Monday, October 1, 2007

Ethanol Networks

The boom in ethanol production has not been followed by a boom in transportation networks to move the stuff.

The energy bill of 2005 mandated that ethanol consumption double over the next 7 years and provided incentives (tax breaks and subsidies) to increase production. However, too few realized that specialized rail cars, pipelines and trailers are required to transport ethanol. So as ethanol production boomed, the development of an ethanol transportation network didn't develop along side it.

Perhaps the incentives are to blame. The price signals regarding ethanol are artificially inflated by government action. Because ethanol production is subsidized, that's what people do. Since the subsidy may not be there tomorrow, you'd better produce while the gettings good. This is classic short term thinking.

Whereas an ethanol producer who is in it for the long run will make sure that specialized factors of production (transportation networks in this case) required in distribution are there, the short run incentives created by the subsidies puts such concerns on the back burner. Consequently, there is a glut of ethanol on the market and the price has dropped. This is a perfect example of the often perverse incentives created by government intervention.

Where is Henry Hazlitt when we need him?

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