NBB In Sight

Guns, butter and biodiesel
By Joe Jobe | January 01, 2008
"Guns and butter" was the classic economic model describing the relationship of two commodities that served as a paradox describing the relationship between a nation's investment in defense spending versus domestic programs. In the biodiesel business there has historically been a similar paradox between the constantly moving and highly volatile variables of energy and ag commodity prices. 2007 saw a fundamental shift in commodity pricing. Table 1 shows that all of the primary fats and oils for biodiesel production steadily moved up in close correlation to each other throughout 2007. Table 2 is a graph published in the Nov. 7 issue of Kingsman Biodiesel Weekly that demonstrates the completion of the nexus between agriculture and energy. It shows that in 2007, all the major global vegetable oils began to move in strong correlation to crude oil prices. This happened while U.S. fats and oil inventories rose. It's a remarkable shift that means agricultural lipids are now being globally traded as an energy commodity.

Table 1

Table 2

The most destabilizing factor the U.S. biodiesel industry faces as we start 2008 is the economics of inordinately high feedstock costs. At the November 2007 NBB meeting in Washington, D.C., we discussed in great detail the confluence of factors leading to high global triglyceride prices. Soybean oil futures have gone from 18 cents per pound in February 2005 to 47 cents per pound in December 2007, representing a 160 percent increase in that time frame. The U.S. dollar is at a 15-year low, crude oil prices are at inflation-adjusted all-time highs, and there have been increases in agricultural inputs, freight costs, acreage competition and inclusion of commodities as a portfolio component. Simply, the markets are looking at existing global lipid production and speculating that it will not be enough to meet future global demand.

Economic modeling commissioned by the NBB in 2004 and 2005 predicted that feedstock supply and pricing would be the significant future constraint on the industry. The study did not predict $100 per barrel crude oil, U.S. dollar devaluation or the confluence of the above factors happening simultaneously or so soon.

NBB has recommended a three-part plan for addressing this threat. First, in the near term, the industry has to be effective in its federal and state public policy goals in order to remain viable during this period of rampant speculative commodity pricing. To do so, we must be more unified and engaged as an industry in our coordinated government affairs efforts.

Second, in the medium term, we should do more to encourage and promote breeding programs and other means to provide yield and oil content improvements from conventional oilseeds, expanded acres of new oilseed crops, and breeding programs that will lead to sustainable oilseed crop production on non-productive lands.

Third, in the long term, we should do more to support research programs that will result in commercial algae production as a lipid source. It will be a tremendous challenge oversee the disciplined, simultaneous execution of all three parts of this plan, all of which put a heightened focus on the sustainability of natural resources. Even if we are successful in all areas, we may not see relief from these dynamics for some time, which means that 2008 is likely to be a difficult year for many in the biodiesel business.

Table 3

If there is a bright spot in all of this, it is that the current commodity pricing is sending powerful economic signals to agriculture to increase overall lipid production. Those signals will help stimulate innovation in the ag, industrial and technology sectors. It is a little-known fact that agriculture as an industrial sector has one of the best records of energy efficiency improvements of all U.S. industries over the past 40 years (Table 3). U.S. farmers have demonstrated they are among the most innovative, adaptive and willing to embrace technology improvements.

Our industry is currently constrained by the "guns and butter" model which links commodities to correlation pricing. However, if we are successful at addressing these goals to sustainably produce more fats and oils, we will put ourselves on a realistic path of growing more of our fuel supply. In this way I prefer to think of the "guns and butter" model as the tradeoff between increasing our reliance on the unstable geo-politics of crude oil (guns) versus increasing our reliance on agriculture (butter). In my view, I'd rather put more of my future in the hands of farmers and less of it in the hands of global oil barons and commodity speculators.
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