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Erring on ethanol

May 22, 2006

MORE THAN JUST OIL PRICES have been rising lately. Ethanol, which in the United States is largely made from corn and added to gasoline, has also gotten a lot more expensive. And therein lies a short lesson in economics -- but not necessarily of the free-market variety.

Ethanol isn't significantly more expensive to produce than it was a year ago. But ethanol prices tend to rise and fall with gasoline prices; producers charge whatever the market will bear. In addition, refiners stopped using the environmentally disastrous additive MTBE this spring. Since refiners are required to oxygenate fuel, and MTBE and ethanol both serve that purpose, the demand for ethanol has risen dramatically, while supply hasn't and -- well, the rest is Economics 101.

Actually, maybe it's Econ 102. Because there's more than the free market at work here. U.S. taxpayers subsidize the domestic ethanol industry with billions of dollars a year. The producers, meanwhile, are protected from competition by a 54-cent-a-gallon tariff on less-expensive Brazilian ethanol, which is made from sugar. The government is also providing ethanol makers with a guaranteed growth market; the 2005 energy bill requires that ethanol production almost double by 2012.

Even though public outcry over gas prices has Washington scrambling, no one is talking about ending the billions of dollars in corn subsidies each year. The corn lobby is too powerful for that. But there is talk, amazingly enough, about ending the tariff on imported ethanol. President Bush has proposed dropping it, and Sen. Dianne Feinstein (D-Calif.) has joined with two Republicans to introduce legislation to do so. Opening the U.S. market to imports would increase supply and also give domestic ethanol producers a taste of free-market price competition.

With politicians from both the left and right supporting such a sane policy, the problem is the people in the middle -- the middle of the country, that is. Representatives of corn-growing states, and the formidable corn lobby, are putting up a fight. And there are signs that the pressure of politics is overcoming the logic of economics. House Majority Leader John Boehner (R-Ohio), who initially supported dropping the tariff, switched positions last week. Other Farm Belt representatives need to decide which is more important: the free market or the corn lobby.

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