Biofuel Markets, Policy, and Price Risk Management

Implementation of biofuels is a topic of great controversy. Nevertheless, the growth in production has been tremendous and is expected to continue its exponential trend. All indicators suggest that biofuels will become notable commodities in the near future. Current governments' energy policies have resulted in an artificially high demand. This raises the question whether futures markets might be an appropriate tool for the propagation of biofuels. This study examines market efficiency and unbiasedness of ethanol futures market. The Johansen cointegration procedure is used to test for long-run market efficiency and unbiasedness and the short-run efficieny and unbiasedness is analyzed using an error-correction model (ECM). The design of this model allows a possibility for futures markets to exhibit shor-trun pricing inefficiencies and biasedness. The results indicate that even though ethanol futures have only recently been introduced and the market is relatively thinly traded compared to other, well established commodities futures, the ethanol futures market is both efficient and unbiased in the long and short-run.