 "The recent turmoil in financial markets is very large by any
reasonable standard of comparison," said Scott Irwin, professor
of agricultural and consumer economics. "The farmdoc team
prepared these articles to illustrate the impact of the current
financial crisis on the agricultural economy and
decision-making."We've focused on five main topics -- the
nature of the financial crisis, impacts on the short-term
availability of credit, the connection between the financial
meltdown and commodity prices, crop insurance decisions, and
land rental and lease negotiations."
How we got there
"The simplest and most direct answer to how we got where we
are today is that, over the past few years, too many 'bad'
mortgage loans were made in the United States," explains Nick
Paulson, an assistant professor of agricultural finance and
author of "The Current Financial Crisis: How Did We Get Here?"
Paulson pointed to a combination of relatively low interest
rates and credit availability, which combined to create the boom
in U.S. real estate markets. Borrower demand for home mortgages
increased significantly, and mortgage brokers, driven by profits
determined by commissions, came up with creative ways to make
loans available to a larger pool of potential borrowers.
"Additionally, the rapid increase in real estate values
provided justification for lending amounts in excess of market
values without down-payment requirements and/or documented proof
of repayment ability," he said.
"Unfortunately, in 2006 the party literally started to end.
Many of the existing nontraditional mortgage contracts become
unaffordable to borrowers as variable interest rates adjusted
upwards and balloon payments on no-interest loans became due."
The result -- plummeting values for mortgage-based securities
as default rates increase and investors shift money to safer
investments.
"Investors are wary of putting their money at risk in debt
markets, which makes it exceedingly difficult for lenders to
obtain the financing needed to originate new loans or lines of
credit, even to creditworthy borrowers -- the money is simply
not there to do so," he said.
Financial markets in agriculture
Producers should not be surprised when their banker asks for
financial information and cash-flow projections before making a
loan, say Paul Ellinger and Bruce Sherrick, two professors of
agricultural economics and authors of the "Financial Markets in
Agriculture" article.
"This reaction by lenders is not likely a response indicating
a loss in trust, but rather a requirement from the enhanced
regulations of banks," they explained.
They conclude, however, that in general the financial health
of agricultural lenders remains strong, as they largely avoided
the problems that beset the finance industry. Ag lending is also
an industry characterized by strong customer-borrower
relationships.
"However, the economic downturn and declining interest rates
have lowered profit margins in 2008 for agricultural lenders,
and nonperforming and past-due loans have increased at most
financial institutions," Ellinger and Sherrick write.
"The larger concern for agricultural lenders will be the
impact of the current economic downturn on profit margins for
producers," they write. "Rising input costs and cash rents,
combined with lower commodity prices, increase the operating
fund needs and financial risks for producers and for lenders
providing debt funds.
"Another concern involves the impact that shrinking margins
will have on land prices, and thus, on the financial health of
their borrowers."
[to top of second column] |
Implications for prices
"Demand" is the key word in judging what the financial crisis may
do to agricultural prices, say Irwin and Darrel Good, both
professors of agricultural and consumer economics, in their article
"Implications of Credit Market Problems for Crop Prices."
"Slowing economic growth from the crisis and its fallout
threatens the robust demand growth that agricultural commodities
have enjoyed for the past two years in both the food and biofuels
sections," they conclude. "Slowing economic growth would likely
dampen the demand for livestock products, resulting in a weaker
demand for feed."
And as the domestic and world economies slow down, demand for
energy drops, particularly for crude oil. Lower crude oil prices,
resulting in lower gasoline prices, result in lower ethanol prices
-- reducing the break-even price for corn processed into ethanol.
Cash prices for corn and soybean crops are now well below
expected levels. Irwin and Good feel that the price levels are below
actual value based on likely livestock and energy prices.
"The apparent overreaction of crop prices to the downturn in
financial markets suggests that at least a modest recovery in prices
can be expected in the post-harvest period," they write. "The timing
and magnitude of such a recovery will be heavily influenced by the
confidence the market shows in a stabilization of the financial
markets and the depth and duration of the domestic and global
economic slowdown."
While retaining ownership of the crops is expensive, prospects
for a price recovery suggest storing a substantial portion of the
crop that has not yet been priced, particularly if on-farm storage
is available, Irwin and Good indicated.
"Longer term, corn and soybean producers will have to make
decisions relative to acreage allocation in 2009," they said.
"Current projections of use and carryover stocks for the 2008-09
marketing year suggest that nationally there will be a need to shift
3 to 4 million acres from soybeans to corn."
Crop insurance payments
Authors Gary Schnitkey, U of I Extension farm financial
management specialist, and Bruce Sherrick offer a detailed
examination of various crop insurance types, scenarios and products
in "Increased Probabilities of Crop Insurance Payments."
Revenue products such as Crop Revenue Coverage and Revenue
Assurance, and the Group Risk Income Protection plan may make
payments as a result of commodity price declines, they write.
"Insurance payments could aid in reducing some of the losses
resulting from commodity prices declines," they conclude.
Volatile rental decisions
Amid U.S. and world uncertainty about economic performance, many
farmers and landowners are in the midst of making farmland rental
decisions for 2009, note Schnitkey and fellow U of I Extension
specialist Dale Lattz in their article "2009 Rental Decisions Given
Volatile Commodity Prices and Higher Input Costs."
"Price uncertainty has greatly complicated decision-making, as it
is difficult to accurately estimate farmland returns for 2009," they
write. "This, in turn, leads to difficulties in setting appropriate
cash rent levels.
"We suggest using share rent or variable cash rent arrangements.
If a fixed cash rent arrangement must be used, we suggest waiting in
setting the cash rent level. Cash rent agreements set at relatively
high levels may need to be renegotiated."
[Text from file received from
University of
Illinois Extension] |
