This will be a year to remember as weather patterns went from wet, to dry, to wet again in many parts of the country. Trade negotiations improved, deteriorated, improved and deteriorated again. Yet, notwithstanding that rollercoaster ride, the financial conditions of agriculture changed little due to government payments.
Despite all of the fluctuations in agriculture and market shifts, U.S. farm incomes are projected to rise this year. According to the United States Department of Agriculture, net farm incomes are expected to rise 5 percent in 2019, the third consecutive year of increases after bottoming in 2016. Given this recent trend, why all the long faces in U.S. agriculture? Mainly because the 2019 increase was driven by a 42 percent increase in government payments. In short, farmers prefer market-driven income gains over government payments. Despite government payment increases, farm incomes have failed to reach their 19-year historical average for five consecutive years.
Weak farm incomes mean less cash in farming operations and force agricultural producers to use their capital reserves to fund operating expenses. In short, the working capital that farmers built up during the boom has been depleted. Farmers are tapping their wealth stored in their land, “rolling” their operating loans to the next year to keep operations running. Farmers have also cut investments in combines, tractors and other big-ticket items. Fortunately, low interest rates have underpinned farmland prices and the balance sheet of U.S. agriculture. Although farmers responding to the CME/Purdue Ag Barometer and the USDA Office of the Chief Economist expect farm incomes to rise moderately in coming years, both expect a long climb back for U.S. agriculture.
Major news publications have chronicled the weak sentiment in U.S. agriculture. It is important to remember that today’s situation, while dire for some, has yet to plummet to the depths of the 1980s farm crisis. Still, bankruptcy rates for agricultural loans surpassed that of all bank loans in 2018, and according to the Federal Reserve Bank of Kansas City, ag loan delinquency rates are still below the 30-year average of 2.2 percent. And, financial ratios for U.S. agriculture remain near historical averages.
As U.S. agriculture closes the year, it is time to begin thinking about the year ahead. How will the volatile forces of last year affect 2020?
Weather and crop supplies
Currently, major commodity prices have been depressed for the last several years. One reason for this is that high ending stocks as a percentage of total usage have been increasing. This means that the total amount of stored corn and soybeans continues to increase as a percentage of demand for those crops. The USDA World Agriculture Supply and Demand Estimates predict that the ending stocks of corn will be at the highest level since 1988. When supply estimates are this high, prices are expected to remain low for the foreseeable future.
Weather has been a significant factor in 2019. A wet spring that led to flooding and the inability to plant caused major issues across much of the corn and soybean producing regions of the U.S. This resulted in delayed planting, and many farmers did not plant a crop at all. These weather issues translate into lower yields than farmers have seen from previous years and have helped keep ending stocks from rising further. Volatility of prices was also an important outcome from the weather disruptions. Because planting decisions were delayed, the affects on yield and the number of acres planted caused uncertainty in prices. Similar weather patterns in 2020 would lead to more price volatility in 2020.
Trade
A variety of policy decisions have affected farm incomes as well. The decisions for the United States to leave the Trans-Pacific Partnership and renegotiate the North American Free Trade Agreement into the resulting United States-Mexico-Canada Agreement have taken potential marketing opportunities off the table. At the same time, the escalating trade war with China has further depressed demand as market opportunities have dwindled. A recent study published by the Farm Foundation and the Center for Global Trade Analysis at Purdue University found that these trade disruptions may decrease farm incomes by more than $12 billion. Canada, Mexico, Japan and China represent the U.S.’s first, second, fourth and fifth largest agricultural trade partners according to the USDA. Solving these trade issues is critical to improving the outlook for the agricultural sector.
Fiscal policy
To make up for these lost opportunities, the U.S. government announced the Market Facilitation Programs that compensated farmers based on estimated losses resulting from the trade issues. To date, between the two rounds of MFP payments in 2018 and 2019, the U.S. government has distributed more than $15 billion in payments to farmers over the last two years. The latest CME/Purdue Ag Barometer reports that farmers are expecting another round of MFP payments in 2020, which would help bolster farm incomes. Another policy matter that is currently being debated is the Renewable Fuel Standard. If the RFS were to be altered, it could significantly impact corn price.
Monetary policy
In addition to trade and fiscal policy, monetary policy is also impacting the uncertainty in the agricultural sector. Farmers rely on short term operating loans to purchase inputs such as seed, chemical and fuel for a given crop year. A year ago, the expectation was for the Federal Reserve to continue to increase interest rates; however, the last two quarters saw a decrease in the federal funds rate with few people expecting increases in the future. This is definitely good news for those farmers who either rely on short term operating credit for inputs or are looking at capital expenditures in the coming year. Another looming factor concerning monetary policy is the slowdown of the U.S. economy. If a recession were to occur, this could decrease demand but also present opportunities with lower interest rates for capital investments.
The path forward
These disruptions have indeed created uncertainty in the agricultural sector and are cause for concern, but opportunities exist for farmers in this environment. With uncertainty, the need for risk management strategies becomes imperative to mitigate and reduce the downside risk. As of Oct. 10, December 2020 corn contracts are above $4.00 per bushel. Even in the current marketing year, farmers who locked in the prices from early to late spring experienced higher margins than those who did not. If farmers are proactive with forward contracts, diversification or other risk management tools, profits opportunities are there. It is also important that farmers sit down and pencil out the costs and expected returns for the upcoming crop. This not only helps with managerial decisions, it also helps at the bank as well.
For bankers, utilizing a loan guarantee program such as those from the Farm Service Agency will help minimize the bank’s risk. Becoming a Preferred Lender Program lender through FSA can make this process easier and help the process of approving FSA guaranteed loans.
Overall, the agricultural economy is cyclical, and we are currently in a downturn. High ending stocks have created supply and demand issues, while policy uncertainty on all fronts has created volatility. Farm incomes in 2019 are forecasted to be higher than those in 2018 but still below the historical average. Opportunities exist for both farmers and lending institutions within the ag economy, — the key in an uncertain environment is to minimize the downside risk.
Brady Brewer is an assistant professor in the Department of Agricultural Economics at Purdue University. At Purdue, he researches the broader topics of agribusiness and profitability, agricultural finance and production/supply chain issues at the farm level while providing extension programs for agricultural banks across the state of Indiana.
Jason R. Henderson is director of Purdue University Cooperative Extension Service, senior associate dean of Purdue College of Agriculture and assistant vice president of engagement. In this role, he leads statewide public engagement and research-based education in 4-H youth development, agricultural and natural resources, community development, and health and human sciences. He previously served as vice president and Omaha Branch executive at the Federal Reserve Bank of Kansas City, where he led efforts to track agricultural and rural economies