With the White House announcement of the reappointment of Federal Reserve Chairman Ben Bernanke, financial analysts will be moving from the "whys" of the recession to the "what's next," as the economy recovers. Since agriculture is a major part of the economy, there will be impacts on individual farmers in the months ahead.

While the overall agricultural sector was healthy in 2008, as the rest of the economy was coughing and wheezing, agriculture could feel a shiver or a sniffle before the economic medical team deems us fit and ready to return to the game. Kansas State Economist Allen Featherstone reports some "ominous features on the horizon" that may impact farmers. Featherstone's report to farmers says the financial crisis can be traced to the housing market and the conditions were similar to those that hurt the farm economy in the early 1980's. He says housing prices have another 0.6% decline before reaching a long term trend line, assuming they do not over adjust.

Featherstone says the farm economy and the general economy do not always move together, since the linkage is an inverse one that has farm income low when the US GDP is higher. He points to the relationship between the US stock market and the Illinois corn price and says the correlation has been nearly neutral since 1960, "Therefore, while the general U.S. economy may be slow there appears to be little long term evidence that there will be major spillovers into the U.S. farm economy. In fact, based on history, it is more likely that the agricultural economy and the general economy are inversely related."

The Kansas State economist says the overall strength of the farm economy is as strong as it has been in nearly 20 years, with the average probability of default of 1.84%, compared to more than 3% in the early 1980's. But he says the probability of default is a combination of the leverage ratio, the net working capital ratio, and the capital debt repayment capacity, and he says decreases in land values or farm income are factors that are most likely to increase the chance for default. Featherstone suggests that if farm income remains high, so will land values, but if incomes fall, there is a good chance for declines in land values, and he says USDA forecasts have a lot of uncertainty about future farm income.

And he says interest rates are also another uncertainty that could influence the health of the farm economy. While doubts they will increase much in the near term due to the Fed's management of the recession, he says one of his concerns is credit availability. He says an index of requests for farm loans in the second quarter of 2009 indicate a weaker farm economy, but says it shows farmers are adjusting their investment plans downward to reflect uncertainty about future income. While he says credit supply is more than the demand, the ag credit market continues to be unaffected by the liquidity crisis that plagued the rest of the economy. Within the credit market statistics, Featherstone says average loan repayment was lower in the second quarter of 2009 than in the comparable period of 2008, which tells him there is an indication that underwriting standards have tightened over the past year. While he says credit is available for those with good risk, borrowers will need more collateral, those with marginal credit will have difficulty getting renewed, and there will be a wider spread of interest rates charged. Interestingly, Featherstone says, "The lack of opportunities to make loans in other sectors of the U.S. economy has benefited the agricultural sector given its relative strength."

Given Featherstone's warning about declining farm income and land prices, does he think farm income will drop? He says US agriculture has been reliant on trade, but the trade surplus agriculture enjoys will decline more than 50% this year due to reduced overseas demand. That will impact different commodities and will impact farmers who produce those commodities, "A reduction in agricultural exports may lead to a building of commodity surpluses (stocks) and a reduction in crop prices and ultimately net farm income." And he says the two prior "busts" in the land market were caused in part by a softer global demand for US farm products.

On the other hand Featherstone says a potential mitigating factor is the ethanol industry, which has the potential to buffer lower commodity prices. He says ethanol profitability is currently low, but federal policies can assist that industry, which can assist the farm economy. Another issue is the cost of inputs, but Featherstone says credit conditions will not prevent the application of crop inputs. While there were input cutbacks in the Depression, he does not expect a repeat. However, he says credit availability may impact the farm equipment industry, because of the needs for financing equipment purchases.

Summary:
Agriculture was not hurt as bad as the rest of economy in the current recessionary downtrend, but there is little economic linkage between the two. Farmers will need to watch for changes in farm income, which could push land prices in the same direction. Credit availability is another key indicator, and while it will not affect crop production, it may reduce the purchase of farm equipment.

Source: Stu Ellis, University of Illinois