Home / News / Business news / Ag's booming . . . will it bust soon?

Ag's booming . . . will it bust soon?

Jeff Caldwell 05/06/2013 @ 3:47pm Multimedia Editor for Agriculture.com and Successful Farming magazine.

For every boom, there's a bust. For every period of prosperity -- like the one that's under way for a lot of crop farmers who have seen a robust marketplace for their products -- there's a downturn right around the corner. Businesses like farming are cyclical in nature, and centuries of economic theory backs that up.

So when will the bust happen for corn and soybean farmers who have enjoyed high prices and profit margins over the last few years?

That answer is not clear. There are some major "ifs" in play, and though there are decades of precedents that indicate the bust is coming soon, today's circumstances aren't the same as in the 1910s and 1970s, periods of prosperity that preceded downturns.

"Historically, the sharp accumulation of debt has preceded financial crises. After farm booms in the 1910s and 1970s, lower incomes and higher interest rates contributed to farm financial crises and waves of farm bankruptcies during the 1920s and 1980s," says Jason Henderson, Federal Reserve Bank of Kansas City vice president and Omaha branch executive. "Rising bankruptcies and the resulting deleveraging in agriculture echoes the recent financial crisis, which was characterized by home foreclosures and lost housing wealth."

What's happened at those times? The boom times have a common thread. "Farm enterprises historically have used wealth to support consumption and investments when income fades," Henderson says. "During years of low income, farmers tap their existing wealth to finance spending on capital investments such as buildings, vehicles, machinery, and other equipment. Thus, similar to nonfarm households, the wealth effect often leads to sharp increases in debt and leverage in farm enterprises."

So, boom times are followed by busts simply because the investments from times of prosperity essentially are sucked up by the low times out of necessity. It keeps farm businesses alive, for the most part, but it draws down farm equity and sometimes forces farmers to incur debt to stay afloat. That opens the chute between the boom and subsequent bust.

"Farm enterprises are assumed to allocate profits between current investment and retained equity. Farm investments depend on the total resources of the enterprise -- profits and wealth. During less profitable times, instead of allowing investments to fall with profits, farmers tap their existing wealth to finance and maintain their capital investments near previous levels," Henderson says. "In addition, absent financial market stress, lenders also can contribute to the wealth effect by being more willing to lend to farm enterprises that have greater levels of equity to use as collateral for loans."

So, where does today's farm economy sit? Are we poised for a slide into the tank? First, Henderson says it's important to see how today's circumstances may differ from those in past notable boom-bust cycles. Is there sufficient difference today to prevent a bust in the next year or so?

"In 2013, historically high farm incomes are projected to keep U.S. farm debt and leverage low. Yet, longer-term projections suggest that farm incomes could fall dramatically in 2014. If agriculture’s historical wealth effect holds true, farm enterprises might use existing wealth to finance and smooth investment spending, sowing the seeds for another round of debt accumulation," Henderson says. "As long as farm wealth remains elevated and interest rates remain low, real estate and non-real estate investments by farmers could continue to remain high even with lower profits. If historical precedence holds and farmers use debt instead of retained earnings to finance capital investments, the wealth effect may trigger another phase of the leverage cycle. Current farm debt ratios remain near historical lows. Yet, projections of lower farm incomes, high wealth, and low interest rates are the recipe for another wealth effect in U.S. agriculture."

CancelPost Comment
MORE FROM JEFF CALDWELL more +

Cutting Postharvest Grain Losses in Brazil a… By: 08/29/2014 @ 10:06am There's growing talk in parts of the central U.S. that once the combines start to roll this…

Drought Continues to Hammer California;… By: 08/28/2014 @ 10:27am John Steinbeck and Sonora Babb painted vivid pictures of the Dust Bowl in their novels The Grapes…

Another Rough Winter? Farmers' Almanac… By: 08/27/2014 @ 7:30am Not again! A year ago, the Farmers' Almanac, which has been around for almost two centuries…

MEDIA CENTERmore +
This container should display a .swf file. If not, you may need to upgrade your Flash player.
Holiday Profit Taking Pressures Markets