Agricultural Credit Market Update Todd H. Kuethe - PowerPoint PPT Presentation

Agricultural Credit Market Update Todd H. Kuethe www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu

Agricultural Credit Market Update • Tight margins and exhausted working capital reserves • Farms may wish to use debt capital to meet short-term liquidity needs • Farmers likely to face increased scrutiny www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu

Total farm debt has been increasing, slowly 400 Non Real Estate 350 Real Estate 300 250 $Bil (nominal) 200 150 100 50 0 www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu Source: USDA-ERS

Debt relative to income has been increasing, quickly (liquidity risk) 6 5 Debt/Net Farm Income 4 3 2 1 0 www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu Source: USDA-ERS

Solvency position still strong, but signs of increasing risk 16.0 15.0 Debt/Asset Ratio 14.0 13.0 12.3 12.4 11.7 12.0 11.4 11.0 10.0 www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu Source: USDA-ERS

After long period of decline, delinquencies are rising (slightly) Non-Real Estate Real Estate 4.5 4.5 Non-accuring 90 days 4 4 30 - 89 days 3.5 3.5 % Outstanding Loans 3 3 2.5 2.5 2 2 1.5 1.5 1 1 0.5 0.5 0 0 2008 2009 2010 2011 2012 2013 2014 2015 2016 2008 2009 2010 2011 2012 2013 2014 2015 2016 www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu Source: Ag Finance Databook

Farm loan risk ratings are increasing (slightly) 100% 90% Share of Risk Rated Loans ($) 80% 70% 60% 50% 40% 30% 20% 10% 0% 2008 2009 2010 2011 2012 2013 2014 2015 2016 Minimal Low Moderate Acceptable Special www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu Source: Ag Finance Databook

Credit risk migration for Illinois grain farms Class 1 Class 2 Class 3 Class 4 Class 5 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu Source: FBFM

Credit risk migration for Illinois grain farms Probability of Next Credit Class Mean Credit Sojourn Class Times 1 2 3 4 5 1 7.66 --- 78.4 18.3 2.9 0.4 2 2.86 53.3 --- 37.0 7.0 2.6 3 3.08 13.1 63.2 --- 14.4 9.2 4 1.53 6.3 34.5 51.1 --- 8.0 5 1.64 2.1 21.3 63.0 13.5 --- www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu

Federal Reserve Districts • Quarterly surveys of agricultural bankers – Interest rates – Credit market conditions (subjective) www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu

Quarter 3 Interest Rates Chicago St. Louis 5.7 2012 2013 2014 2015 2016 5.6 5.5 5.5 5.5 5.4 5.3 5.21 5.2 5.2 5.1 4.94 4.89 4.87 4.86 4.82 4.68 4.62 4.58 4.57 Operating Real Estate Operating Real Estate www.farmdocdaily.illinois.edu Source: Chicago Fed, www.farmdoc.illinois.edu St. Louis Fed

Credit conditions deteriorating 80 60 40 20 0 -20 -40 Loan Demand -60 -80 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu Source: Chicago Fed

Credit conditions deteriorating 80 60 40 20 0 -20 -40 Loan Demand -60 Loan Repayment -80 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu Source: Chicago Fed

Credit conditions deteriorating 80 60 40 20 0 -20 -40 Loan Demand Loan Repayment -60 Renewals and Extensions -80 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu Source: Chicago Fed

Credit conditions deteriorating 60 40 20 0 -20 Loan Demand Loan Repayment -40 Renewals and Extensions -60 2012Q2 2012Q4 2013Q2 2013Q4 2014Q2 2014Q4 2015Q2 2015Q4 2016Q2 www.farmdocdaily.illinois.edu Source: St. Louis Fed, www.farmdoc.illinois.edu Ag Finance Databook

FOMC’s Target Rate www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu Source: FOMC

The Fed’s Dual Mandate • "The Board of Governors of the Federal Reserve System and the Federal Open Market Committee shall maintain long run growth of the monetary and credit aggregates commensurate with the economy's long run potential to increase production, so as to promote effectively the goals of maximum employment, stable prices and moderate long-term interest rates .“ – Federal Reserve Act, 1977 • In English: – Keep inflation low (about 2%) – Keep employment near full potential (unemployment 4.5 – 5%). www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu

The Fed’s Dual Mandate Inflation 5.0 PCE 4.0 3.0 2.0 1.0 0.0 -1.0 -2.0 Unemployment 12.0 Unemployment 10.0 8.0 6.0 4.0 2.0 0.0 www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu Source: FRED

The Fed’s Dual Mandate Inflation 5.0 PCE 4.0 Target 3.0 2.0 1.0 0.0 -1.0 -2.0 Unemployment 12.0 Unemployment 10.0 Target 8.0 6.0 4.0 2.0 0.0 www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu Source: FRED

The Fed’s Dual Mandate Inflation 5.0 PCE 5.0 4.0 Target 3.0 2.0 4.0 1.0 0.0 -1.0 3.0 -2.0 2011 Inflation Target 2.0 2012 2010 Unemployment 2014 2013 2009 Now 1.0 12.0 Unemployment 10.0 Target 2015 8.0 6.0 0.0 4.0 2.0 0.0 -1.0 3.0 4.0 5.0 6.0 7.0 8.0 9.0 10.0 11.0 Unemployment www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu Source: FRED

Why many are arguing for an immediate rate increase 19.08 Effective Federal Funds Rate Business Cycle Peak and Trough 8.15 9.20 5.31 4.24 6.12 0.40 2.09 0.21 Jan 81 - Nov 82 Jul 90 - Mar 91 Mar 01 - Nov 01 Dec 07 - Jun 09 October 2016 www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu Source: FRED, NBER

Federal Funds Rate and the Cost of Agricultural Borrowing Operating Loans Farm Real Estate 20.0 20.0 15.0 15.0 Farm Real Estate Loan Rate Farm Operating Loan Rate 10.0 10.0 5.0 5.0 0.0 0.0 0.0 5.0 10.0 15.0 20.0 0.0 5.0 10.0 15.0 20.0 Effective Federal Funds Rate Effective Federal Funds Rate www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu Source: FRED, Chicago Fed

Summary • Farmers should practice caution in acquiring new lines of credit • Borrowers likely to face increase scrutiny • Interest rate increases are likely www.farmdocdaily.illinois.edu www.farmdoc.illinois.edu