for each $1 crude priceis below $60. This option yields a breakeven corn price for $60 oil of $3.08/bu.($121.22/mt) compared with $4.82/bu under the current policy.

Another option, clearly, is to make no change in current policy. With thisalternative, the other corn using sectors such as livestock production and cornexports would be forced to make the needed adjustments. Less corn would be usedin these sectors, and prices for all livestock products likely would increase.

Similarly, the French government could save substantial sums of Euros with avariable subsidy based on crude oil prices. Using the Black/Scholes approach tocalculating the savings, the percentage saved would range from 55-60 percent. Itcould also achieve reductions in CO2 emissions at a much lower cost using thevariable subsidy approach.


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References

Caffe, Maxime. "Economic Analysis Of The French Biofuel Sector: Comparison OfCurrent Policy And An Alternative Variable Subsidy Policy." M.S., PurdueUniversity, 2006.

Commerce, North Dakota Department of. "National Legislative History." 12/8/2006.http://goefuel.com.Hurt, Chris, and Wallace E. Tyner. "Economics of Ethanol." Purdue University-

Extension, BioEnergy, 339 2006.Koplow, Doug. Biofuels - At What Cost? Government Support for Ethanol and

Biodiesel in the United States. Geneva, Switzerland: Global SubsidiesInitiative of the International Institute for Sustainable Development, 2006.

Tiffany, Douglas G., and Vernon R. Eidman. "Factors Associated with Success ofFuel Ethanol Producers." University of Minnesota, Department of AppliedEconomics, Staff Paper Series, Staff Paper P03-7.

Tyner, Wallace E., and Justin Quear. "Comparison of a Fixed and Variable Corn

Ethanol Subsidy." Choices21, no. 3(2006): 199-202.


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Appendix A

The link between crude oil price and breakeven corn price requires numerousassumptions. Following are the most important assumptions updated to November2006:

1) Relationship between crude oil price and gasoline price This relationship isgiven by the equation below:

Wholesale gasoline price ($/gal.) = 0.3064 + 0.03038 * crude oil price ($/bbl.)

The data for this equation was monthly data 2000-2006 from EIA/DOE. However,longer and shorter time periods were tested, and the results are remarkably stable.The adjusted R2 for the equation is 0.93, meaning that 93% of the variability ingasoline price over time is explained by changes in the crude oil price.

2) Relationship between gasoline price and ethanol price The energy equivalentprice of ethanol is assumed to be 70% of the gasoline price. That is slightly higherthan the pure energy equivalence.

3) Relationship between corn price and DDGS price DDGS price is a function of theprices of corn and soybean meal as follows:

DDGS price ($/ton) = 1.52 + 0.205 * soybean meal price ($/ton) +21.98 * corn price ($/bu.)

Substituting a price for soybean meal of $200/ton into this equation yields theequation used in the model:

DDGS price ($/ton) = 42.52 + 21.98 * corn price ($/bu.)

All data is from USDA, monthly 2003-06. Illinois prices were used for corn andsoybean meal, and Lawrenceburg, IN, for DDGS.

It is assumed that 18 pounds of DDGS is produced per bushel of corn used.

4) Ethanol yield per bushel of corn is assumed to be 2.65 gallons. Newer plants mayhave higher yield, but this figure is close to the industry average.

5) Capital cost for the plant is assumed to be $1.80 per gallon of capacity, whichtranslates to about 29 cents per gallon produced. Older plants had considerablylower capital cost, and much of the capital probably has already been paid off. Theplant is assumed to operate at full capacity.

6) Financial assumptions:


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The plant is 40% equity and 60% debt finance.The debt interest rate is 8%, and the equity return is 12%.

7) No value was assigned to the CO2 produced.

8) Energy costs:

Natural gas $9.00/mil. BTULP $1.20/gal.Electricity $0.06/KWHTotal energy $0.383/gal. of ethanol

9) Other costs (assuming $60 crude oil):

Chemical and enzyme costs $0.23/gal. of ethanolOther processing costs $0.09/gal. of ethanol

Non-corn operating costs total $0.70 per gallon of ethanol.

Given these assumed relationships and values, the Tiffany/Eidman (University ofMinnesota) spreadsheet model (Tiffany and Eidman, 2003) of a dry-mill ethanol plantwas used to calculate profitability and thus derive the breakeven prices. Breakevenwas assumed to be the point of zero economic profit; that is, it includes the paymentof debt and stipulated return on equity. Clearly, any of these assumptions and valuescould be modified in the future as conditions change.

Source: (Hurt and Tyner, 2006)

us and french biofuels policy ^^^ possibilities for the future#

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