Texas Tech University, Turker Dogruer, March 2016 The demand and welfare analysis of Vegetable oils, biofuel, Sugar cane, and ethanol in Europe, Brazil and the U.S. By Turker Dogruer A Thesis In Agricultural and Applied Economics Submitted to the Graduate Faculty Of Texas Tech University in Partial Fulfillment of the Requirements for the Degree of Masters Approved Dr. Darren Hudson (chair) Dr. Eduardo Segarra Dr. Murova Olga March 24, 2016 Texas Tech University, Turker Dogruer, March 2016 Copyright 2016, Turker Dogruer Texas Tech University, Turker Dogruer, March 2016 Table of Contents CHAPTER 1 .................................................................................................................................... 1 INTRODUCTION ....................................................................................................................... 1 1.1 Problem Statement ..................................................................................................... 1 1.2 Objectives............................................................................................................................ 2 CHAPTER 2 .................................................................................................................................... 4 LITERATURE REVIEW ................................................................................................................ 4 2.1 Biofuel Production and Food Prices ....................................................................................... 4 2.2 Demand Estimation Models and Welfare Analysis ............................................................ 9 2.3.1 United States ....................................................................................................................... 14 2.3.2 European Union .................................................................................................................. 17 2.3.3 The Brazilian Biofuel Industry .......................................................................................... 19 CHAPTER 3 .................................................................................................................................. 26 DATA AND ESTIMATION ISSUES ........................................................................................... 26 3.1 Summary Statistics ................................................................................................................ 28 CHAPTER 4 .................................................................................................................................. 31 CONCEPTS AND METHODS ..................................................................................................... 31 4.1 Conceptual Framework ....................................................................................................... 32 4.2 Empirical Framework ........................................................................................................... 35 CHAPTER 5 .................................................................................................................................. 39 RESULTS ...................................................................................................................................... 39 4.1 Estimation Results ................................................................................................................. 39 4.1.2 Welfare Analysis ................................................................................................................. 50 4.2 Conclusion .............................................................................................................................. 52 5.1 Appendix ................................................................................................................................. 55 ii Texas Tech University, Turker Dogruer, March 2016 Acknowledgments I dedicate this thesis to my parents Fikriye and Tekin Dogruer who supported me with all they could during my research. I also would like to express my deepest appreciation to my committee chair professor Darren Hudson for his invaluable support during, not only this research, but also the journey in the Agricultural and Applied Economics department. I would like to thank my committee members Dr. Edwardo Segarra, and Dr. Olga Murova, for their constructive and informative instruction, and more importantly their encouragement and supports during completing my thesis. My deepest appreciation goes to my friends who during this research pathed the way to a less stressful and more productive work. Their encouragements and support help me endure the hardship I encountered during the completion of this study. These friends are: Abbas Aboohamidi, Erdem Tokgoz, Fatih Koca, and Emre Cekin. Last but not least, my greatest gratitude goes to my wife, Funda Dogruer, who despite her pregnancy and her school load work supported me with her presence, encouragement, observations, comments, patience, and love made this long journey not only easier but more pleasant. I would also like to express my appreciation to my unborn son, Ali, who would age with this paper, and who with his coming surprise illuminated my life. iii Texas Tech University, Turker Dogruer, March 2016 CHAPTER 1 INTRODUCTION 1.1 Problem Statement The topic of biofuel (biodiesel and ethanol) production from vegetable oils, sugarcane, animal fats, and some crop seeds has drawn the attention of researchers, policy makers, marketers, farmers as well as consumer advocacy groups. But examining the biofuel and food sectors, including vegetable oils and sugar can be challenging. Because biofuel is associated with both energy market as well as food market, each responding to different supply and demand characteristic. Although biofuels offer an alternative to fossil fuels in terms of CO2 reduction, their competition with products that are traditionally used for human and animal consumption raises concerns in regard to food and feed prices, and therefore to food security, especially in poor countries (Steer and Hanson,2015). Thus, biofuel production can represent an important factor on consumer welfare and vegetable oil market. In fact, the expansion of biofuel production in United States, Brazil, and European Union countries triggered a cascade of events in the agriculture sector: expansion of the land use by the crops used in biofuel production (corn, sugarcane, oilseed, and so on), increase in the prices of these crops, and increase in the prices of other food items. Various studies dealing with the issue of fuel versus food have been produced with the aim to quantify the effect of biofuel supply expansion on food prices. For instance, Collins (2008) attributes the increase in the farm level and retail food prices too many factors, including biofuels and specifically corn based ethanol. According to Collins (2008), biofuel is becoming a significant factor in high food prices. The rise in the crude oil prices by mid-2000 increased the use of corn 1 Texas Tech University, Turker Dogruer, March 2016 in ethanol production reaching levels as high as 40% of corn in United States. In fact, 98% of the US ethanol production use corn as an input and the percentage of corn used in the production of ethanol to the total usage increased from 35% in 2010 to 40% in 2013. In a parallel way, According to USDA, the production of ethanol in Brazil uses sugar cane and Brazil is the second largest ethanol producer behind United States. Moreover, 52% of the increase in soybean use is explained by biodiesel production. Creating upward pressure on the prices of edible soybean oil. In addition, Baier et al. (2009) predicts that the increase in ethanol production accounts for 30% of the rise in corn price. Runge and Senauer (2007) also stated that expansion in ethanol production increases corn demand, prices, and producer profit. They argue that the demand for biofuel has caused the basic food prices in the developing countries to substantially increase. The impact of the expansion of ethanol production has not been limited to sugar, corn and soybeans. The recent focus on biofuel production has affected various vegetable oils such as sunflower oil and canola oil as well, but the intensity of the impact is smaller compared to sugar and corn (Jorge and Sarquis, 2012). The effects of biofuel production have had different reactions and consequences in various countries, and many other factors contribute to the changes of food prices, besides biofuels, as mentioned by Baier et al. (2009). For example, the increase in US biofuel production is responsible about 60 percent of increase in crop prices, while Brazil accounts for 14 percent, and European Union’s biofuel production accounted for 15 percent only (Baier et al; 2009). 1.2 Objectives The overall objective of this study is to estimate the effect of the biofuel supply expansion on the prices of certain food items and their consumption. In addition, we estimate the welfare effects 2 Texas Tech University, Turker Dogruer, March 2016 under different scenarios of policies supporting the biofuel production (mandate, tax credit, and etc.) this study aims to: *To analyze vegetable oils demand in the United States and European countries, and sugar demand in the U.S and Brazil, at the consumer level, * To examine the effect of biodiesel production on vegetable oil market price and biofuel production on sugar market price in specific countries, and * To investigate the welfare effect of biofuel