The U.S. Farm Economy in Mid 1999 Keith Collins, Chief Economist U.S. Department of Agriculture Before the Corn Congress, Hyatt Hotel, Washington, D.C. August 5, 1999 Thank you for the invitation to meet with you today. You have great leadership in Roger Pine, Chris Wehrman, and Bruce Knight and his staff in Washington, so I was pleased to be asked by them to join you. The National Corn Growers Association has long been looked to for constructive ideas and leadership within agriculture, and I am sure at a time when agriculture is on the front pages of the nation's newspapers because of its problems, yours will be a very important voice in helping to define the most practical and effective response. This morning I would like to address three questions: (1) Where is the farm economy today? (2) How did it get there? and (3) What can be done about it, at least in the short run? These are straightforward questions, but the answers are anything but. The Farm Economy Starting with the question of where we are in the farm economy, there obviously are problems. The extent and depth of the problems are generating considerable debate. Many of the various views surfaced during the hearings Senator Lugar held this week and during the floor debate in the Senate. Many describe the current situation as a "crisis." And indeed, enough things are wrong in enough places for that noun to be appropriate. We are moving into the second year of the most severe financial stress of this decade. At the most basic level, there are two fundamental causes for this weakness. First, farmers in many areas suffered crop production losses last year and will again this year due to disease, drought, pests, and excessive moisture. Second, as Alan Greenspan might say about the national economy, we have "imbalances" in the farm economy. These imbalances are in commodity markets brought about by large U.S. production, despite the bad weather, and by lower exports. Exports have been pulled down by large foreign production, the Asian, Russian, and South American economic problems, and a strengthening dollar, which on an agricultural trade weighted basis is about 20 percent above the level of the early 1990's. Before I get further into the market imbalances, a look at the aggregate indicators reveals a problem, but the indicators also suggest why we do not have the catastrophe of the mid 1980's, and that, I think, is worth spending a few minutes on. I want to examine three overall aggregate indicators for all or agriculture: 1) exports, 2) cash flow, and 3) the balance sheet. Exports. An important part of the farm decline is due to reduced agricultural exports. We project they will be only $49 billion this fiscal year, after reaching a record high of $60 billion in fiscal year 1996. Much of the drop is in Asia for both bulk and high value products. In 1996, we exported $26 billion in farm products to Asia; this year we expect to export only $17 billion, a drop of $9 billion. Our exports to Asia are now back to where they were 10 years ago. As for exports of total bulk products, like corn, export value is down 40 percent since 1996, and both volume and price declines account for the drop. Declines in tonnage account for about one-third of the 40 percent drop in the value of bulk exports and declines in export prices account for two-thirds of the drop. Within this bleak export picture, corn has been a very positive story. From October through May, U.S. corn exports are up 33 percent compared with the same period last year. With Argentina and China limiting their exports, our corn shipments have stepped up to places like South Korea, Egypt, Mexico and South America. Cash flow. Turning to the second indicator, cash flow, the drop in export sales is showing up in a decline in total cash receipts for producers. For 1999, we expect farm cash receipts to fall to $191 billion that's $17 billion below just 2 years ago. Lower receipts mean lower net cash farm income, which for 1999 is forecast at the lowest level since 1995 and nearly $5 billion less than the near-record high set in 1997. Farm income is down, but it is not catastrophically down. In fact, some people during this week's Senate debate looked at the aggregate farm income numbers and concluded the crisis is not nearly as bad as the rhetoric suggests. For example, net cash farm income for 1999 is expected to be down only 2 percent from the 1998 level and 2 percent below the average of the 1990's. You feel better now, don't you. Let me give you four reasons why these aggregate farm income comparisons do not allay the anxiety we are hearing from farm country. First, 1998 and 1998 aggregate income is being supported by supplemental government payments and without them the picture would be bleaker. One key reason is that government payments have been a crucial counterbalancing force. In fact, total government payments are expected to increase from $7.5 billion in 1997 to $16.6 billion in this calendar year, the second highest ever. Second, producers are no longer looking back to the 1998/99 crop years, but they are looking ahead to the 1999/2000 crop years; it is the future income that is in doubt, and as of yet, there is no legislation to provide added income support. Third, comparing current income to the average of the decade of the 1990's is not very useful. I can tell you that if my income this year were to fall to the average that I earned in the 1990's, I would consider that a Collins family "crisis." I would definitely be out of more than just beer money. And, fourth, the aggregate net farm income figure obscures individual sectors, because it adds everything together, and sectors like milk, broilers, many fruits and vegetables and nursery and greenhouse products have been trending up. In fact for those commodities I just mentioned, their gross revenues will be $11 billion higher in 1999 than in 1995. Balance sheet. But another aggregate indicator clearly suggests the current problems are not as bad as the 1980's and that is the balance sheet for agriculture. This year's overall farm debt levels are about 10 percent below the peak levels of the 1980s, and asset values are substantially higher. The debt-to-asset ratio for farm operators has risen a little the past two years, but it still is expected to remain below 17 by the end of 1999, compared with the low 20's during the mid-1980s. While the balance sheet for agriculture in the aggregate looks reasonably sound, it could change if farmland values drop. The value of an asset is the future stream of expected earnings from that asset, discounted to the present value. That means land values depend on two key factors: expected earnings and the discount factor which is the interest rate. In the 1980's, expectations of future earnings fell and interest rates soared and that killed land prices. Today, earnings expectations for the longer run are coming down but the drop is being cushioned by government payments, and interest rates are increasing, but slowly, and they remain well below rates of the last decade. Farm real estate values, which showed strong increases through much of the 1990's, started to level off last year. Cropland values declined in 5 states in 1998, and in 1999, cash rents declined in 9 states, although the declines were small. Farmland value data comes with a lag, and thus far, the data show the drop in farmland values to have been fairly modest. Recent Federal Reserve Bank data show that for certain parts of the country, such as the central portions of Iowa, Illinois, and Indiana, land prices are down 8-11 percent between April 1, 1998, and April 1, 1999. Given the current production and price prospects, we can expect further pressure on land prices in the months ahead, particularly in the Corn Belt, Plains States, and Mid-South. A key to how land values will fare will be when cash rents for the 2000 crops are negotiated. Big drops then could lead to sharp land value declines. When we look at the data over the past couple of years, we see many producers who were in a favorable economic situation in 1996 and 1997 now show up as having cash flow problems in 1998 and 1999. As the cash flow problems continue, we would expect to see more producers have balance sheet or solvency problems. When a producer has both cash flow and balance sheet problems, it becomes very hard to turn that operation around, even with asset sales, and the risk of going out of business becomes much higher. For producers of hogs, cattle, and field crops who are already highly leveraged, the continued low prices of these commodities will place them under enormous financial pressures. Commodity prospects Crops. At this point, I would like to look more specifically at individual commodities, including corn, and comment on their economic situation. While we all know many prices are at two-decade lows, prices alone do not tell the complete income story. Income is equal to price times quantity plus government payments such as ballooning LDPs minus production costs. But even when we do that calculation, and take in account projected good yields, government payments and production costs, crop net income looks like it will be down substantially. For example, net income for the 1999/2000 crop year for food grains, feed grains, soybeans and cotton is expected to be 27 percent below the average of 1993-1997. This is a drop of about $6 billion, which I suppose, some could use as an estimate of what supplementary government payments ought to be. Wheat was the one crop where we thought there might be a chance for some price improvement this year, given that U.S. producers planted the lowest acreage since 1972 and EU and Canadian production was expected to be down. But, despite smaller U.S. area, we had record-high winter wheat yields in 13 states, exports have started out very weak, projected carryover stocks are very large at over 900 million bushels, and producers seem to be taking LDP's and marketing their crops early. All of these factors are driving down prices. The usual seasonal price weakness occurs in August and September, and last August, the average U.S. farm price for wheat fell to only $2.37 per bushel. This year, we thought prices might be a little firmer this summer. Unfortunately, last week we reported the U.S. average farm price for wheat for July was only $2.15 per bushel, the lowest monthly average price since August 1977. Things will get better, but the large stocks probably mean not much better than 1998's prices. For corn, based on current production prospects, the market may not be in as great an imbalance as it is for wheat, soybeans or cotton. In July, with a yield forecast of 136 bushels per acre, we projected the 1999-crop farm corn price could average $1.85 per bushel. As of last Sunday, our crop condition report showed 63 percent of the U.S. corn crop was rated good to excellent; that's favorable but down from last year and recent weeks. At this point, we appear still to be on track for a pretty good sized crop but that declining yield prospects could lead to a little better price outlook than we had thought. For example, if the heat stress were to reduce production by 300 million bushels from our July estimate as at least one firm expects that could mean average corn prices of 10-15 cents per bushel higher. Our first yield survey results and new supply and demand forecast come out August 12, next Thursday. We remain fairly pessimistic about the soybean crop market price prospects, as record-high soybean acreage, combined with reasonably good growing conditions, have weakened the price outlook. A very large increase in carryover stocks appears likely for next year. Soybean prices for 1999/2000 are currently projected to average $4.30 per bushel, the lowest since the early 1970's. We are looking for a boost in exports as South America cuts back a little in production and the EU boosts meal use as they ban other high protein feeds such as bone meal, meat tankage, dioxin contaminated feeds, and so on. Soybean prices fell by nearly one-third from 1996 to 1998. Yet, soybean acres have been going up each year and stocks keep rising. Some of the increase in acreage can be explained by the Farm Bill's planting flexibility provisions and some of the increase reflects declining prices for competing crops. Another factor is the soybean loan rate, which at $5.26 per bushel is up 7 percent from the pre-Farm Bill levels, while the loan rate for corn is unchanged. As long as market prices remain low, the loan rate ratio of favors beans, and more beans, and more beans! Furthermore, the average variable cost of producing soybeans is only about $2 per bushel, and for corn, it's a little over $1 per bushel. No wonder when market prices fall by 50 percent since 1996, the combined corn and soybean acreage has not gone down. Next year, the soybean loan rate will decline to about $5.15 per bushel and the corn loan rate will remain at $1.89; which will still favors beans. We shouldn't expect a drop in bean acres until corn prices move above the loan rate and average $2.15 or better. That is very unlikely in the coming year but could happen if the drought and hot temperatures continue to reduce the corn crop. Nevertheless, it could be at least of couple of years before the buildup of soybean stocks can be materially reduced. Livestock. Feed demand should remain strong this year as total meat and poultry production is estimated to be record large. But that means livestock prices will stay under pressure. The hog market continues to be the most troubling area in the livestock and poultry complex. After dropping to $10 per cwt last December, hog prices rebounded to $30 to $35 per cwt, which is still below breakeven for many producers. Although the Russian tender and hot weather have recently given us a price boost, the prospects for much recovery during the remainder of 1999 are limited, as marketings this fall will be nearly as large as last fall when prices plunged. Consequently, pork production in 1999 is expected to rise 1.4 percent, after posting an enormous 10-percent increase last year. It now appears that cutbacks in pork production needed to boost prices may not occur until well into the year 2000. Hog producer returns in 1999, even after factoring in the drop in feed costs, will be down $2 billion from the 1993 to 1997 average. Cattle prices are up a little this year, as the liquidation of the nation's cattle completes its fourth consecutive year. The USDA's July 1 inventory of cattle and calves on farms showed 107 million head, down from 113 million on July 1, 1995. However, this reduction has not translated into less beef production nor much improved cattle prices, as producers are still reducing herds. Broiler and milk returns have fared a little better than other areas in the livestock sector. Broiler prices are down this year, but reduced feed costs are keeping returns in the black and production is likely to expand over 6 percent in 1999. Currently, cheese prices are approaching their record high level and are pulling up milk prices and, coupled with reduced feed costs, are helping to strengthen returns, despite increasing milk production. The Legislative Response My description portrays a weakening farm economy not a 1980's-type economy but an economy straining under cash flow problems, particularly for crops and hogs, and there are serious debt problems as well for about 20 percent of U.S. farm businesses. The most immediate policy response is the assistance legislation now being developed in Congress and I will conclude my remarks by offering a few observations on this effort. The Senate passed an amendment to USDA's appropriations bill that would provide some $7.4 billion in emergency assistance to producers. The administration supports an assistance package. And the House will take one up after recess. It appears there will be one, but the exact provisions and the level of spending are uncertain. I think it is safe to say the bill will not rewrite long-term farm policy--that still appears to be scheduled for 2002-- and undoubtedly an important order of business for the next administration. I think there are three basic functions that could be part of a well crafted, short-term assistance bill, or should at least be debated. The first is to provide financial assistance by writing producers a check. Who gets checks is a big issue. Last year, it was those who had production flexibility contracts, the old program crops. This year, prices are down for other commodities such as soybeans, hogs, apples, and so on. In addition, there has been a drought in some areas this year and whether consideration should be given to affected producers is also an issue. So, the commodities to receive aid has to be resolved and the more commodities covered, the higher the cost. The higher the cost, the less there is for other priorities such as social security, debt reduction, tax relief, and so on. Then, there is the question of whether the payments should be enhanced AMTA payments like those made last year, or whether they should be based on price levels and paid out on production rather than base acres. From an economic efficiency point of view, the U.S. has argued against coupled payments in the WTO. The more payments are coupled to prices and production, the more likely the risk of influencing production more directly and add to already increasing stockpiles. In addition, the more coupled, the more likely they have to be counted in our commodity aggregate measure of support under our WTO obligation, which is limited to $19.9 billion for 1999 crops. A second function of an emergency package could be to hasten the recovery in markets. That is, take actions that will move the currently imbalanced commodity markets toward balance more quickly. Last year's emergency bill provided more funds for export expansion as one way to help markets adjust more quickly. But, the bill included few other adjustment mechanisms, primarily because farm policy today is designed to keep the government out of the market. That means the policy for dealing with market imbalance is to wait for mother nature and recovery in foreign markets however long that takes. More aggressive action could be taken to expand demand, such as programs to expand industrial product use, perhaps the great coming market for the 21st century. Attempts could be made to cut next year's production, such as through conservation-based land idling programs of one sort or another. If you introduce an aggressive market-balancing function in an emergency bill, you are challenging the fundamental 1996 Farm Bill policy. If you do not introduce such a function, and markets do not adjust and certainly acreage hasn't will taxpayers keep providing supplemental payments? A third function of an emergency bill could be to change the structure of the market. By that I mean, three years from today, will producers be producing the same way they are now and marketing the same way, and possibly faced with the same type of market situation as today? Or can the emergency bill include provisions that would help put some producers in a better competitive position by changing production and marketing practices. One example is the National Pork Producers Council's proposal for a national processing cooperative. I am not endorsing or denouncing that, I simply use it as an interesting example worthy of discussion. Another example is simply some of our conservation programs, where producers could receive cost share or rental payments to undertake practices that may enable them to lower their costs of dealing with environmental problems that they may eventually have to deal with. Another example is our producer grant program made under the Sustainable Agriculture Research and Education SARE Program. We make grants each year directly to producers for up to $15,000 to undertake innovative production practices. We also make grants to producers who develop innovative marketing practices. Who better than you can come up with the new ideas that can help producers farm and market more effectively? Under the 1996 Farm Bill for the 1996 through 1999 crops, and including an estimate for this year's emergency spending, we will spend some $35 billion on AMTA payments and marketing loan payments. Over that period we will spend less than $3 million on SARE program producer grants. That is less than one one-hundredths of one percent of the AMTA and LDP spending. There are other programs, such as risk management education, that could also make a difference for some producers, if given a chance. Since 1996, USDA spending on risk management education has been at a similar low level to that spent on SARE producer grants. An emergency bill that has a goal of helping producers, who need help the most, find ways to produce and market things differently might consider increasing the funding of these pathetically under-invested programs. That concludes my remarks. As producers, you need to keep your eye on the markets. They will turn up, we may about be approaching the bottom for corn, wheat and cotton. As members of this great organization, you need to keep your eye on the policy ball. Your help is sorely needed to point farm policy in the direction that will do the most good for American agriculture, rural areas, and society at large in the 21st century. Thank you.