Impact of USDA’s August Crop Reports on Biofuels Processing and Grain Prices
AgMRC Renewable Energy Newsletter
Professor of Economics and Energy Economist
Ag Marketing Resources Center
Iowa State University
In late spring and early summer, profitability of the biofuels industry was being squeezed by record-high corn prices that approached $8 per bushel in some markets. Extreme upward pressure on corn prices reflected concern about unusually late plantings for a major part of the corn crop, along with severe flooding in Iowa, Illinois, Missouri and parts of neighboring states. Grain traders feared that these conditions would reduce yields and the number of corn acres harvested for grain. Iowa and Illinois are the largest and second-largest corn producing states, respectively. In a normal year, they produce about 36% of the U.S. corn crop.
The record high prices reflected concern that the corn market would need to severely ration domestic and export use through high prices. High prices are the market’s mechanism for encouraging users to curtail usage. Early indicators pointed to a possible need to reduce corn use for domestic livestock by 12 to 16 percent along with an 18 to 21 percent reduction in U.S. corn exports and a modest slowing of the expansion in corn processing for ethanol.
The August 12 USDA crop production forecast has lessened these concerns but still indicates corn supplies are likely to be considerably tighter than in recent years. The U.S. average yield per acre is forecast at 155 bushels per acre, up 2.6% from last year despite earlier weather set-backs. A yield at that level would be near the long-run upward trend in the U.S. corn yields. Even so, significant reductions in corn use for livestock and U.S. corn exports are indicated in order to accommodate the continued expansion of the biofuels industry. The ethanol industry is likely to continue expanding until its margins become negative for an extended period of time.
Our latest projections of corn and soybean supplies, utilization, carryover stocks and prices for the next two years are shown in the balance sheets for corn and soybeans. We also show distillers grain (DDGS) production, use, and approximate amounts of corn replaced by DDGS feeding, as well as the U.S. crop acreage devoted to ethanol and biodiesel production. Since the August crop yield forecasts are still very tentative, our projections also include scenarios of modestly lower and higher yields than indicated in the latest USDA forecast. The production numbers for corn and soybeans in the middle columns for 2008-09 of the balance sheets are the August 12 USDA forecasts.
Corn Processing for Ethanol
Corn processing for ethanol is expected to be modestly higher than indicated previously. The latest USDA projection shows an expected 37% increase in corn processing for ethanol in the year ahead. That compares with an estimated 42% increase for the current marketing year ending August 31, 2008, and a 32% increase in 2006-07. The projected increase for 2008-09 reflects a large number of plants that are under construction and will be operating for part or all of the year ahead. It also reflects new plants that have come on-line in the last several months that weren’t operating a year ago.
|The latest USDA projection shows an expected 37% increase in corn processing for ethanol in the year ahead.|
In the balance sheet links, we have listed the major assumptions behind our demand projections. A major assumption is that after the recent moderate decline in gasoline and crude oil prices, crude oil prices will stabilize in the $120 to $130 per barrel range. Stability in crude oil prices would tend to bring stability in gasoline markets, as well as in ethanol prices if infrastructure is adequate to handle sharply increased supplies. The recent decline in energy prices reflects a slight decrease in U.S. gasoline use, slightly increased U.S. gasoline stocks, reductions in consumer subsidies for gasoline in China, India, and other developing countries, and a significant down-sizing of index fund investments in commodity markets. The reduced foreign consumer subsidies encourage additional market rationing of gasoline use in developing nations as their consumers face higher fuel costs. In most developing countries, consumers have more flexibility to reduce miles driven than in the U.S.
The expansion in corn use for ethanol is expected to continue in the 2009-10 marketing year which starts on September 1, 2009. Our tentative projections place 2009-10 corn processing for ethanol at 4.9 billion bushels, provided that 2009 growing season weather is near normal. At 4.9 billion bushels of corn for ethanol, the industry would produce approximately 13.7 billion gallons of ethanol – enough to bring the national average blend of ethanol with gasoline to about 9.5%. Our projections for 2008-09 place ethanol production at approximately 11.5 billion gallons, up from about 8.4 billion in the current season.
The 2007 energy legislation requires 11.1 billion gallons of ethanol to be used in 2009 along with 13.0 billion gallons in 2010. The energy bill mandates would become important to the biofuels industry if corn supplies tighten considerably more than indicated in the August USDA crop report. With penalties for falling short of mandated levels, this mechanism would let ethanol plants pay whatever price is needed for corn to produce the required amount of ethanol. That would give the ethanol industry a competitive advantage over other end users in acquiring corn.
|Despite talk for the past 18 months that the ethanol industry will hit a “blending wall”, that limit has not yet occurred.|
We expect the ethanol industry to continue expanding through at least the next two to three years and to produce ethanol at slightly above mandated levels. Expanding production will require continued increases in infrastructure capacity and acceptance of ethanol-gasoline blends by various state regulatory officials, and the gasoline distribution and retailing industry. Despite talk for the past 18 months that the ethanol industry will hit a “blending wall”, that limit has not yet occurred. The “blending wall” is a view that the industry will produce more ethanol than the transportation, blending, and marketing sectors can absorb, forcing ethanol plants to shut down or delay opening of new plants.
Livestock and Poultry Feeding Impacts
Processing corn into food through the domestic livestock and poultry industries is still the largest use of corn. If the final U.S. corn production number is near the August USDA forecast, our projections show 10% lower the feed and residual use for 2008-09 than in the year just ending. Most of this use is for domestic livestock and poultry feeding, although it also includes a small amount of handling loss and unknown statistical error.
Our balance sheets also show approximately how much corn feeding will be replaced by increased use of DDGS. Published data on DDGS exports are not available, but this has been an expanding market, especially for shipments to Mexico. Our projection for DDGS replacement of corn in the domestic feed market assumes 15% of the DDGS supply will be exported. DDGS is better suited for ruminants than for mono-gastric species, so the largest use is for dairy and beef animals. Even so, some DDGS also is being used in the pork and poultry industries. Our analysis indicates about 28% of the anticipated decline in corn feeding in 2008-09 will come from increased domestic DDGS feeding. We expect a reduction in grain sorghum feeding as well as corn in the year ahead. The DDGS projection accounts for 24% of the reduction in combined feeding of the two major U.S. feed grains. This year’s U.S. grain sorghum crop is forecast to be19% or 95 million bushels smaller than last year due to reduced acreage and yields. Tightening grain sorghum supplies are a factor in the expected drop in grain sorghum feeding.
|Our analysis indicates about 28% of the anticipated decline in corn feeding in 2008-09 will come from increased domestic DDGS feeding.|
So far, the pork and poultry sectors are not showing a planned reduction that would match our projection. Some decrease in feeding in these industries can come from reduced marketing weights, but that would account for only a small part of the 10% decrease in total corn feeding. The cattle feeding industry is starting to reduce its numbers slightly. USDA’s July cattle-on-feed report placed cattle on feed in feedlots with over 1,000 head capacity at 4% less than a year earlier. Cattle feeders have some flexibility to leave feeder animals on forage longer before placing them in feedlots. That shortens the feeding period and decreases grain requirements somewhat. Recent contacts with University Extension personnel in major cow-calf producing states indicate the supply of feeder cattle may be tilted a bit more to heavier animals than in the past. If so, that would limit the flexibility of the beef industry to reduce corn feeding without cutting feeder numbers.
Our feed use projections are still quite tentative. With a further sharp decline in crude oil, gasoline, and ethanol prices, livestock feed use could be larger and ethanol production smaller than currently projected. At this writing, crude oil prices appear to be showing signs of stabilizing, after dropping about 23% from their earlier high of approximately $148 per barrel in June. Timing of the first killing frosts this fall also may affect feed use. A normal or earlier first frost across the Corn Belt would likely reduce corn quality, causing low-test weight corn that would tend to increase feed requirements per pound of gain.
In the marketing year ending this August 31, U.S. corn exports have reached an all-time high, surpassing the previous record in the early 1980s and increasing about 14% from the previous year. For the year ahead, we project exports to drop to 2.0 billion bushels, a 17.5% decline. The expected drop in exports reflects a much better foreign wheat crop than last year. USDA’s August 12 World Crop Supply-Demand report places potential foreign wheat production at 28% larger than last year. Last year’s crop was reduced by a second year of extreme drought in Australia. Australia normally is the world’s third largest exporter of wheat. Last year’s crops also were hurt by adverse weather in Europe, parts of the former Soviet Union, Canada, the U.S. and other areas.
|For the year ahead, we project corn exports to drop to 2.0 billion bushels, a 17.5% decline.|
Normally over four billion bushels (corn equivalent) of wheat are fed in world markets. Tight wheat supplies and very high wheat prices that exceeded $20 per bushel in some markets shifted part of this feed demand over to corn. A six percent increase in projected foreign coarse grain (feed grains + rye) production also is expected to weaken U.S. corn exports in the year ahead. Both the wheat and corn projections should be viewed as tentative at this time since they include Southern Hemisphere crops, where harvests are reversed six months from those in the Northern Hemisphere.
Carryover stocks are the amount of supply that remains at the end of the marketing year. For corn and soybeans, the marketing year ends on August 31. We show carryover stocks in weeks’ supply to visualize tightness in supplies. For corn, the industry would like at least a four week supply at the end of August to cover normal feeding, processing, exporting and merchandising needs until new-crop supplies are readily available. For the majority of the Corn Belt, not much new crop corn is available until the first week or ten days of October. Stocks representing less than a month’s supply are quite tight. Just how tight depends on the amount of reduction in use needed to keep carryover stocks from dropping lower. Our projections for 2008-09 and 2009-10, with normal yields, show ending carryover stocks at slightly less than a month’s supply, and that’s with a substantial decrease in feed use and exports. The tight supplies are likely to keep corn prices well above the levels of two to four years ago. Historically, high prices also will be needed as an incentive to increase area planted to corn next spring.
|Our projections for 2008-09 and 2009-10, with normal yields, show ending carryover stocks at slightly less than a month’s supply, and that’s with a substantial decrease in feed use and exports.|
The soybean harvest usually begins about the third or fourth week of September in the Midwest, so the minimum stocks level needed by the grain trade is slightly smaller than that for corn. Our projections show stocks of both corn and soybeans for next August at below-optimum levels. To keep stocks from dropping below absolute minimum trade needs, a significant cut in non-biofuels use likely will be needed unless yields are significantly higher than indicated in the August crop report.
Soybean supplies for the marketing year ending this August 31 are quite tight because of the large shift of soybean acreage into corn last year. Carryover stocks for this August 31 are expected to represent about a 2.3-week supply. For the year ahead, with the August 12 USDA crop forecast, we project stocks to decline to a 2.2-week supply. A one percent decrease in domestic crushings and a 13% decline in exports are projected in order to keep stocks from dropping below that level. The market will function as the rationing mechanism to insure that stocks do not drop much below a 2.2 week’s supply. The exact division between domestic crushings and exports will depend on the South American crop to be harvested in the spring of 2009 as well as the rate of growth in the Chinese market for soybeans. Chinese demand has been growing rapidly for the last half-dozen years, with that country now accounting for 44% of all U.S. soybean exports. Starting in 2009, last year’s energy legislation will require 0.5 billion gallons of biodiesel use nationally. That should be a supporting influence on domestic soybean crushings and soybean oil prices. Continued high vegetable oil prices will create incentives for ethanol plants to invest in technology for removing corn oil, which can also be used for biodiesel.
|For the year ahead, with the August 12 USDA crop forecast, we project soybean stocks to decline to a 2.2-week supply.|
Soybean prices will be very sensitive this fall and winter to crop prospects in Brazil and Argentina. These are the two major soybean supply alternatives to the U.S. World use of soybeans has grown by an average of 310 million bushels annually over the last six years. August USDA projections place next spring’s Brazilian and Argentine soybean crops at 2.5 and 6.5 percent or 55 and 110 million bushels above last spring. These two countries plus the U.S. and three other small producers in South America produce about 86% of the world’s soybean crop. Slightly over half of the world production is grown in South America. To meet the recent annual world growth in use, next season’s U.S. soybean crop would need to be about 120 million bushels larger than in the current season. With a normal U.S. yield, that would require about 2.6 million more U.S. soybean acres than were planted in 2008.
With limited additional cropland that can be brought into production in the U.S., the soybean market likely will generate incentives for larger soybean plantings in South America than now indicated. Our South American contacts indicate that because of a strong Brazilian currency, export tax issues and competition from corn in Argentina, nearby soybean futures prices in the $15 to $18 per bushel range may be needed to accelerate the expansion in South American soybean acreage.
Early Acreage Projections for 2009-10
A key conclusion from our 2009-10 projections is that more corn acreage will be required to meet expanding ethanol demand and at the same time supply other domestic and export markets. The emerging demand appears likely to create a need for much of this year’s increased soybean acreage to be shifted back into corn in 2009. If so, that will very likely tighten soybean supplies substantially in 2009-10. That would set the stage for a repeat of the tight soybean supply pattern that resulted from the large shift of soybean acreage into corn in 2007. Our projections incorporate expiring Conservation Reserve Program contracts that are expected to release slightly over a million acres for use next spring for corn, soybeans, and other crops. This land is below-average in productivity. The projections also reflect a small amount of land shifting from other crops including hay into row crops.
|The emerging demand appears likely to create a need for much this year’s increased soybean acreage to be shifted back into corn in 2009.|
With low carryover stocks, almost no reserve supply is expected to be available to offset serious weather problems, if they should develop. That will make corn and soybean prices very sensitive to U.S. and foreign weather conditions for at least the next two or three years.
Lateness of 2008 Crops
Corn and soybean crop development is the slowest in recent years. During the first few days of August, when the USDA crop production surveys and objective yield measurements were taken, 83% of the major-states’ corn crop had silked. That was down from 95% a year earlier and a normal 91%. Seventy-eight percent of the soybean crop was blooming, down from 90% a year earlier and a normal 88%. By August 10, 7% of the U.S. corn crop had not yet silked. About 60 days is required from completion of silking to physiological maturity of the corn crop. The largest delays in maturity are in low areas of fields, which typically are the first to receive killing frosts.
On average, large parts of the western Corn Belt receive killing frosts by late September or the first week of October. In northern Iowa, Southern Minnesota, and the Dakotas, killing frosts have sometimes occurred as soon as late August or early September. It is our understanding that the USDA August corn production forecast relied heavily on the 5-year average ear weight to translate the number of ears into bushels per acre this year, since less information on ear size was available than normal. Frost damage before the crop is fully mature could push production below the current forecast.
Uncertainty about yields will keep corn and soybean prices very sensitive to Midwest temperatures from now through mid-October. In 1995, another year of very late crop development, the U.S. corn yield estimate the following January was 12.1 bushels per acre below the August forecast. That much change in yield is very unusual and is not anticipated this year. However, a decline of two to five bushels per acre in the corn yield from the August 12 USDA forecast would likely put additional pressure on livestock feeding profits. Profitability of ethanol production might or might not be severely affected, depending on effectiveness of the government ethanol mandate mechanism. Even with effective enforcement of the mechanism, corn processing for ethanol likely would be reduced to a level near our low-yield column projections. In 1995, despite late development of the soybean crop, the final January crop estimate was 1.2 bushels per acre above the previous August forecast.
USDA, NASS, Crop Production, August 12, 2008.
USDA, WAOB, World Agricultural Supply and Demand Report.