Published 7:00 am Thursday, November 28, 2024
CALDWELL, Idaho — Matt Dorsey welcomes lower short-term interest rates but doesn’t consider them a cure-all for the financial challenges he and other farmers face.
“Interest rates stabilizing is helpful, but it sounds like the inputs are going up again,” he said.
Dorsey’s strategy hasn’t changed much since early 2022, when a series of interest rate increases accompanied post-pandemic inflation: “Trying to figure out which crops are going to cost you the least to raise,” he said.
The Federal Reserve Open Market Committee’s two recent cuts in the Federal Funds Rate, which banks charge each other for overnight loans, are expected to help farmers. Those rates drive the interest that lenders charge on lines of credit, equipment financing and business loans.
However, concerns remain over low commodity prices and high input costs.
Dorsey saw slim profit margins on his family’s farm into 2023, “and in 2024, there is not much margin left. You’re going backwards,” he said.
Fellow southwest Idaho farmer Jarom Jemmett’s family has a revolving operating line of credit that must be renewed every two to three years. The line tracks moves in the Federal Funds Rate, which the Fed recently reduced “because the economy is cooling down,” he said.
Low commodity prices figure to increase demand for credit, he predicted.
“When commodity prices are down, you are not getting the return on investment on the money you have borrowed,” Jemmett said. “So paying those notes can sometimes be more difficult.”
“When we have a financial environment like now that’s getting harder on our farm economy, it means the farm economy will likely rely heavily on credit,” said American Farm Bureau Federation economist Bernt Nelson. “When we start increasing debt load, we can come up against the limit of what FSA (USDA’s Farm Service Agency) can guarantee and what the bank can lend.”
Overall, credit quality in farm country remains in good shape, he said.
Farmers, ranchers and dairy producers across the West “have faced many challenges over the past few years,” including volatile commodity markets, high input costs and difficult labor markets, AgWest Farm Credit Idaho president Doug Robison said. “Despite these significant challenges, most producers remain in a financially sound condition and continue to perform as agreed on their loan obligations.”
The Federal Reserve Board of Governors — collectively known as the Fed — cut the Federal Funds Rate by a half a percentage point Sept. 18 to a target range of 4.75% to 5%. Previously, the target had stood at 5.25% to 5.5% for more than 13 months, he said.
A quarter-point cut followed on Nov. 7, to a target of 4.5% to 4.75%. Since earlier in the year, “labor market conditions have generally eased and the unemployment rate has moved up but remains low,” according to the Fed’s statement.
The Fed’s initial goal was to tighten the money supply with higher interest rates as a way to reduce the rate of inflation, which flared up as Congress flooded the economy with spending to offset the impact of COVID. As the rate of inflation has subsided, the Fed is reducing interest rates.
“Inflation has made progress toward the committee’s 2% (inflation) objective but remains somewhat elevated,” according to the Fed.
“If you look at the main objective measures of the economy, we are doing well,” said Zions Bank senior economist Robert Spendlove.
But, he added, “Don’t tell consumers that. They don’t feel like we are doing well.”
Some prices are up more than 20% since 2020, he said.
The Fed indicated it intends to cut short-term interest rates by another half a percentage point by year’s end and another point by the end of 2025, Spendlove said on Nov. 1.
Interest rates have become an increasing concern among main street enterprises, which was not always the case, said Suzanne Budge, Idaho state director of the National Federation of Independent Business.
“So, actions by the Federal Reserve are now on a lot of small business owners’ minds as they calculate whether to make capital expenditures or not,” she said. “A drop or rise in rates here and there have drawn much more small business interest.”
The drop in interest rates is being felt in some agricultural sectors.
In the interest rate-sensitive timber sector, “our product markets have been surprisingly strong over the last six weeks,” according to a Nov. 18 market update by Tyler Freres of Lyons, Ore.-based Freres Engineered Wood, which manufactures mass plywood and other products. “…The Fed rate impact has been positive, adding a sense of momentum to the upward trend as we head into winter.”
The Fed has also been shrinking its balance sheet, in contrast to its COVID-era buying spree of securities. Through quantitative easing during the pandemic, the Fed bought U.S. Treasury securities and government-guaranteed mortgage-backed securities — supporting market values, keeping yields low and adding liquidity to the economy.
Now, “whatever quantitative tightening that is happening is being worked around,” said Bob Coleman of Profits Plus Capital Management in Nampa, Idaho.
Encouraged by lower interest rates and the surging stock market, investors are now turning to private credit.
“Private credit is driving the stock market higher,” Coleman said. “However, unlike the Federal Reserve expanding its balance sheet in quantitative easing, private credit creation can contract as prices begin to decline.”
The last time the Fed cut interest rates when the stock market was at all-time highs was in September 2007. Now, “amid all this private credit creation and leveraging and collateralizing of assets to buy more assets, at some point the market becomes too leveraged, valuations become too expensive and the move higher becomes more unsustainable,” he said.
Interest is “a factor in your operating budget, but it’s not going to really make or break you,” given other costs, said Idaho Farm Bureau Federation president Bryan Searle. “Every dollar counts, but there are other things that would probably benefit us more” on income and expense sides.
“A farmer has to be an optimist, so any time you see prices drop in an area, you welcome that with open arms,” he said.
Interest rate impacts can stretch beyond a single crop season, Jemmett, the southwest Idaho farmer, said.
To grow onions, “we will start prepping the field in August and September,” he said. “You may have close to $1,000 an acre invested in onion ground you won’t harvest until a year later. And if you’re selling on the open market, you may not get paid on that investment until the following April.”
Lower interest rates “will be positive for agricultural producers by reducing direct expenses related to operating interest on lines of credit and other variable-rate loans,” Ag West’s Robison said. Lower rates “will result in easing financial conditions, which will lend support to commodity prices, including agricultural commodities.”
The anticipated slow pace of rate cuts “suggests it will take several years for these benefits to be fully realized by agricultural producers,” he said.
When interest rates rise, lenders reduce their risk tolerance, the availability of capital decreases and the cost of building a business increases, which “definitely slows down goods sales,” said Jon Buttars, vice president of sales and technology with heavy equipment dealer Agri-Service. Spending on parts and service increases.
“Our farmers are smart,” he said. “It just takes so much money” to farm.
Lenders during the recent high rate environment asked for more financial records and business plans from farmers, which continues, Buttars said. It will take a while before that changes, and “exposure is a big word in the industry right now.” The market for new equipment is soft, and commodity prices are a much bigger factor than interest rates, he said.
Southwest Idaho-based Valley Wide Cooperative has been expanding internally and through acquisitions for the past decade-plus, adapting to various interest-rate environments.
“These efforts are driven by a commitment to providing our members with better products and competitive pricing, ensuring value and excellence across our growing operations,” chief financial officer Brad Locke said.
While high interest rates pressure earnings streams, make expansion more costly and burden customer members, unusually low rates prompt preparation to mitigate the impact of a future rate hike.
In making decisions about operations and investment opportunities, “we want to make sure we have co-op members’ best interests at heart,” Locke said.
Amid the especially low rate environment of the pandemic era, CEO Dave Holtom and finance manager Derek Brewer “saw there was a risk for potential higher interest rates,” Locke said. “We did not forecast rates to be at a low level indefinitely. When rates were very low, we hedged some of our interest rate exposure through an interest rate swap.”
Two parties that contract for an interest rate swap make and receive payments on a like amount owed. They set up the terms so that one party effectively pays a fixed rate, the other a variable rate. Valley Wide ended up with a fixed rate.
“We also locked in almost all long-term debt at very low interest rates,” Locke said.
“We’re always looking for opportunities to benefit our members through investment,” Locke said. When interest rates are forecast to go up, “it’s harder to find investments that pay off for members and grow their equity, but we continue to search for good investments that have a return that exceeds forecasted interest rates.”
The recent rate drops help both Valley Wide and its customer members, he said. Members receive an annual patronage payment based on the cooperative’s performance. “All other things being equal, a decrease in interest expense has a great likelihood of increasing patronage payments to members.”
Dorsey, who has kept his farm expenses as low as possible, looks forward to the eventuality of higher crop prices. Combined with lower interest rates, they will brighten his bottom line.
“I guess the only thing that cures low prices is low prices,” the farmer said. “Hopefully, the prices are low enough that they will start to turn around.”
