Für Gary: Ethanol and Latin America: Economic Opportunity or Impediment to Growth?
#1 Für Gary: Ethanol and Latin America: Economic Opportunity or Impediment to Growth?
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Ethanol and Latin America: Economic Opportunity or Impediment to Growth?
With the upward trend in oil prices and geopolitical events in the Middle East many countries, especially the United States, are searching for alternative sources of energy. Ethanol has become the preferred choice in the Western Hemisphere and demand for the product has increased dramatically over the last few years. Although the increased use and production of ethanol holds many benefits for both North and South American countries, one must be cautious in evaluating the economic implications of this "ethanol boom" and in perceiving it as a panacea for Latin America development.
The United States demand for ethanol currently and will continue to outpace its supply, leaving Latin American countries to fill this gap. The Inter- American Development Bank (IDB) recently reported that over half a dozen Latin American governments have begun or are expanding major ethanol programs, namely Brazil, Argentina, Costa Rica, Colombia, El Salvador, Jamaica, Mexico, Nicaragua, Paraguay, Venezuela and Peru (IDB, 7/2/07). The IDB also noted that over 100 new distilleries are being built in Central and South America, with the majority being constructed in Brazil, but also in Costa Rica, El Salvador and Jamaica (IDB America, 8/06).
The IDB is forecasting that ethanol will turn poverty-stricken farmers into profitable entrepreneurs and attract investment to depressed rural areas. This could potentially generate much needed employment and relieve migration pressures in rural areas. Brazil, the leading producer of ethanol in the world at more than 600,000 barrels a day, has successfully integrated the ethanol industry into its economy by replacing 40 % of that country’s vehicle fuel with ethanol (Inter Press Service News Agency 2/3/07). Brazil has also been successful in creating a market for ethanol-fuelled cars, termed “flex fuel” cars, which run on gasoline, alcohol or a combination of the two. With the increase in ethanol-based production, employment in rural areas is increasing and providing much needed stimulus to the small local economies. Recently Minister of Development, Industry and Foreign Trade for Brazil Luiz Fernando Furlan stated that currently one million jobs are related to ethanol production. Furlan believes that this number will grow by 20 % over the next five years.
Although there are obvious benefits to the increase of ethanol use one must balance them with the potential negative and perhaps unintentional effects such as food price inflation, land and income inequality. The demand for sugar and corn in ethanol production has dramatically increased the price of these staple products. In January of this year a large protest was held in Mexico City to demonstrate against the rising price of tortillas. Tortilla flour has nearly doubled from $2.80 to $4.20 a bushel (Foreign Affairs, 05-06/07). This is a dramatic increase in a context where Mexicans depend on tortillas as a part of their daily nutritional diet and are subject to a minimum wage of $4.00 a day. With inflation and minimum wage increases hovering around 4 % last year in Mexico, a rise of 14 % in the price of tortillas is having a profound economic effect on the country’s poorest. The reason behind the dramatic increase in recent prices is the strong demand for corn supplies at ethanol plants in the US and elsewhere. The United States currently accounts for 70 % of the corn traded worldwide, therefore any deviation from its supply will have a robust effect on corn prices. Although Mexico is fairly self-sufficient in the production of white corn, which is used in tortillas, the country imports yellow corn for animal feed from the United States. The problem lies in that both types of corn are easily substituted for one another. For example, the diversion of corn to American ethanol plants results in lower corn exports from the United States, resulting in lower imports of yellow corn for Mexico, causing higher demand for Mexican white corn and hence higher prices for the average Mexican consumer. However, others have argued that higher tortilla prices rather, are a result of NAFTA since it opened up the Mexican corn market to cheaper US imports, resulting in lower domestic corn production since farmers who could not compete with the American imports were simply put out of business.
Turning to Brazil, the increase in exports of ethanol has and will continue to increase the country’s Gross Domestic Product and the majority of Brazilian sugar producers will share in larger profits. However, many believe that the ethanol boom in Brazil has and will continue to contribute to the increase in the country’s land and income inequality, which is already one of the highest in the world. The increase in ethanol demand, some argue, will also lead to environmental degradation as a result of clear cutting to plant more sugar cane crops.
Although ethanol is not a panacea for Latin America, it can certainly provide much needed investment and employment to economically depressed regions. In the Western Hemisphere the single most important policy to be adopted by developed countries is the elimination of tariffs and quotas on sugar cane ethanol by the United States. Currently the US imposes a duty of US$54 cents per gallon on imported sugar cane ethanol as well as an ad valorem tariff of 2.5 %. These tariffs limit market access for Latin American countries, especially Brazil, by reducing exports to the US market and limiting benefits to Brazilian sugar farmers. Some economists have pointed to these tariffs as the reason for tortilla price increases in Mexico, since they artificially inflate the price of corn in the US, which is then passed on to Mexican consumers. Although it is unlikely that the US government will eliminate sugar cane ethanol tariffs anytime soon, a gradual reduction in these tariffs over time could signal to both Brazilian and American farmers that the current scenario will not last forever. It may also force American producers to start looking at sugar cane ethanol, which is more cost effective to produce and provides more energy per pound than corn based ethanol, as a viable option in the United States.
Latin American policy makers must focus on the distribution of the wealth generated by the increased production of ethanol. This "ethanol boom" will not help rural development if the profits generated are concentrated in the hands of a few producers. A land reform policy to distribute land in rural areas would allow the benefits derived from ethanol production to be more evenly allocated. If a major land reform is seen as too big an undertaking, local farmers could form cooperatives whereby they would share in the production and profits. An additional consideration is that the United States is decreasing its exports of corn leaving a gap in the market that could be filled by Latin American farmers. For example, the Mexican corn farmers that were forced out of business because of NAFTA and cheap American corn may now be able to re-enter the market.
As long as world oil prices remain high it appears that ethanol, along with other biofuels, are here to stay however the impact that it will have on Latin America is still unknown. The region has the resources and labour force to lead the world in production and trade of this product. However, measures should be taken now so that both developed and developing nations of this hemisphere enjoy the benefits while minimizing the potential negative side effects of increased ethanol production.
Matthew Fuller holds a Masters in Development Economics (MDE) from Dalhousie University and has written extensively on Latin American development issues. He is currently employed with the Canadian government.
#2 RE: Für Gary: Ethanol and Latin America: Economic Opportunity or Impediment to Growth?
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