How does petroleum price and corn yield volatility affect ethanol markets with and without an ethanol use mandate?
The recent increase in ethanol use in the US strengthens and changes the nature of links between agricultural and energy markets. Here, we explore the interaction of market volatility and the scope for policy to affect this interaction, with a focus on how corn yields and petroleum prices affect ethanol prices. Mandates associated with new US energy legislation may intervene in these links in the medium-term future. We simulate stochastically a structural model that represents these markets, and that includes mandates, in order to assess how shocks to corn or oil markets can affect ethanol price and use. We estimate that the mandate makes ethanol producer prices more sensitive to corn yields and less sensitive to changes in petroleum prices overall. We note a discontinuity in these links that is caused by the mandate. Ethanol use can exceed the mandate if petroleum prices and corn yields are high enough, but the mandate limits downside adjustments in ethanol use to low petroleum prices or corn yields.
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