News out of the June meeting on monetary policy at the Federal Reserve quickly was lost in the avalanche of headlines on the U.S.-China trade dispute. But the central bank’s decision to raise interest rates – and a promise for more of the same – deserves a longer look from farmers.
To be sure, the Fed has moved with baby steps since it began tightening credit in December 2015. Seven increases of a quarter of 1% each added 1.5% to the benchmark short-term interest rate. That’s pocket change for farmers who remember the days of 21% interest rates that helped trigger the Farm Crisis of the 1980s. But higher rates increase costs at a time when profit margins are already tight for growers. Participants in the Fed meeting see two more hikes this year and three in 2019 with the rate by 2020 up 3.25% from its recession lows.
It’s also worth remembering why the Fed raises, or lowers rates, which could also impact agriculture.
The central bank has a dual mandate: full employment and stable prices. A decade after the so-called Great Recession, the U.S. is finally hitting that sweet spot for economists. Nobody is sure what full employment is, but at 3.8% the unemployment rate is likely pretty darn close if it’s not there already. Infla-tion also remains under control. The price index without food and energy, rose 2% over the past year, finally reaching the Fed’s long-term expectation.
After growing slowly since the financial crisis, the economy is picking up steam, getting a boost from tax cuts and deregulation. But budget deficits are also rising, forcing the government to borrow more, demand that’s raising longer-term interest rates on machinery and land that are controlled by the market, not the Fed.
If we weren’t spending so much time talking about trade right now, coffee shop talk would likely center on inflation and interest rates, in addition to the weather and baseball.
That discussion would include talk that inflation is good for farmers. But any grower spouting that notion probably has probably already cashed a lot of Social Security checks too.
Inflation was good for farmers, once upon a time. From 1914 to 1972, higher inflation mean higher crop prices and higher land prices. And from 1930 to 1972, inflation and net farm income moved hand in hand.
But after President Nixon’s failed experiment with wage and price controls, the Federal Reserve began raising interest rates, trying to use monetary policy to stem the tide of rising prices. Though rates peaked in 1981, inflation wasn’t declared dead and buried until the 1990s, when the government finally corralled the deficit, kicking off an era of low inflation and low interest rates.
The relationship between money and agriculture changed over this five decade span, but not uniformly. Until inflation was tamed, a higher consumer price index was accompanied by higher crop prices from 1972 to 1992. And higher crop prices meant higher profits for corn, soybeans and wheat.
But rising inflation during that period wasn’t good for farm land prices or net farm income because it weakened the broader U.S. economy. Fears of inflation and higher interest rates over these two decades caused downturns in stock prices and recessions that held back the broader farm economy too.
Over the past 25 years, crop prices and net farm income have become detached from the inflation index. And low inflation has been good for farm land prices.
The reason is partly because low inflation means low interest rates, which make it cheaper to own land and increase the value of income producing assets like farms.
Low rates also tend to dampen the value of the dollar, another ingredient for rising commodity prices.
So if the Fed is raising rates, should farmers hunker down for bad times – as if they could get much worse? That’s where Fed-watching will be important. The central bank always has a delicate balancing act, and historically has been accused of either tightening too quickly or not fast enough. Trying to steer a complex economy is like maneuvering a barge in dense fog. It’s just as easy to run aground as it is to stay in the channel.
Senior Editor Bryce Knorr joined Farm Futures Magazine in 1987. In addition to analyzing and writing about the commodity markets, he is a former futures introducing broker and is a registered Commodity Trading Advisor. He conducts Farm Futures exclusive surveys on acreage, production and management issues and is one of the analysts regularly contracted by business wire services before major USDA crop reports. Besides the Morning Call on www.FarmFutures.com he writes weekly reviews for corn, soybeans, and wheat that include selling price targets, charts and seasonal trends. His other weekly reviews on basis, energy, fertilizer and financial markets and feature price forecasts for key crop inputs. A journalist with 38 years of experience, he received the Master Writers Award from the American Agricultural Editors Association.
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