1
Biofuels
ECON 373
March 26, 2012
2
Reference
• Bruce Gardner and Wallace Tyner. “Explorations in Biofuels Economics,
Policy and History: Introduction to the Special Issue.“ Journal of
Agricultural & Food Industrial Organization 5(1):1-8, 2007.
• Hill, J. E. Nelson, E. D. Tilman, S. Polasky, and D. Tiffany. “Environmental,
Economic, and Energetic Costs and Benefits of Biodiesel and Ethanol
Biofuels.” PNAS Vol.103, No. 30; 11206-11210, 2006
• Jörn P. W. Scharlemann and William F. Laurance. "How Green Are
Biofuels?“ Science Vol. 319 : 43-44, 2008
3
What is biofuel?
• Energy sources derived from recently living
organic material, as opposed to fossil fuels.
Biomass
energy
Biopower
Biofuel
ethanol
biodiesel
4
Topics relating to biofuels
• Demand for biofuels as related to fossil fuel markets
• Derived demand for feedstock, particularly agricultural
commodities.
• Supply of feedstock including resource constraints on feedstock
production, in land, water, and capital investment
• Environmental benefits and costs in the production and use of
biofuels and associated feedstock.
• General equilibrium effect on other markets
• International trade
• Impact of biofuel on global poverty and hunger
• Evaluation of policy options for biofuel including biofuel and
mandated use of biofuels.
5
Comparison of Ethanol and Biodiesel
6
Biofuel Net Energy Balance
7
Biofuel Life Cycle Environmental Effects
8
GMO Crops
9
Demand for Ethanol
• 2005: 14% of US corn
harvest proceed to the
ethanol production
• 2010: 40%
• Devoting all US corn and
soybean production to
ethanol and biodiesel
would offset 12% and 6% of
US gasoline and diesel
demand
10
Subsidies on ethanol
• Ethanol subsidies link energy policy with
agricultural policy.
• 51-cents-a-gallon subsidy: voted in 2004.
Reduced to 45 cents in 2008
11
Subsidies
• Alternatively to emission taxes, one could subsidize
abatement
• Economists are in favor of market-based instruments like
tax. Subsidy is negative tax
• Political feasibility: yes!! Firms love subsidies!
• But static inefficiency:
▫ Have to be financed through distorting taxes
▫ Hard to stop once started
• In case of subsidy on particular technology: dynamically
inefficient:
▫ Does government know which technology is best?
▫ Hampers technology competition
▫ Excess entry
12
Subsidy = Tax?
• Tax:
𝐶 𝑦, 𝑒 = 𝑉 𝑦, 𝑒 + 𝐹𝐶 + 𝑡 ∙ 𝑒
𝐶 𝑦, 𝑎𝑦 = 𝑉 𝑦, 𝑎𝑦 + 𝐹𝐶 + 𝑡 ∙ 𝑎𝑦
𝑀𝐶(𝑦) = 𝑀𝑉 𝑦 + 𝑡 ∙ 𝑎
• Subsidy:
𝐶 𝑦, 𝑒 = 𝑉 𝑦, 𝑒 + 𝐹𝐶 − 𝑠(𝑒 𝑢 − 𝑒 𝑟 )
𝐶 𝑦, 𝑎𝑦 = 𝑉 𝑦, 𝑎𝑦 + 𝐹𝐶 − 𝑠(𝑒 𝑢 − 𝑎𝑦)
𝑀𝐶(𝑦) = 𝑀𝑉 𝑦 + 𝑠 ∙ 𝑎
13
How much would the firms abate
under subsidy?
• marginal abatement costs = subsidy rate s
max 𝐴𝐶 𝑒 − 𝑠(𝑒 𝑢 − 𝑒)
𝑒
𝑀𝐴𝐶 𝑒 = 𝑠
14
Effect of Subsidy
Emission
(tons/month)
10
9
8
7
6
5
4
3
2
1
0
Marginal
Abatement
(MAC) Cost
0
15
30
50
70
95
120
150
185
230
290
Total
Abatement
(TAC) Cost
0
15
45
95
165
260
375
525
710
940
1230
Total Subsidy Total Subsidy
at $120/Ton Minus TAC
0
120
240
360
480
600
720
840
960
1080
1200
0
105
195
265
315
340
345
315
250
140
-30
15
Effect of Tax
Emissions
(tons/month)
Marginal
Abatement Cost
Total
Abatement Cost
Total Tax Bill
At $120/ton
Total
Cost
10
0
0
1200
1200
9
15
15
1080
1095
8
30
45
960
1005
7
50
95
840
935
6
70
165
720
885
5
95
260
600
860
4
120
375
480
855
3
150
525
360
885
2
185
710
240
950
1
230
940
120
1060
0
290
1230
0
1230
16
Subsidies on Abatement
• Subsidy (a) $3 and (b) $5 per ton of abatement
Table 3. Abatement and Marginal abatement cost schedule for two firms
17
Regression is everywhere
Financial Time: Once more Over a Barrel. March 24, 2012