Food for Fuel

Difficult to digest

Anyone travelling around southern Bavaria this summer can’t but have been struck by the enormous amount of prime cropland devoted to growing maize (corn in America). The picture is not much different in the US. Talk about a breadbasket for the world, you would think. But, surprise, only a small fraction of the resulting grain will end up in chicken or cattle bellies, or as corn cobs smeared in butter. The rest will be converted into fuel for vehicles or feedstock for biomass-based power generation.

This is not the result of farmers wanting to save the planet or from drivers suddenly keen on massaging their green conscience. It is all down to juicy state subsidies to produce the stuff, and to mandated biofuel content for traditional vehicle fuels.

This would be quite alright if it meant we are doing our planet a favour; the few dollars extra cost would be a willing sacrifice. But not only is the greenhouse gas emission balance of such fuels iffy; they are also pushing millions of people into poverty in other parts of the world.

A new study by CESifo Research Network member Ujjayant Chakravorty and his colleagues Marie-Hélène Hubert and Beyza Ural Marchand, just released as a CESifo Working Paper, shows the extent of the damage this policy is causing, focusing on the distributional effects of the US Renewable Fuels Mandate on India.

Around 10% of US petrol (gasoline) now comes from corn-derived ethanol, a proportion that is expected to rise as a result of the Energy Independence Security Act of 2007 (note, not an act aiming to protect the earth against global warming). The US is by now the largest biofuel consumer in the world.

India, on the other hand, has a very high incidence of poverty. Over 400 million of its people are below the international poverty line of US$1.25 a day. The rest are not that much better: around 70% of the billion-plus Indians live on less than US$2 a day. To put this into context, eight Indian states have more poor people than the 26 poorest African states combined.

The authors use a model with endogenous land use to estimate the effect of biofuel policy on the world price of food commodities, in particular rice, wheat, sugar and meat and dairy products, which, they point out, provide nearly 70% of Indian food calories. They calibrate it by tracing the effects of diverting corn from food to energy use on the world market for major crops such as rice, wheat and sugarcane, as well as the effect of displacing food production to lower-quality lands. Unlike many other studies on the issue, they take the next step, which is to examine how these food price shocks will affect welfare among households in India.

They then combine their findings with Indian micro-level survey data for consumption and income to estimate the effect of the resulting price increases on household welfare. They are also careful not to disregard the positive effects of higher food prices, which benefit some Indian wages and prices as well, and to consider different degrees of “pass-through”, i.e. the degree to which world price increases are transmitted into domestic prices. They also allow for household heterogeneity in terms of their expenditure shares, factor endowments, income, geographical location and household structure to identify the groups that are most impacted.

They show that the net impact of even modest price increases (10-12% for most food crops) on Indian welfare is negative and regressive, that is, poorer people are affected the most. In the best of cases, under imperfect pass-through of such fairly mild price increases, around 16 million people will be pushed into poverty in India; with higher pass-through, no less than 42 million people would fall below the line, equivalent to nearly the entire population of Spain. With higher food price increases, say of 25%, as estimated by other studies, up to 88 million people will become poor, more than the whole population of Germany.

The high regressiveness of these effects is reflected by the fact that households that are larger, own less land, are less educated, have more female members and fewer children are impacted more, everything else remaining equal.

So, next time you get that warm glow inside because you’re using renewables to fill your tank, think again. Someone else may be going to bed on an empty stomach.

Ujjayant Chakravorty, Marie-Hélène Hubert and Beyza Ural Marchand, Food for Fuel: The Effect of U.S. Energy Policy on Indian Poverty, CESifo Working Paper No. 3910

• Other CESifo Working papers by Ujjayant Chakravorty
• Other CESifo Working Papers dealing with biofuels
• Other CESifo Working Papers dealing with food prices