All farmers keep a constant eye on the horizon, watching for the cloud that might bring rain to nourish the crops or hail to destroy them. As the new year dawned, the most ominous financial cloud in a generation appeared on the horizon of the rural Midwest. Even farmers too young to remember the last big storm would be wise to get their financial crib doors shut before the next one hits.
It seems cruel to sound this warning just now. At the moment, farming is the one prosperous part of the American economy. Farmers are getting prices which, if not records, are very high. Corn is rising again, to about $6.50 a bushel. Soybeans are also up, to about $12 a bushel. The price of farm land has never been higher. The average price of an Iowa acre shot up no less than 32 percent last year, to $6,700: Illinois and Indiana aren't far behind. Sales of $10,000 per acre or more are common.
The real estate market may be dead everywhere else, but not down on the farm. In a recession-weary nation, it's great to be a Midwestern farmer.
So what's the problem? What's the cloud that threatens to rain on the rural picnic?
It's the news that Congress, in its cost-cutting mood, has ended the 45-cents-per-gallon subsidy for corn-based ethanol. The subsidy, which cost the government $6 billion last year, actually went not to farmers but to gasoline refiners, to encourage them to buy corn for ethanol, which reduced dependence on oil, including imported oil. At the same time, the government let lapse a 54-cents-per-gallon tariff on imported ethanol, most made from Brazilian sugar cane, which had been imposed to protect American corn growers.
Given the sensitivity of the farm lobby and its congressional backers, you'd think this double New Year whammy, coming in the midst of the Iowa caucuses, would have produced a huge outcry across the Midwest. Not at all. The two actions passed virtually unnoticed.
The reason is the existing high corn prices, coupled with the current high price of ethanol. The price of ethanol as a fuel goes up or down with the price of oil. Oil prices are high, so ethanol prices are high, meaning that refiners are willing to pay top dollar for corn. If one purpose of the subsidy was to keep corn prices up, that imperative doesn't seem very urgent right now. The market is taking care of things just fine.
So, again, what's the problem? The problem requires some knowledge of history and a familiarity with the law of supply and demand. Both teach us that what goes up can come down again fast, almost as quickly as a Midwestern hailstorm. They don't say that disaster is imminent, but they sent an intimation of trouble ahead, like a chill breeze on a summer's day.
The history occurred about 30 years ago. First, farm prices boomed, largely because of grain exports to the Soviet Union. These exports were the ethanol of their day. Given the incompetence of Soviet agriculture, there seemed no reason they would ever end.
At the same time, interest rates were relatively low. The government eased regulations on lending to farmers, and urged farmers to buy land, to get big, to become more mechanized. Many did, borrowing the money. With the crop money flowing in, why not?
And then it ended. President Carter punished the Kremlin for invading Afghanistan by embargoing grain exports to Russia. The government had financed the Vietnam War by borrowing, not by taxation: the resulting government debt led directly to double-digit inflation, which required double-digit interest rates to control.
Suddenly farmers found that their best market had disappeared, while the loans they had taken out to buy more land cost a lot more to repay. Most of them grew more grain than ever, and the over-supply sent per-bushel prices down.
Many farmers simply went broke. Fifth-generation farm families lost the farm. Many small-town banks, stuck with bad loans, also went broke. Some were bought up by big banks in the state capital. Some just closed. Either way, many small towns never recovered.
The farm debt crisis of the 1980s produced foreclosures as searing as any in the recent sub-prime mortgage crisis. I attended a lot of foreclosure sales in those days, watching sympathetic neighbors bidding what they could for a farmer's equipment and land, while the farmer and his family drank coffee in their kitchen, waiting to leave the farm and move into town.
What's the moral here? One is that, in economics, nothing lasts forever -- not high demand nor high prices. This is true for city houses and for rural farms. Second is that if all prices are unstable, farm prices are triply so, high one day and low the next. Third is that the instability of corn prices is matched only by the instability of oil prices: link the two, as we've done with ethanol, and you've got a whipsaw waiting to happen.
There's another lesson -- events have consequences. Getting rid of the ethanol subsidy is a good idea: like farm subsidies in general, it always was more of a political payoff than an economic necessity. But perhaps embargoing grain exports to Russia was a good idea at the time: the embargo certainly put added pressure on the Soviet Union in its dying days.
Political decisions taken in one place can impact economic reality in another. In both cases, we had high farm produce and land prices propped up by external forces -- the Soviet exports or the demand for ethanol. Now as then, we have a boom that probably can't be sustained. And both cases involve huge government debt, caused by trying to pay for wars without raising taxes.
(I'm aware that Iowans in particular resent statement that the ethanol industry, which is crucial to the state, raises corn prices, and food prices in general. I've seen academic studies denying that the impact is more than minimal. Sorry, but I don't believe it. Fully 36 percent of all corn grown in this country goes into ethanol. Anything that creates 36 percent of demand simply has to have a big impact on prices.)
In addition, both cases involved huge government debt, caused by trying to pay for wars without raising taxes. The Keynesians who want to stimulate the economy through more deficit spending are right: nothing else will work. But let's not kid ourselves. This spending is going to come back to haunt us, in higher inflation down the road. This inflation is the lesser of two evils, but it's going to happen.
This means that the farmers who are borrowing now to buy more land and expand their holdings are building up vast debts that will be hard to service when interest rates go up, as they will, and when crop prices come down, as they will.
I haven't seen any reporting on the level of debt farmers have been taking on in recent years. But somebody is paying $6,500 per acre for the land, and most people don't have that much money in their mattress.
This bubble has to pop sometime. Before it does, it's going to get bigger. The Des Moines Register reported six years ago that much of Iowa's farmland was owned by aging farmers, many of them widows, and "as much as 50 percent of Iowa's farmland will be sold or passed on to heirs in the next 10 to 15 years." Undoubtedly, some has already been taken over by sons and daughters. But those high land prices indicate that more is already being sold, with more to come.
The bubble need not pop this year, nor the next. But both history and economics teach us that the rural Midwest, like the rest of the nation five years ago, is in an Icarus economy, and a hard landing lies ahead.
Recent Comments