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US Election Freezes Ethanol Tariff Talk 07/15/08 4:05:30 PM
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NEW YORK (Dow Jones) -- In any other year, historic flooding in corn country and $4 gasoline would have been the breaks the Brazil needed in its long quest to crack the U.S. market.
Unfortunately for Brazil's ethanol producers, it's an election year.
Flooding in the Midwest, which damaged corn crops across the region, exposed how over-reliance on corn-based ethanol has left the U.S. supply vulnerable to dramatic swings between oversupply and shortage. Nationwide, gasoline prices topped $4 a gallon for the first time in June. Both events emboldened opponents of a tariff on Brazilian ethanol, the only factor preventing the cheaper, sugarcane-based fuel additive from flooding the U.S. market.
Granted, high corn prices have already made some export volumes economically feasible. Brazil exported 188 million gallons of sugarcane ethanol to the U.S. last year, and expects that figure to increase fivefold in 2008.
The November elections are keeping the window for eliminating the tariff nailed shut. Congress tends to shy away from major policy shifts in the run-up to the vote, fearing backlash from constituents and anticipating a new, post-election political order. For a time, it appeared that high gasoline prices and a flood-damaged corn crop would trump political concerns. But as the floods appeared to cause less damage to farmland than expected, and gas prices began to plateau, a repeal of the tariff became increasingly unlikely.
"There's a good economic rationale for lifting the tariff, but it's more of a political challenge to get rid of it," said Divya Reddy, an analyst with Eurasia Group, an energy consultancy. "The (flooding) damage would have to be quite severe for them to actually lift the tariff."
Although the tariff's opponents are increasingly optimistic about their long-term chances, the outlook beyond November is unclear. Republican presidential frontrunner Sen. John McCain supports removing the tariff, but Sen. Barack Obama, his Democratic rival from Illinois, doesn't.
TARIFF TUG-OF-WAR
Ethanol is cheaper to produce from sugarcane than corn, but is mostly priced out of the U.S. market by a 54-cent tariff, which was put in place in 1980 to protect the struggling domestic ethanol industry. While several bills were introduced in the current Congress to lift or reduce the tariff, politicians representing agricultural districts have prevented any from reaching a vote.
Last year, U.S. ethanol refiners produced 6.5 billion gallons of ethanol, up from 50 million gallons in 1980. The additive is credited with helping to stabilize gasoline prices after Hurricane Katrina shut down Gulf Coast refiners in 2005. As corn prices have risen, the tariff was for most of this year the main reason many U.S. producers were able to stay in business.
U.S. ethanol producers have had trouble making the case that they are reducing gasoline prices lately, however, as AAA reported a nationwide average of $4 a gallon for the first time on June 8.
"When gasoline was $3 at the pump...the popular thing was to keep the tariff in place," said John Redpath, head of oil and agricultural trading at Deutsche Bank. "Now, it's a different story."
Ethanol's impact on agriculture is hotly debated, with recent estimates blaming the additive for anywhere between 3 percent and 75 percent of the increase in corn prices. Corn prices surged to a record $7.9925 a bushel on June 27, amid fears that flood-damaged farmland would not produce enough corn for both food and fuel.
"If you have flooding or if you have a severe drought, you're using what would have been buffer crop for ethanol production," said Josh Byrge, an analyst with the U.S. Federal Reserve Bank of St. Louis, who last week authored an article in a Fed publication advocating the tariff's removal.
An unprecedented backlash against U.S. ethanol formed during the worst of the flooding, in early June. Meat and food groups, whose members are feeling the sting of high corn prices, issued statements against the tariff. Sen. Richard Lugar, D-Ind., said he supported ending the tariff, a rare move by a farm-state senator.
FLOODING THE AIRWAVES
Sensing a shift in public opinion, the Brazilian Sugarcane Industry Association, or Unica, ran anti-tariff advertisements over the July 4 holiday weekend in California and Florida.
But Unica's campaign may end up as the high-water mark for the effort to lift the tariff this year. Weather conditions improved in the Midwest at the end of June, and corn growers say crop damage will be less severe than expected. Corn has fallen sharply over the last week and now trades at $6.55 a bushel. Gasoline prices are also showing signs of cresting, having risen 11 cents in June, compared with a more than 30 cent increase in May, according to the U.S. Energy Information Administration.
"We're under no illusion that just doing some ad is going to change this, but we wanted to be on the record," said Joel Velasco, chief representative of Unica in Washington, D.C. "We think we need to build momentum."
Unica is most likely laying groundwork for a post-election battle, rather than hoping for change this year, said Reddy, with Eurasia Group.
President George W. Bush only began pushing for the tariff's removal in his second term, a reminder that neither McCain's nor Obama's position today is a guarantee of what's to come, Reddy said.
New support for keeping the tariff could also emerge from unexpected quarters. Some believe importing more Brazilian ethanol would undermine U.S. energy independence.
"Ethanol is an ugly baby, but it's our baby," said T. Boone Pickens, the oil billionaire. "I'm not against any fuel unless it's foreign."
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