CDAE 61: Assignment 4
Read NYT Op-Ed piece “A Growing Disaster” by Russell Harding, November 28, 2009
and Special Report: Business of Green: As Ethanol Booms, Critics Warn of
Environmental Effect by Erica Gies, June 24, 2010
1. Using your understanding of supply and demand, answer the following questions. The
goal is to understand the distinction between shifts in a supply or demand curve and
movements along the curve. Use appropriate graphs. You can either copy and past
graphs from Assignments assignment graphs, or draw your own.
a. The impact of ethanol subsidies on the supply and demand for ethanol (5pts).
First a word about subsidies. There is apparently a direct subsidy to
gasoline blenders for $0.45 per gallon for using ethanol, a $0.54 tariff on ethanol
imports from Brazil (where production is far more efficient and not subsidized),
plus many billions in subsidies for growing corn ethanol, subsidies for research,
etc. etc. etc. Total subsidies may be on the order of $1.45 a gallon, but since
ethanol has less energy than gasoline, that would be equivalent to a $2.21 subsidy
per gallon of gas (http://zfacts.com/p/63.html -I don’t vouch for this website, but
it does provide references). It does very little to decrease CO2 emissions or to
reduce our dependence on foreign oil, but does make huge profits for large agribusinesses that donate heaps of money to both political parties. So much for a free
market democracy.
Essentially, this is a subsidy for producers. It reduces their private costs
for producing ethanol, which is equivalent to a shift to the right in the supply
curve—more will be supplied at any price as compared to before. This leads to a
movement along the demand curve—more ethanol demanded due to a price
decrease.
b. The impact of increasing mandatory ethanol requirements for gasoline from 10%
to 15% (5pts)
Increasing mandatory ethanol requirements forces consumers to demand
more. It is a mandated shift to the right in the demand curve – more will be
supplied at any price as compared to before, which leads to a movement along the
supply curve—more ethanol supplied due to a price increase. (The z-facts
reference provided above treats this as an additional subsidy for producer).
c. The impact of increasing fossil fuel costs on corn production (two separate
impacts. Capture them both) (8 pts).
When fossil fuel prices increase, the demand for substitutes increases. This
will therefore lead to a shift to the right in demand for ethanol– more will be
demanded at any price as compared to before, which is a shift to the right in the
demand for corn, leading to a movement along the supply curve—more corn
supplied due to a price increase. However, as the article points out, fossil fuel is
a principle ingredient in the production of corn. Higher prices for fossil fuels
mean higher production costs for corn, which is a shift to left in the supply
curve—less corn will be produced at any price as compared to before. This leads
to a movement along the demand curve, with less consumption due to lower costs.
We can’t determine the net impact without more information. You should depict
both of these impacts on your graph
d. The impact of higher ethanol prices on the price of food and on malnutrition
(5pts).
Corn can be allocated towards food or ethanol. As more corn is devoted
to ethanol, less is available for food. This is essentially a shift in the supply curve
for food corn to the left– less will be supplied at any price as compared to before,
leading a movement along the demand curve, as people consume less in response
to higher prices. In wealthier countries, the movement in the demand curve is
likely to be minimal, since food for home consumption accounts for only 5.5% of
income in the US. In poor countries, where food for home consumption can
account for over 50% of a person’s budget, higher food prices will increase
malnutrition. The figure below depicts an elastic demand for food, which is the
case for people who spend ½ their budget on it.
2. What are the opportunity costs of increased ethanol production described in the articles?
(7pts max, one point each)
Micro opportunity costs:
 Land cannot be used for other activities.
 Ethanol uses large quantities of water, which cannot be used for other activities,
especially important in face of water shortages and “deleterious effect on local
wells”. “7 to 321 gallons of water for corn irrigation for every gallon of ethanol
produced”.
 “…just 25 percent gasoline displacement, corn ethanol would require 180 gallons
of water per gallon of fuel and use 51 percent of all U.S. cropland.”
 Corn used for ethanol could otherwise be used to feed the hungry
 Tax credits and subsidies cannot be used for other activities, such as funding
intelligent alternatives to fossil fuels.
Macro opportunity costs:
 It increases CO2 emissions due to conversion of forests and grasslands
 It threatens other ecosystem services provided by forests and grasslands.
 Water pollution.
 “394 violations of environmental regulations by ethanol processing plants”
 “Fertilizer and pesticide runoffs from the U.S. Corn Belt are key contributors to
“dead zones” in the Gulf of Mexico and along the Atlantic Coast…increasing
corn production to meet the 2007 renewable fuels target would add to nitrogen
pollution in the Gulf of Mexico by 10 to 34 percent.”
 Loss of buffer zones that protect the Gulf and other water sources.