CHICAGO (Reuters) - Before the U.S. biofuels boom took off in 2007, the food vs. fuel debate raged: can we afford to use corn for ethanol in a starving world?
Five years later, farm bankers ask: can we afford not to?
"Ethanol demand is the linchpin of the current pricing model that we have," said Michael Swanson, agricultural economist at Wells Fargo, the largest commercial bank lender to U.S. farmers. "It's a completely different question whether it's right or wrong."
Amid the worst drought to hit the Midwest in a half century, corn prices have nearly doubled. Howls of protests have come from livestock feeders. The government has forecast food inflation to rise.
Governors in big livestock states like Texas and North Carolina are now demanding the Obama Administration suspend the 2007 mandate - signed into law by Republican George W. Bush -- to produce huge amounts of ethanol from corn.
The Environmental Protection Agency must respond in 90 days. But don't hold your breath, bankers say.
"I don't see the Administration making any big move on this with the election so close," said John Blanchfield, senior vice president for agricultural and rural banking at the American Bankers Association. "A waiver will make as many people unhappy as it will make others happy."
Interviews with bankers and economists say the debate about corn to make fuel has evolved along with the financial stakes.
The facts, they say, show that ethanol, like it or not, is now bolted onto the very core of three huge industries: energy, meat and banking.
Farm bankers point to statistics on U.S. wealth and economic health that corn-based ethanol has driven - record-high farmland prices; a rise of some $500 billion in farm assets in the last five years; steady pay-downs of farm debt; a rise in farm assets in 2012 to an estimated $2.5 trillion dollars, based on real land not "paper," and what those assets mean for U.S. money supply and economic demand.
"Corn can be a national security issue for this country," said Curt Covington, senior vice president for agricultural and rural banking at Bank of the West, the second largest commercial lender to U.S. farmers. "That's where we are right now."
Leland Strom, chief executive of the Farm Credit System and regulator of the largest single lender to farmers, was blunt about any sudden suspension of the ethanol mandate: "I think it definitely would have an immediate impact weakening ag and rural America, especially in the heartland."
Bankers say they realize biofuels have been a two-edged sword for U.S. agriculture, since higher corn prices cut livestock producer profits. That is not a minor effect, since receipts from dairy to poultry represent about half of farm income.
But the steady rise in farmland prices based on higher returns from corn - and other crops competing for those acres - has overwhelmed the negatives, bankers and economists say.
"A vibrant ethanol industry is critical to farmland prices where they are at today -- there's no question in my mind," said Brent Gloy, director of Purdue University's Center for Commercial Agriculture.
Aside from ethanol's boost to land prices, bankers also cite two new industrial facts: oil refiners are now using ethanol by choice, not mandate; and ethanol plants are, as a byproduct, producing millions of tons of livestock feed called distiller's dried grain (DDG) that has become a critical substitute for corn for cattle, hogs and poultry.
"The economics are such that you're making money turning that corn into ethanol, turning it into DDGs. The folks blending it into gasoline are making money," said Bob Young, chief economist at the American Farm Bureau Federation.
Refiners use ethanol as an "oxygenate" for gasoline to burn cleaner and more efficiently, boosting 84 octane gasoline to 87 or into the 90's, with oil-based alternative oxygenate prices much higher, Young said.
That demand from Big Oil combines with demand for livestock feed. Some Iowa ethanol plants lost 80 cents a gallon last month crushing corn to produce ethanol. But they made it up with DDGs.
"We saw record values for distiller's grain" of almost $300 a ton, Swanson said. "On top of that I get corn oil out. Distillers grain and oil are more than valuable enough to allow them to run the plant. I'm not running the plant to make ethanol, I'm running the plant to make distiller's grain. Without it, I'm bankrupt."
Ethanol for oxygenate and DDGs represent billions of dollars lent and invested. So economists say that sudden policy change now will send the wrong message to lenders as well as farmers.
"Any time we change this policy, it can cause a whole lot of unanticipated consequences," Purdue's Gloy said. "We've got ethanol now. The adjustments have been made, we blend a large amount into the gasoline supply. If you change the policy again you're going to create a whole bunch of adjustments."
"Ironically," Swanson said, "if the EPA said it was going to waive part of the demand for ethanol and corn drops $2, some of the ethanol plants become profitable again. You tell me how this ping pong match ends, with all the unknowns."
Fitch Ratings warned on Tuesday that if commodity prices reversed quickly, it would expect a correction in farmland values. Agricultural lenders with large amounts of land as collateral would likely face large credit losses and negative ratings, it said.
Jason Henderson, chief agricultural economist at the Federal Reserve Bank of Kansas City, said the Fed has not yet studied how a suspension of the ethanol mandate would affect corn or farmland prices. But he said they were bound together.
"If corn prices stay high, then demand for farmland will remain strong. Ethanol has been one of the primary drivers of higher corn prices," Henderson said. "There's plenty of debate out there right now on how corn prices will be affected. But lower corn prices would negatively affect farmland values."
Editing by Peter Bohan and Leslie Gevirtz