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What the Federal Government Can Do About Food Prices

It is important to review the broad range of federal policy changes that could be undertaken to increase the quantity of foods produced and moderate the rapid inflation of food prices.

By Cole Gustafson, NDSU Agriculture Economist, and

Dwight Aakre, NDSU Farm Management Specialist

A frequent question following recent speeches on the future of biofuels concerns the impact of increasing ethanol production on food prices.We always have replied that the rising value of raw commodities is small, compared with both the total food costs and price increases for other costs food processors face.

For example, even at these prices, the value of the corn in a box of Corn Flakes, by weight, is less than 30 cents. Several studies by the Federal Reserve Bank of Kansas City and Texas A and M University confirm that the increasing costs for transportation, labor and energy overshadow higher agricultural commodity prices.

Nevertheless, rising food prices are a public concern at present in the U.S. and abroad. Therefore, it is important to review the broad range of federal policy changes that could be undertaken to increase the quantity of foods produced and moderate the rapid inflation of food prices. In other words, what can the U.S. do to increase food production in the near-term?

Several options and their merits include:

  • Change farm programs – In the past, provisions of the farm program, such as direct payments and loan programs, could be adjusted up or down to manage U.S. food production goals. However, when prices for most commodities are far above support levels, such as now, these provisions matter less to producers. Therefore, even substantial changes in farm program provisions would do little to increase overall food production. Direct payments do not have an impact on what or how much is produced. Provisions, such as loan rates, loan deficiency payments, farmer-owned reserve, set-aside, target prices, counter-cyclical payments, deficiency payments, acreage allotments and subsidized crop insurance, could have an impact on the levels and mix of crops produced. Of this set of farm program tools, only crop insurance is having any significant impact today.
  • Open Conservation Reserve Program (CRP) acreage – Almost 35 million agricultural acres are being idled under CRP. The USDA’s most recent survey of land use found that 442 million acres were devoted to crop production in 2006. A significant amount of acres went into CRP as whole-farm units during the financial crisis of the late ‘80s and early ‘90s. Much of this acreage is very productive, even though it is highly erodible. Returning these lands to production would increase total food supplies. However, most of this land initially was enrolled because it was uneconomical to farm. However, CRP land may be economical to farm now, but concerns about the impact of farming these highly erodible lands probably would raise the ire of enviromentalists who are important constituents of farm bill legislation. Other USDA restrictions on the drainage of nuisance wetlands, commonly referred to as the Swampbuster Program, are keeping many potentially highly productive crop acres from being adequately drained. If changed, it could result in a significant increase in production on those acres.
  • Remove the ethanol blender’s tax credit – Removing the 51-cent-per-gallon blender’s tax credit for ethanol production would lessen the overall demand for corn. However, with less ethanol production, fewer distillers grains would be available. At present, distillers grains, a byproduct of the ethanol production process, is widely available as a livestock feed. For each bushel (56 pounds) of corn ground for ethanol, 18 pounds of distillers grains are left over for animal feed. Since demand for a livestock protein would remain, corn that is not directly used for ethanol likely still would be demanded for animal feed. Removing the tax credit would result in either more corn for food, more meat produced, more of other crops produced for food or a combination of all three. The bottom line is that saving a bushel of corn from ethanol production only provides two-thirds of a bushel for another use that wouldn’t otherwise be available. It is not a one-for-one savings. In addition, ethanol provides 5 percent of the total U.S. gasoline supply. Producing less ethanol would raise gasoline prices further, which would exacerbate another price problem the federal government is trying to solve. The 2007 Energy Indepedence Act codifies increased ethanol production from 7.5 billion gallons per year to 15 billion gallons per year, regardless of the profitability of ethanol production or secondary impacts.
  • Remove the tariff on foreign ethanol – Removing the 54-cent-per-gallon tariff on foreign ethanol would allow more ethanol to enter the U.S. Unlike the removal of the blender’s tax credit, this policy change would dampen demand for corn acreage, but it also would result in lower, not higher, fuel prices. Again, the eventual impact would be small because ethanol constitutes only 5 percent of U.S. gasoline consumption at present. Moreover, climate change implications of this policy are mixed because imported ethanol primarily is derived from sugar cane. While the carbon footprint of sugar to ethanol is more favorable than corn ethanol, concerns have been raised about the deforestation of additional acres to meet U.S. demand.
  • Remove the tariff on urea from former Soviet Union (FSU) countries – The U.S. imposes a tariff on imports of urea fertilizer from FSU countries that effectively keeps imports from these countries out. The FSU countries are the world’s leading exporters of urea fertilizer. U.S. farmers are not able to utilize this lower-priced source of nitrogen, which is a key yield-enhancing input for many crops, particularly corn and wheat. Allowing it in would lead to higher overall farm production.
  • Raise interest and exchange rates – The most direct policy for increasing food supplies is monetary policy set by the Federal Reserve Board and its chairman, Ben Bernanke. The Federal Reserve has lowered interest rates in an effort to avoid a U.S. recession, restore confidence in distressed financial markets and aid a struggling housing sector. However, lower interest rates have had the unintended consequence of lowering the exchange rate for U.S. currency. Since 2000, the exchange value of the dollar has fallen by almost 40 percent. As the value of the U.S. dollar falls, U.S. food becomes cheaper overseas. U.S. agricultural exports have risen nearly 40 percent ($62 billion in 2004-05 to $82 billion in 2007), which is about as much as the fall in the value of the dollar. Likewise, a falling dollar has made it much more difficult to purchase the 60 percent of U.S. oil that is imported. Raising interest rates and the exchange value of the U.S. dollar would result in less export demand for U.S. agricultural commodities, but lower the cost of foreign oil purchases.

In summary, future food prices may be more dependent on the decisions of the Federal Reserve Board, Department of Energy and Environmental Protection Agency than the Department of Agriculture.


NDSU Agriculture Communication

Source:Cole Gustafson, (701) 231-7096, cole.gustafson@ndsu.edu
Source:Dwight Aakre, (701) 231-7378, dwight.aakre@ndsu.edu
Editor:Rich Mattern, (701) 231-6136, richard.mattern@ndsu.edu
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