Why Expand Domestic Consumption of Ontario Corn?

Markets
Why Expand Domestic Consumption of Ontario Corn?
by Brian Doidge, OCPA Economist and Market Analyst

OCPA has long pursued a policy of expanding the domestic consumption of corn rather than pursue export market opportunities for bulk grain. Industrial processing of grain corn in Ontario now accounts for about 84 million bushels annually or about 39% of the 216 million bushels produced in 2002/03. By comparison, only about 25% of the U.S. grain corn crop is consumed by industrial processors. As recently as the 2000/01 crop, industrial processing in the U.S. accounted for less than 20% of total consumption. The rapid expansion in ethanol production in the U.S. has taken up the slack in corn demand caused by weakness in export markets. Realizing that Ontario’s corn production is a drop in the bucket compared to the U.S. (in fact, given a 2.5%-3% field loss for even the best-adjusted combine, the U.S. loses more corn out the back end of combines than Ontario produces), OCPA has successfully fostered and encouraged expansion of domestic industrial processing in the province rather than attempt to compete in export markets.

“Over the past quarter century, farmers have experienced first hand the great policy experiment of `lower prices will lead to higher exports and prosperity’ and it has failed miserably. Corn farmers have endured more than a 67% reduction in price over that time period, our exports have remained static, and prosperity is even further from our reach.”
Keith Dittrich,
American Corn Growers’ Association

Many in the U.S. are now starting to think the way the OCPA has for years about the wisdom of expanding domestic consumption. The U.S. for most of the last century removed surplus production by exporting it and relied on predominance as an agricultural exporter to compete in world markets chiefly on price…a low price. But the last decade of the 20th century confirmed that the U.S. (and indeed North America generally) was no longer the least-cost producer of agricultural products. The time has passed when the U.S. could compete solely on price as the lowest cost producer; others can now do it better and cheaper. In fact, many analysts and observers in the U.S. have come to realize that in a competitive world market artificially distorted by ag policy, export markets are routinely the lowest priced markets with the seller, especially producers, bearing all costs of transportation and handling from source to destination. The traditional U.S. ag policy approach of fostering exports through cheap prices has not led to prosperity for producers and is coming under increasing scrutiny as a flawed policy.

Underlying OCPA’s strategy to expand domestic processing is the realization that:
• We are awash in 1 billion bushels of grain corn in the states immediately adjacent to Lake Erie, more than 75% of which is surplus to local feed usage.
• Price is determined on both sides of the border through the Chicago Board of Trade.
• Price for grain corn in Ontario is in reality price at the closest U.S. source plus freight.
• The border is open and essentially transparent to corn movement.

This means that the highest price possible for Ontario grain corn is price in the U.S. plus freight, which is the ‘import price ceiling’. This import price ceiling is the best price achievable because Ontario buyers can access an essentially endless supply of grain corn at that level. Ontario producers may on occasion capture short-term prices above that competitive level when localized and short-lived shortages or disruptions in transportation occur such as the current delay in the opening of the Seaway due to ice; but in the longer term, price in Ontario will equilibrate at U.S. price plus freight.

Theoretically, the highest price would be obtained for Ontario producers if enough corn processing were to locate here such that all corn produced in North America had to be transported here to meet demand. This would maximize transportation costs (for all other competing suppliers) and push local price to the absolute top. Local producers (with obviously the lowest transportation cost) would reap the benefit of higher transportation costs paid by others. On the other hand, the lowest price for Ontario grain corn will be the ‘export floor price’, when local production exceeds local demand. The ‘export floor price’ is the price necessary to compete in foreign markets minus the cost of freight and handling to move Ontario corn into that market ... and all costs are eventually borne by the producer.

With these thoughts in mind, OCPA’s strategy has been to attempt to ensure that price in Ontario is always at the ‘import ceiling’ and never at the ‘export floor’. In other words, expand domestic demand for corn to the extent that regardless of how large a crop we produce in the province, none of it need move very far to find a market. Minimize the transportation expense for as much of the domestic grain corn crop as possible.

The hurdle to overcome in this strategy, of course, is that no industrial processor will invest in new or expanded capacity in the province without an assurance of continuous supply. Exactly matching an uncertain annual provincial corn crop to continuous provincial demand (both feed and industrial usage) is not possible. Therefore, OCPA’s strategy has been to encourage the expansion of demand beyond provincial production capacity to ensure that even in record production years, all Ontario corn can be absorbed close to home. This means that in years of less than record provincial production, U.S. corn will be imported. In reality, U.S. corn will always be imported because processors and end users do not wait for our crop to be harvested and supply known before planning their production schedules. Processors achieve maximum efficiency through continuous production. Shutdowns resulting from shortages in corn supply are very expensive, extremely inefficient, and to be avoided at all costs. Therefore, most processors and feed mills use U.S. corn purchases booked well in advance as production insurance to ensure against shortfall in provincial corn supply.

This influx of U.S. grain corn, sometimes large as in 2000/01 and 2001/02, sometimes small as in 1998/99 and 1999/2000, causes some Ontario producers to question the wisdom of OCPA’s strategy. Since Ontario produces grain corn volumes surplus to provincial feed usage and these surpluses must move to other markets such as industrial processors or into export channels, the question to ask yourself is this:
• would I prefer to have industrial processing locate in Ontario thus minimizing my transportation costs (thus also needing to ensure access to U.S. corn supplies as required)
• or would I prefer to have industrial processing locate elsewhere, thus maximizing transportation costs for my corn which would have to move out of the province (thus also keeping U.S. corn out of Ontario)?
A practical example is corn ethanol. In the last decade, ethanol demand in Ontario has multiplied 33-fold. In the last 5 years, ethanol demand in Ontario has surged 352%. To meet this massive growth in demand, Ontario routinely imports 110 million litres of U.S. ethanol annually in addition to the 173 million litres produced in the province, of which perhaps 30% is processed from imported U.S. corn. If this volume of imported U.S. corn were to be restricted or stopped, it would be cheaper for ethanol users to simply expand the volume of imported U.S. ethanol rather than continue production of ethanol here using only Ontario corn which would be higher priced because of the restriction on U.S. corn imports. Higher Ontario corn prices might seem possible and perhaps desirable; however, that would not likely be the reality. Ethanol production would cease in the province, and be replaced by total reliance on cheaper imported ethanol. Because the OCPA does not represent ethanol producers, we cannot constrain the volume of ethanol imports. Demand for Ontario corn would fall, forcing prices lower despite the restriction on imports of U.S. corn. If enough industrial processing using Ontario corn were to cease in the province because of uncompetitively priced local corn, and be replaced by cheaper imported finished products such as corn sweetener, fructose, glucose, starch and oil (all of which are currently in surplus supply in the U.S.), Ontario corn surplus to local feed use would be forced onto export markets, the least cost marketplace where all transportation costs would be paid by Ontario producers. Therefore, to meet this explosion in demand for ethanol, OCPA strongly encourages the expansion of ethanol production here in Ontario (even if that requires continuation of some level of U.S. corn imports) rather than have all ethanol demand met by imported U.S. ethanol.

The choice is really rather simple:
1. I choose to locate industrial processing in Ontario, import U.S. corn to process into ethanol (or sweeteners, feeds, starch, etc.), and have a chance to supply perhaps 70% or more of the grind as Ontario corn at the ‘import price ceiling’.
2. I choose to locate industrial processing in the U.S., import U.S. ethanol (or sweeteners, feeds, starch, etc.), have only limited chance to supply any of the grind as Ontario corn, and have prices fall to the ‘export price floor’.
The OCPA’s strategy encouraging expansion of domestic industrial corn processing in the province reflects a strong conviction that Option 1 is preferable for Ontario’s corn growers.

8	Ontario Corn Producer April 2003