Tuesday, May 01, 2007

Strategic Bio Fuels Reserve

Fidel Castro and Hugo Chavez have been on a major international campaign against the use of ethanol and other forms of bio fuels.

I agree that massive Federal subsidies for ethanol production will likely run astray. Federal subsidies have a history of creating false economies. Subsidies tend to concentrate wealth in the hands of a few politically connected people. Subsidies also tend to mask market signals. In other words, like most big government programs, subsidies lead to a false economy where a very small number of extremely rich people make questionable decisions based on bad information.

In such a world, it is highly likely that the government program would divert food resources from the mouths of babes into the belly of the machine.

Although it is likely that the proposed ethanol subsidies will be little more than an expensive boondoggle, I believe it is possible for the government to support ethanol production without messing up the market. It is even possible that for a government to support ethanol without hurting the food supply.

The challenge with the food supply is that the food supply is controlled by the weather. In years of famine, there is insufficient supply of food. Prices rise, and the amount of food stored decreases. Interestingly, the years of abundance are often worse for farmers than years of famine. In years of abundance, the market is flooded with food, and prices drop as farmers try to unload perishables in a crowded market.

To help even out this unpredictable market ruled by feast or famine, the United States government has all sorts of subsidies, price controls and tariffs in place.

Rather than creating a new ethanol subsidy, the US government could spur development of ethanol by replacing several of the existing farm subsidies with a strategic bio-fuel purchasing program. This program would purchase excessive corn in years of abundance and convert the excess into bio-fuels. This program would only purchase grain in times of abundance. The program would then sell fuel from the reserves on a gradual basis (helping offset the cost of the reserves.)

By coordinating the purchase of bio mass for bio fuels with climatic cycles, the government would actually end up enhancing the food supply by stabilizing the food market. They would encourage the development of the ethanol market by creating a stable source of ethanol.

By developing a strategic reserve that concentrates solely on buying excess production during years of abundance, the government would effectively create a bio fuels subsidy that enhances both the fuel and food production cycles. Such a system would work within the existing market, and would allow the government to answer strategic security needs of providing fuel and food with a minimum of direct interference in the market.


Charles D said...

So you oppose massive Federal subsidies, but support a new ethanol subsidy - which I suppose would not become massive because no one in Congress would want that?

It seems to me that ethanol is a dead end. Based on the science, it appears that burning ethanol results in a net energy loss. If we are going to have government subsidies or government investment, then it should be in more productive and sustainable methodologies which do not have the potential to drive up the cost of food.

y-intercept said...

I did not say that I approved of Bush's ethanol subsidies. What I said was that creating a strategic bio fuels reserve that purchased excess crops would reduce the need for both fuel and farm subsidies.

By purchasing oil for the strategic reserves, the government would effectively subsidize both industries. The fact that a purchase effectively subsidizes something is different from a direct subsidy.

The basic idea is that government buys up crop during a bumper year, then stores the fuel from that crop to sell in years of famine. This creates a predictable supply of bio fuels.

I actually think Bush's subsidies are short sighted. The post labeled the plan with slights like "boondoggle," "questionable decision," "false economy," among other nasty terms.

BTW, you might also notice that the post was not even strictly about ethanol. It was labeled bio-fuel. All bio fuels have the same problem: They become scarce in times of famine.

BTW: Purchasing excess corn during bumper years is a different equation than the one in the article you cite. What you are doing in this program is buying what would other wise become waste product. The energy invested to produce the crop is a sunk cost. You are simply realizing a higher return for a sunk cost.

Charles D said...

I don't see much difference between the government purchasing excess crops and the government giving a subsidy except that in the former case the taxpayers also pick up the cost of transporting and storing the crops.

If the government is going to purchase excess food crops to protect farmers (or big agribusiness) from taking losses, then it seems much more humane and responsible to use those crops to feed the millions of people who are dying of hunger around the world.

Rather than trying to create a predictable supply of biofuels, thus decreasing the supply and increasing the prices of those commodities, why not encourage development of more efficient energy sources or, for God's sake, conservation?

y-intercept said...

DL, did a libertarian steal your computer password? You generally want to stand on the left of every issue. I am surprised to see you standing on the right on this one.

Unfortunately, Libertarians never had and never will have much influence in the body politic. Libertarians tend to be shut out of political discourse with the accusation that they are ideologues.

The strongest argument against this "strategic bio-fuels" reserve is: "If this SBFR was a good idea, the market would do it on its own."

You are completely right that efficiency and conservation are the real keys to a sound energy policy. The market is generally the best way to measure different energy choices.

The problem is that the political world demands action. There is a political demand to support the development of bio fuels. So, how do you fill that political need in a way that doesn't muck things up?

IMHO, the bio fuel related initiatives created by politicians to date are dangerous. Laws that require a fixed amount of ethanol in fuel create an inelastic demand and market inefficiencies that defeat their purpose. The fact that agribusiness has to fill the government set quotas for ethanol before providing food for people is a recipe for disaster.

You mentioned millions dying of starvation. Most famines happen as a combination of crop failures and bad politics. An inelastic demand for bio fuels increases the chance of famine.

The market needs a buffer between production and consumption.

So, the question I asked is:
How does one fill the political demand to support bio-fuels with the least damage possible. The answer would be for the government to focus on the need of building reserves. Since it only buys bumper crops, it does not take food away from millions of starving people. Since the plan creates a market for excess, the plan actually increases the amount of food produced. The only real problem with the government doing such a plan is that mature markets tend to create their own systems of reserve.

Of course, the bio-fuel market isn't mature yet. Kick starting a reserve mechanism would be appropriate.

PS: One more note on efficiency: Since moving stuff around is thermodynamically inefficient, we would be better off with a large number of smaller facilities than one or two large facilities. It would be best to develop a strategic bio fuels reserve on a local level.

Building reserves at the local level provides politicians with the photo opportunity to stand next to a big shiny fermenting tank and grandstand before the crowds as men of action.

Scott Hinrichs said...

It seems you are saying that this SBFR would need to only be a temporary measure until the market matures. The problem, then, is how to shut it off when it is no longer useful and becomes a hindrance rather than a help. This is a common problem with government programs. They take on a life of their own and can never be shut down, even when the net effect is negative.

y-intercept said...


Let's pretend that there was a politician who wanted to make government smaller. This politician could present the SBFR as a replacement for some of the farm subsidies which are designed to protect farmers from price collapse during times of plenty.

You are right that there is rarely political will to stop old programs. The best way to make government smaller would be to morph old programs into new programs.

BTW, my assumption that there is a politician who wants to make government smaller is probably false.

Scott Hinrichs said...

I think there are a few that actually start out thinking that way. But unlike Mr. Smith going to Washington, they end up becoming part of the machine they intended to battle.

Charles D said...

I think it's more accurate to say that the political world demands a solution to the fossil fuel problem, not a specific solution, just a solution. That political will could just as easily be focused on something more productive if we had a bit of leadership in Washington - something we've been sorely lacking in the last few decades.

Scott Hinrichs said...

The interesting thing about that lack of leadership is that in our republic, we place officials in charge that are a reflection of us as a whole. A look at our dysfunctional political class is a look in the mirror.

y-intercept said...


What the politicized public wants is a single perfect solution to all problems proposed by a glorious leader they adore. What the teething masses want is a man of the people like Caesar or Napoleon to save them and make the pain go away.

IMHO, What we really need is to advance all the different methods of alternative fuels and to promote conservation. One solution alone won't do. Every single alternative fuel technology runs into major problems when pushed too far.

BTW, it is funny how Bush is being attacked on ethanol. Every single method of alternative fuel has piles of literature for and against it. There is a large pile of pro-ethanol research. Brazil seems happy with their ethanol technology. When Brazil started its ethanol program, the energy balance was even worse than in the article you cited. As their technology evolved, Brazil quickly moved from the negative to positive side of the curve.

Anyway, it is funny that the environmental movement turned about face on ethanol the moment Bush mentioned it in his State of the Union Address. If Al Gore were pushing ethanol, the large number of positive reports on the technology would be circulating around the net. (Only kooks on the right would be waving the anti-ethanol arguments.)

The reason the political process cannot help in the alternative fuel arena is because decisions get made on who is speaking and not the real merits of the technology. The fact that hundreds of thousands of Bush haters link to the anti-ethanol research does not mean that the technology is bad. There are parts which are promising and parts which are not.

Conversely, Conservatives linking to anti-global warming research does not make the dangers of rapid climate change go way. The political process determines what is popular.

A free market is better equipped to make rational choices about how far to push each technology. Unfortunately, our free market is so thoroughly hobbled with government regulations and monopolies that we will have a very hard time to get from here to a world with more alternatives on the shelves.


On the question of leadership, I don't think we a nation of follwers. There is a large flock of sheep on the left who love having the media think for them. There are even a few on the right.

Perhaps one fo the reasons for the apparent dysfunction in leadership is that we are a people who need more freedom to make our personal decisions and less government.