Price Elasticity of Demand
Ethanol production in the U.S. has grown tremendously in the last decade. Production was averaging one billion gallons per year in the early 1990s, grew to four billion gallons in 2005, and in 2007 exceeded six billion gallons (Renewable Fuels Association (RFA)). If current plans for new construction and expansion come to completion, production capacity will exceed eleven billion gallons by the end of 2010. Recent growth has been supported by the combination of favorable public policy and high nominal gasoline prices. The purpose of this paper is to answer three important questions:  If the demand for corn increases due to its use as an alternative energy source, what will happen to the supply of corn's substitute such as soybean?  What will happen to the price of corn oil?  How does the price elasticity of demand for corn oil influence the quantity-demanded of corn oil and the Total Revenue earned by sellers of corn oil? Literature review
There have been several studies focused on relating increased ethanol production to changes in corn markets. Gustafson (2002) found that farmers in the northwest region of North Dakota were readily able to expand corn acreage for ethanol production, provided adequate market incentives were available. He estimated that 154,000 additional North Dakota acres of corn could be obtained with market premium of $0.11 per bushel. As demand for corn goes up, so does price. As price goes up, demand goes down, forcing stability. However, another byproduct of the price increase is that some production will shift from other items (such as soy) to corn, decreasing relative demand and so price. The decrease in production of other items decreases supply, and raises their price as well. Ferris and Joshi (2004) considered several scenarios in analyzing the impact of increased ethanol demand on...
Please join StudyMode to read the full document