16/10/06 (The Financial Times)  -  The price of wheat has risen this year for the same ­reasons it did in the days of the pharaohs: the weather and the harvest. But looming in the not too distant future – perhaps the year after next – is an entirely new source of demand for agricultural commodities that could keep prices high into the next decade.

Brussels and European Union member states have made commitments to steep increases in the use of biofuels for road transport. That is creating new markets for ethanol, which can be added to petrol and is produced from crops such as wheat and sugar, and biodiesel, which can be added to ordinary diesel and is derived principally from vegetable oils such as rapeseed and palm oil.

The environmental benefits of these “first generation” biofuels are questionable. But the second generation fuels, for which the case is more clear-cut, are still some way from the market, and EU policies to encourage first generation biofuels are already in place.

The European Commission has set a target that by 2010, 5.75 per cent of road fuel by energy content used in the EU should be biofuel. France has set its objective at 7 per cent by 2010 and the UK’s target amounts to only about 3.5 per cent by 2010 on the same basis.

Still, the commitments, often backed by tax breaks, have been enough to encourage a wave of investment in biodiesel and ethanol across the EU.

The consequence, says Michel Portier of Agritel, a Paris-based consultancy, is that “this industry will completely change the whole agricultural market in Europe”.

For ethanol, the two main feed stocks in Europe will be wheat and sugar beet, with wheat likely to predominate.

Jonathan Kingsman, an agricultural consultant, ­estimates that in Europe a gallon of ethanol will cost about $1.70 to produce from wheat and about $1.90 from sugar beet.

As 2010 approaches and the new European ethanol plants come on stream, they will take a growing share of wheat production, rising to perhaps 10 per cent of French wheat and 12 per cent of UK wheat, for example.

Changes in demand of that magnitude, Mr Portier says, will be large enough to have a significant effect on prices.

For biodiesel, the effect could be even more dramatic. The European market for diesel fuel is bigger than for petrol and satisfying the demand for biodiesel would mean using the whole of the EU’s rapeseed oil production as a feedstock.

Buyers of agricultural products find that an alarming prospect. Unilever, the food group, has warned that competition with biofuels will push up the price of foodstuffs such as margarine, which is often made from rapeseed oil.

Malcolm Shepherd, managing director of Green Spirit, a UK company that plans to begin producing ethanol in 2008, says biofuels offer a bright future for European farmers.

“Biofuels will create a stable demand for agricultural commodities that will enable farms to have a stable financial footing. They have been selling at below the cost of production but things are changing now.”

Mr Portier says the natural consequence of higher commodity prices will be further pressure for reform of the EU’s common agricultural policy.

“Supposedly the CAP will now be stable until 2013 but we are sure there will be a change before that,” he says. “The biofuels industry is a kind of support for agriculture and it should be a good opportunity for Brussels to change or remove the CAP.”