OPEC President Blames Ethanol For High Oil Prices

OPEC president Chakib Khelil blamed speculation and ethanol for rising oil prices.

Khelil also linked the diesel fuel market to the rise in oil prices.

"This crisis originates from the introduction of ethanol onto the market, which contributed to reduced diesel production," said Khelil.

Less diesel fuel production in turn increased oil prices across the board, said Khelil, highlighting the impact of biofuels on oil markets.

Source : OPEC chief insists speculation behind price rises

I am having a hard time following his logic here but the facts are easy enough to check. Since ethanol has been used as a motor fuel for over 100 years I assume that what he means by the introduction of ethanol would be when the U.S. first set mandates for it's use. The first mandate was established in 2005 and began with the mandated use of 4 billion gallons of renewable fuels in 2006.

According to the EIA diesel fuel refining has increased since 2005 even as overall refining has decreased.

Diesel Refining
Total Crude Refining

So I don't totally know what to make of his comments. I think that they are just a general expression of OPEC's animosity towards renewable fuels. It reminds me of a quote out of the organization back in 2005.

"Our competitors, the alternative energy providers, are intensively pursuing research programs aimed at reducing the domination of oil and gas in the global energy market," Abdullah Salatt, Qatar's representative to OPEC, said. "Likewise, we should have our own independent programs."

Source : OPEC sees threat from 'alternative energy'

So while the rest of the world looks for solutions to the energy problems we all face, OPEC will be looking for ways to keep us addicted to their product.

March Ethanol Production Jumps Higher

March ethanol production increased to 730,674,000 gallons, almost a 100 million gallons higher than the February production number. Of course the February number is somewhat misleading due to the fact that February this year had two less days than did March. Looking at the barrels per day produced shows that March production was 561,000 BPD compared to February at 518,000 BPD.

March 2008 - 730,674,000 gallons
February 2008 - 631,050,000 gallons
January 2008 - 664,356,000 gallons
December 2007 - 636,762,000 gallons
November 2007 - 602,592,000 gallons
October 2007 - 588,756,000 gallons

January 2007 - 488,082,000 gallons

Source: - Energy Information Administration

Ethanol Co-Products and E. Coli

In January 2008, researchers at Kansas State published a study that that concluded ethanol co-products (distillers grains) increased the prevalence of E. Coli in cattle.

The results indicate that there is a positive association between DDG and E. coli O157 in cattle, and the findings should have important ramifications for food safety.

In the days that followed there were numerous news articles that tried to link the increasing use of distillers grains to the increases in meat recalls over the last few years.

Then in March 2008 the very same researchers published a follow up study that concluded that feeding cattle distillers grains did not increase the prevalence of E. Coli.

Unlike our previous studies, we found no evidence to indicate that dietary inclusion of distiller’s grains or corn processing methods have a significant effect on the prevalence E. coli O157 or Salmonella in cattle feces.

Following the release of this study there were hardly any news articles covering the story. The only articles that I saw at the time were in agricultural news outlets.

Now there has been another study published, this time by researchers at the University of Nebraska at Lincoln that concludes that there is no link between distillers grains and meat recalls.

At this point, there is no scientific evidence that feeding DG, at least at levels being used commercially, is the cause of a food safety crisis! Additionally, there is no scientific evidence to suggest that the feeding of DGs is the cause of the 2007 recalls.

Now the question is whether or not the media will cover this story or will they just leave everyone with the impression established after the first study was published that the food supply isn't safe and that it is because of distillers grains.

Study : Does Feeding Distillers Grains in Rations Increase E. coli O157:H7?

Is Institutional Speculation Driving Up Food Prices?

Last week, Michael W. Masters testified before the Senate Committee on Homeland Security and Governmental Affairs on the effects of institutional speculation on commodity markets.

You have asked the question “Are Institutional Investors contributing to food and energy price inflation?” And my unequivocal answer is “YES.”

These institutional investors, which he calls index speculators, include corporate and government pension funds, sovereign wealth funds, university endowments and other institutional investors. Over the last five years these index speculators have poured large sums of money into the commodity markets, increasing demand and pushing prices higher.

Today, Index Speculators are pouring billions of dollars into the commodities futures markets, speculating that commodity prices will increase. Chart One shows Assets allocated to commodity index trading strategies have risen from $13 billion at the end of 2003 to $260 billion as of March 2008, and the prices of the 25 commodities that compose these indices have risen by an average of 183% in those five years!

And the problem with this sort of trading is that it because this is long term investing, it essentially removes large stockpiles of the commoddities being invested in.

Index Speculators buy futures and then roll their positions by buying calendar spreads. They never sell.

And this is effecting the food supply by removing large quantities of key commodity from the market.

Let’s turn our attention to food prices, which have skyrocketed in the last six months. When asked to explain this dramatic increase, economists’ replies typically focus on the diversion of a significant portion of the U.S. corn crop to ethanol production. What they overlook is the fact that Institutional Investors have purchased over 2 billion bushels of corn futures in the last five years. Right now, Index Speculators have stockpiled enough corn futures to potentially fuel the entire United States ethanol industry at full capacity for a year. That’s equivalent to producing 5.3 billion gallons of ethanol, which would make America the world’s largest ethanol producer.

Turning to Wheat, in 2007 Americans consumed 2.22 bushels of Wheat per capita. At 1.3 billion bushels, the current Wheat futures stockpile of Index Speculators is enough to supply every American citizen with all the bread, pasta and baked goods they can eat for the next two years!

And this speculation has also had an effect on the price of oil and ultimately the price we pay at the pumps for gasoline.

In the popular press the explanation given most often for rising oil prices is the increased demand for oil from China. According to the DOE, annual Chinese demand for petroleum has increased over the last five years from 1.88 billion barrels to 2.8 billion barrels, an increase of 920 million barrels. Over the same five-year period, Index Speculators' demand for petroleum futures has increased by 848 million barrels. The increase in demand from Index Speculators is almost equal to the increase in demand from China!

Source : Testimony of Michael W. Masters (PDF)

This goes a long way to explaining some questions that I have had about the current food price situation. Looking at and comparing recent crop production numbers of not only corn but other crops as well indicated to me that supply is not the issue. So that only leaves demand as the driver of food price inflation and honestly it is hard to see how demand could have increased at such a pace without some form of artificial demand being created.

Recap Of Recent Food Price Studies

While almost every other news article it seems is trying in some way to blame ethanol for rising food prices, there have been several studies and reports published recently that conclude that other factors are having a much larger impact. Just to show the growing body of research I would like to recap those recent studies so that they can be seen in one place all together.

The opposition to ethanol production relies on the logical argument that the greater demand for corn from ethanol production raises the price of corn and all the food items that are made from corn. So the University of Wisconsin at Madison study published in April 2008 that focused on the effects of ethanol production on the price of corn seems like a good place to start. The study concluded that ethanol production was a factor in rising corn prices but not the only factor.

Since ethanol production capacity essentially doubled between the first two quarters of the last and current marketing years, the model results above suggest that ethanol’s contribution to the price rise was about 41 cents per bushel, ceteris paribus. This would have resulted in an average 2007/2008 first quarter price of $2.95 per bushel had nothing else changed. While this is a significant year over year increase, it is substantially less than the actual price appreciation between the start of 2006/2007 and the start of the 2007/2008 marketing year. As a result, while ethanol production has had a significant and positive impact on corn price, it does not fully explain price level changes in the 2006/2007 marketing year.

Whereas the study predicted that if ethanol were the only factor influencing the price of corn, the corn price would have been $2.95 per bushel, the actual cost was $3.34 per bushel. So ethanol increased the price of corn by 41 cents and other factors increased it by 39 cents. So according to this study ethanol was responsible for roughly half the increase in corn prices over the time period examined.

So the logical argument that ethanol production is raising food prices by raising the price of corn could only be half right at best.

The study by Texas A&M published in April 2008 concluded that ethanol production has had little impact on food prices, but has effected certain food items.

This research supports the hypothesis that corn prices have had little to do with rising food costs. Higher corn prices do have a small effect on some food items.

The study also plainly states that some of the food price increases that have been blamed on ethanol production are incorrect.

Important food items like bread, eggs, and milk have high prices that are
largely unrelated to ethanol or corn prices, but correspond to fundamental supply/demand relationships in the world.

The most recent study released by the University of Nebraska at Lincoln concludes that ethanol production is having a small part in overall food price increases.

The evidence available suggests that the ethanol industry alone is responsible for perhaps 30-40% of the increase in grain prices over the past two years, while these high grain prices themselves are responsible for no more than a 4% increase in U.S. food prices. This implies that ethanol is responsible for a 1-2% rise in US food prices.

Those are the studies that have come out in the last couple of months that deal specifically with ethanol's effect on food prices. The Federal Reserve Bank of Kansas City issued a report in March 2008 that detailed the various factors that are driving food price inflation. In their report they point to robust food demand, record high crop prices, and accelerating costs for labor and energy for fueling the steep increase in food prices.