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Texas Agriculture Archive

December 2, 2005

Energy: The High
Cost of Farming

Fertilizer prices sky high!

By Glen Jones
Director
Research, Education & Policy Development

The U.S. is the world's second largest nitrogen producer after China. Currently, the U.S. has capacity to produce slightly more than 20 million metric tons of ammonia, which is used as a fertilizer and as a building block for other nitrogen products.

During the past year, fertilizer prices have risen dramatically. Prices have increased due to increased energy costs for production (especially natural gas), increased transportation costs, and increased demand. As natural gas prices have risen in the U.S., the cost of producing anhydrous ammonia has increased to the point that much of the U.S. production capacity has been closed. This is because the value of natural gas is greater for other uses...i.e. home heating and electrical power generation, than for nitrogen fertilizer production.

Natural gas is the fundamental ingredient, for which there is no practical substitute, and the major cost component of making all basic nitrogen fertilizer products. The cost of natural gas represents 70 to 90 percent of the production cost of one ton of anhydrous ammonia nitrogen fertilizer.

The United States needs significantly greater supplies of natural gas for nitrogen fertilizer production to meet critical agriculture and food production needs. According to the USDA Economic Research Service, fertilizer costs are up 30.8 percent in 2005 from 2003. In Central Texas, farmers paid $290-$300 per ton for anhydrous ammonia in 2004, $390-$415 per ton in 2005 before the hurricanes, and it got as high as $480 per ton after the hurricanes. Prices have decreased some in November to around $460 per ton.

Natural gas used in North America for industrial purposes, heating homes, and other uses comes from numerous oil and gas fields located in many states. Louisiana, Texas, Oklahoma, Wyoming, Alaska, California, Kansas, Colorado, West Virginia and Pennsylvania are just a few of the traditional U.S. oil and gas producing states, along with the Gulf Coast.

The U.S. produced 18.9 million cubic feet of natural gas in 2004 with an average price of $5.49 per thousand cubic feet. Production numbers through August are down 1.5 percent in 2005 with an average price of $6.65 through September. A significant but varying amount of natural gas is also imported to the United States—mostly from Canada via pipelines. Total U.S. imports of natural gas in 2004 were 4.3 million cubic feet. Import numbers through August are down about 1 percent in 2005.

Sources of nitrogen and potash have changed markedly in recent years from domestic to foreign suppliers, making the U.S. increasingly dependent on fertilizer imports. Today, the U.S. imports over half of the nitrogen and 80 percent of the potash fertilizer. In 2004, the U.S. imported $4.4 billion worth of fertilizer, up $1 billion from 2003.

Farmers have benefited from lower nitrogen and potash prices because of the imports. The U.S. went from being the world's largest exporter of nitrogen in the 1980s to becoming the largest importer in the 1990s. Domestic production declined when the price of domestic natural gas increased because of demand for natural gas in the U.S. expanding faster than production. Imports of nitrogen—mainly from Trinidad and Tobago, Canada, and Russia, all with lower natural gas prices—quickly filled the gap. The world's largest potash reserves are just north of the border in Canada, where most potash comes from that is used in the U.S.

The U.S. does remain the world's largest exporter of phosphate, exporting about 5.5 million tons in 2004, with China (mainland) being our biggest customer. Domestic use of phosphate has remained steady at just under 5 million tons per year. The U.S. exported 9.4 million tons of fertilizer in 2004, which is down about 2 million tons from 2003.

What direction for diesel?

Towards the end of October, retail gasoline prices fell below pre-hurricane levels while retail diesel fuel prices remained much higher.

Whereas retail diesel prices averaged 2 cents per gallon below gasoline on August 29—before the impacts of Hurricanes Katrina and Rita were felt at the pump. As of October 24, they averaged more than 55 cents per gallon higher across the U.S. What changed between the two markets that might help explain the divergence in retail prices?

While the price of crude oil certainly has an impact on the price of refined products, the actual cost of refining crude oil into various products has little to do with price differentials across products. When comparing the retail price of one particular product to another, it is important to look at the supply/demand situation for both products.

In the case of gasoline, in late September and early October, a record volume of imports arrived, while gasoline production climbed to near pre-hurricane levels, despite significant refinery capacity remaining shut down. This large surge in supply is coming at a time when gasoline demand usually drops, with few people taking vacations during this time of year. When supplies rise as demand falls, prices should fall, as they have with gasoline. Over the past five weeks, retail prices have dropped a total of 55.2 cents per gallon to $2.376 per gallon as of Nov. 9. Nevertheless, that price is 37.5 cents higher than this time last year.

However, the supply/demand balance is much different for diesel fuel. Diesel fuel and heating oil are both included in a category labeled distillate fuel in the Energy Information Administration's surveys. These products are very similar, with the notable exception that diesel fuel for highway use has less sulfur in it.

To the extent that diesel fuel can be used as a substitute for heating oil, the two products often find their prices moving in similar directions. According to EIA's data, demand for distillate fuel often increases from September to October. This is typically a result of slightly colder weather in October, but it also relates to increased use of diesel fuel in the agriculture sector during harvest.

While demand for distillate fuel seasonally increases over this period, supplies have grown substantially less than those of gasoline. While distillate fuel production has increased some as a result of most refineries returning to normal operating levels, it has not grown by nearly as much as gasoline production.

We have not seen record imports for distillate fuel either. In fact, up until the week ending Oct. 21, distillate fuel imports were possibly even lower than they typically would be, as strong global demand for diesel may have limited available supplies from other countries. As a result, retail prices for both diesel fuel and heating oil did not drop like gasoline.

However, with distillate fuel imports reaching their highest level since January 2005 in the last week of October, and with most of the increase in refinery production seen in distillate fuel rather than gasoline, the distillate fuel supply situation has improved—bringing the price down in early November. Retail diesel fuel prices tumbled 45.9 cents from Oct. 26 to Nov. 9, the largest two-week decline on record, to reach $2.698 per gallon—the lowest price since Aug. 29, 2005.

But with the first bout of much colder-than-normal weather hitting the East Coast, demand is likely to increase as well. While refinery production of distillate fuel slowly returns to more normal levels from the hurricane damage, distillate fuel inventories at both the national level and the critical Gulf Coast region remain at or below the average range.

Since diesel fuel is often used during cold weather to supplement heating oil supplies, and since a still strong U.S. economy continues to support a tight balance between diesel supply and consumption, incremental volumes of diesel fuel may be attracted to heating markets only at relatively high prices.

Lindly Felton, education programs assistant with Texas Farm Bureau's Research, Education & Policy Development Department was a major contributor to this report.

U.S. Natural Gas Production, Imports, & Average Price

Volumes in Million Cubic Feet, Prices in Dollars per Thousand Cubic Feet Prepared by: Research, Education, & Policy Development Department, November 2005.

U.S. Distillate Production, Imports & Average Price

	2003			2004			2005
Month	Production	Imports	Avg Price	Production	Imports	Avg Price	Production	Imports	Avg Price
January	105,483	10,064	$ 1.49	111,366	11,466	$ 1.55	116,928	10,923	$ 1.96
February	96,843	14,097	$ 1.65	99,928	14,704	$ 1.58	105,921	9,624	$ 2.03
March	115,686	14,253	$ 1.71	110,064	13,918	$ 1.63	119,413	7,856	$ 2.21
April	113,892	7,388	$ 1.53	116,215	8,002	$ 1.69	120,991	7,913	$ 2.29
May	118,811	8,884	$ 1.45	119,571	8,518	$ 1.75	129,670	8,666	$ 2.20
June	111,847	10,121	$ 1.42	118,676	9,706	$ 1.71	128,231	7,080	$ 2.29
July	113,869	9,256	$ 1.44	120,959	8,772	$ 1.74	131,320	7,518	$ 2.37
August	115,643	11,640	$ 1.49	123,426	9,718	$ 2.92	127,554	8,135	$ 2.50
September	111,615	10,571	$ 1.47	108,749	8,151	$ 1.92	107,250	6,540	$ 2.82
October	116,259	8,721	$ 1.48	118,041	7,544	$ 2.13	110,360	11,625	$ 3.10
November	113,990	7,227	$ 1.48	120,113	9,571	$ 2.15	-	-	$ 2.70
December	119,200	9,450	$ 1.49	128,929	9,048	$ 2.01	-	-	-
Year's Avg Price	1,353,138	121,672	$ 1.51	1,396,037	119,118	$ 1.90	1,197,638	85,880	$ 2.41

Volumes in Thousand Barrels, Prices per gallon
Source: U.S. Energy Information Administration