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Will the credit crunch impact agriculture?
Most rural lenders still report strong growth, but interest rates could rise
By Sara Wyant Recent headlines about mortgage woes and the subprime market shake-up are generating new worries that the impact will eventually hit home in the agriculture and the renewable energy sectors. In recent weeks, rising home foreclosures have prompted investors to shun mortgage-backed securities and big banks to tighten their lending practices. Fears of evaporating credit are spooking Wall Street. Markets seemed to stabilize after the Federal Reserve Board approved a one-half percentage point cut in the discount rate--considered to be a dramatic move aimed at calming markets roiled by the widening subprime crisis. The Fed's decision brings the discount rate--the interest the central bank charges to make direct loans to banks--from 6.25% down to 5.75%.
Farm lenders still strong The Independent Community Bankers of America report that most of their members are not experiencing the issues that are making headlines, says Mark Scanlan, ICBA's Director of the Office of Agriculture & Rural Policy "Their delinquencies remain low and foreclosures nearly non-existent. They didn't make the types of loans that are having problems so they aren't having problems now." In fact, Paul Merski, chief economist of the Independent Community Bankers of America (ICBA) issued the following statement upon release of the FDIC's quarterly bank report: "Despite challenging pressures on net interest margins, community banks are well-positioned to lend to the businesses and families in their communities," adds Merski. "Community banks have strong deposit growth, have maintained solid underwriting standards, have healthy collateral, and have had little or no exposure to subprime lending. They are among the most highly regulated financial institutions in the nation."
Impact on the ag sector? There are really two differing views on what's currently happening, says Pat O'Brien, an American Farm Bureau Federation Economist who was formerly with USDA's Economic Research Service. "Many people believe that farmers in general and especially those investing in renewable energy, rely more on self-financing or the Farm Credit System and less on commercial credit so they will see little impact. "However, others believe that, especially when you look at data for mid to large size commercial farms, the dependence on commercial credit is much larger. USDA's Agricultural Resource Management Study (ARMS) shows that from late 2005 into 2007, interest rates were rising for commercial agriculture and ag-related renewable fuel initiatives faster than for the general economy. Looking at this data, it's easy to see that the "bury your head in the sand approach" is not really viable for the larger scale agricultural players who depend on commercial credit markets more than the sector generally, adds O'Brien. "We've had an artificially favorable situation in the U.S. capital markets. It's been relatively easy to run a profitable farm business-or any other kind of business, with a 5 to 6 percent nominal interest rate and a 3 to 4 percent real rate, after tax breaks are considered," explains O'Brien. "Those days are likely coming to an end, with problems in the subprime market hurrying the transition, even in agriculture." O'Brien does not expect a return to the 1980s when interest rates spiked between 18 to 20 percent, but he does expect rates to increase from the relatively low rates we've been living with for quite some time. And that could cause problems for farms that have a higher debt-to-asset ratio and are more financially vulnerable. "When you look at the President Bush's budget assumptions for 2008, which are usually optimistic, interest rates are projected to be between 7 to 7.5 percent. Historically, that number has been between a percentage to a percentage and a half on the low side," he adds.
Renewable energy Although the renewable energy industry appears to be booming, higher interest rates and tighter commercial credit markets could also have a chilling effect on the development of renewable energy, which is already confronting volatile corn and soybean costs, stiff oil industry competition, and increasing construction costs. In recent months, some industry sources reported that ethanol-construction costs were on the rise by an average of about 1 percent a month. In the past two years, the price tag on a 100-million-gallon plant, for example, has jumped from the $160-million range to more than $200 million--making it increasingly difficult for plants to be built relying solely on local sources for equity investment. O'Brien says that new concerns over credit availability and costs could lead to a re-examination of what the farm bill can do to ensure credit availability, especially to the 20 to 25 percent of farms which are financially vulnerable to interest rate upswings and to develop programs that support the continued growth of the renewable energy industry. USDA will update balance sheet forecasts on August 30th, but the most recent data indicates that the farm sector is still performing well and enjoying historically low debt-to-asset ratios. (See below.) Editor's note: Columnist Sara Wyant is president of Agri-Pulse Communications, Inc. and publishes a bi-weekly newsletter, Agri-Pulse, on food and farm policy. For more information, you can e-mail her at Agripulse@aol.com. B 4 9/3/07 2 Star EK Date: 9/4/07
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