The 1980s dawned with vertical integration springing from the fields of rural America. Agriculture was poised for unprecedented prosperity.
“It was the great age of consolidation and growth in agriculture,” agricultural banking expert Curt Covington said. “It’s when you really saw farmers start to become vertically integrated.”
The American farmer not only wanted to own the farm, but the processing plant as well, Covington, Farmer Mac’s senior vice president-agriculture finance, said. And that’s not all. Farmers wanted the ability to market their own crops, too.
“So farmers weren’t afraid to use their balance sheets to leverage themselves into positions with the thought that commodity prices would continue to climb, land prices would continue to climb, and debt on the balance sheet would still be moderate,” Covington said.
Banks went all-in on the agriculture boom. But the stakes became too high.
“In the early ’80s, banks were collateral lenders and they thought as long as the value of real estate continued to climb, they were covered,” Covington said. “Unfortunately, all that came to a screeching halt.”
Though the inflation rate stood at 5.8 percent as the nation celebrated its bicentennial in 1976, it didn’t remain in check. By 1980, inflation had soared to an alarming 13.5 percent, according to the Bureau of Labor Statistics.
Determined to rein in runaway inflation, the Federal Reserve began raising interest rates, which climbed from 9 to 11 percent in 1980, to 20 percent by June 1981. A year later, interest rates topped out near 22 percent in June 1982, according to a New York Times article.
The financial crisis, coupled with high unemployment, took a toll on banks and savings and loans.
“What we learned from that as bankers is you can’t put borrowers in a position to fail by giving them too much debt,” Covington said.
After the financial crisis of the early 1980s, the banking industry became strictly cash flow lenders, he said.
“So, we went to the opposite side of the spectrum and said, ‘Hey, I don’t care what collateral you have for me. If your operation doesn’t cash flow, then we’re not going to lend to you.’ Hence the need for Farmer Mac, by the way,” Covington said.
Established in response to the national farm crisis of the 1980s, Farmer Mac’s mission is to increase access to capital and reduce the cost of credit for the benefit of American agriculture and rural communities. During the past quarter century, Farmer Mac has helped fund loans to more than 62,000 rural borrowers in all 50 states – resulting in more than $36 billion of investment in rural America, Farmer Mac’s 2014 annual report said.
Chartered by Congress under the Agricultural Credit Act of 1987, Farmer Mac is the largest purchaser of U.S. Department of Agriculture guaranteed loans. Farmer Mac’s portfolio ranges from almond groves in California to wheat, corn and soybean crops in the Midwest, and from cattle ranches in the Southwest to electrical distribution cooperatives in the Southeast.
Covington leads Farmer Mac’s business development efforts in its Farm & Ranch and USDA Guaranteed Loans business segments. He discussed the landscape of agriculture finance – from the crisis of the 1980s to a much stronger position today – in a recent interview at PORKNetwork’s office in Lenexa, Kan.
Hitting the Reset Button
“In the early ’90s, we became much more pragmatic. We became a balanced lender,” Covington said of a new era in banking following the tumultuous 1980s. “We said, ‘Hey, you know what? There are opportunities to help farmers grow this business again.’ So, you saw this rebirth in 1993 of agriculture. The next great phase. Farmer Mac was there, assisting rural banks in helping farmers grow.”
Covington foresees another wave of consolidation and vertical expansion on the horizon, but he believes there are stark differences to the ill-fated ’80s.
“A lot of farmers have very strong balance sheets now. That’s not what we saw in the early ’80s,” Covington said. “The debt-to-asset ratio of the average farmer today is somewhere around 10 to 12 percent and that means 90 percent equity.”
And, importantly, interest rates are hovering in the low single digits.
“In the early 80s, interest rates climbed to a high of 22 percent for the average farmer,” Covington said. “My credit card doesn’t have a 22 percent interest rate on it, and I would never finance my farming operation with a credit card.”
The financial crisis created an agriculture base interest rate.
“It was a subsidized rate to farmers … the traditional borrower, the commercial borrower, was borrowing at 22 percent,” Covington said. “We would have subsidized rates for farmers that brought it down significantly to 18 percent. Eighteen percent!
“With an interest rate near zero [today], if interest rates doubled and went from 2 percent to 4 percent, will that hurt a borrower? Yes, it will.”
Covington, whose experience in ag lending spans more than three decades, predicted interest rates will go up, but not at a rapid clip.
“Farmers have a lot of opportunities today to [lock in] fixed interest rates that they didn’t have in the ’80s, and Farmer Mac can offer long-term fixed rates at extremely competitive prices,” he said. “So, I think that’s going to be one of the big differences. And you see farmers today looking at our fixed-rate program and saying, ‘You know what, I think it’s time to fix my interest rate.’ Farmer Mac provides a good opportunity for that.”
Lower interest rates and healthier balance sheets put farmers on a better playing field than they found themselves in the early ’80s, Covington staid.
“We’re in a much better position to make sure we don’t hit that brick wall again.”