Are we heading into another bust in agriculture, as happened in the late 1920s and in the 1980s? This is the fear of some farmers, and of some agricultural economists too.
George Brinkman, professor emeritus at the University of Guelph, believes Canadian farmers are seriously over-leveraged and that there simply is not enough farm income to pay off the debt farmers have accumulated.
“Farmers in Canada are overcapitalized, and they are much more vulnerable than U.S. farmers to rising interest rates, low commodity prices, poor production, and falling land values,” Brinkman says. “If prices enter a down cycle or interest rates go up, Canadian farmers will be squeezed.”
Canadian farm debt has increased greatly over the past few years. Statistics Canada data shows Canadian farm debt had climbed to $77.98 billion by the end of 2013, an increase of more than $12 billion since 2010.
Canada isn’t alone in this trend. Farm debt in Australia is up by 75 per cent over the past decade and is currently estimated at more than A$70 billion. Even more alarming is that 70 per cent of Aussie debt is held by just 12 per cent of its farms.
American farmers have also increased borrowing, although not nearly to the same extent as Canadian farmers. Total U.S. farm debt grew by roughly five per cent a year from 2003 to 2009, a pace that is very similar to the rate at which debt increased during the boom years of the 1970s.
Brinkman provides a startling comparison of Canadian U.S. farm debt. A few years ago, he calculated the ratio of farm debt to income in Canada and found that in 1972, that ratio was two to one. In other words, it took $2 of debt to produce $1 of income. By 2007, that ratio had jumped to 23 to one.
In 2007 in the U.S., however, their debt-to-income ratio was only 2.9 to one.
Numbers like these remind me of the huge government debts that many countries have accumulated, and how the ratio of government debt to GDP has gone up in recent years, putting countries and their economies at risk.
I wanted to know how the ratio of farm debt to total agricultural income compares to the ratio of sovereign debt to a country’s GDP. It turns out that statistics are readily available.
In Canada, total government debt as a percentage of GDP in 2013 was 86.30 per cent. The U.S. public debt/GDP was 71.80 per cent (CIA World Fact Book numbers).
Taking the $77.979 billion that Canadian farmers owed in 2013 and dividing it by $53.890 billion (the total cash receipts which Statistic Canada reported Canadian farmers received that year) we get a ratio of 144.7 per cent.
Only the debt/GDP ratios of Japan (226.10), Zimbabwe (202.40), and Greece (175.00) were higher in 2013.
The reality is, Canadian farmers’ ratio of debt to economic production is higher than some of the world’s worst economic basket cases, including Italy, Iceland and Portugal.
By the way, the U.S. ratio of farm debt to total farm receipts is much lower at 69.4 per cent, which puts their debt-to-income ratio lower than their public debt/GDP ratio, and less than half of the corresponding Canadian farm ratio.
Without question, comparing Canadian farm debt against sovereign debt is like comparing apples to oranges. It has little direct economic significance.
As a visual of just how huge the farm debt is in Canada, however, it is eye opening.
Land value bubble
In Australia, Canada, and the U.S., land purchases have been a driver of rising farm debt, but Brinkman warns these land prices may be a bubble, and in time we may see that bubble burst.
In Australia, 44 per cent of new debt in 2012 was for land purchase. The average price of farmland has jumped from A$279/ha in 2004 to A$470/ha in 2014.
In Canada, the overall average increase in the price of land likely has less significance due to the vast differences in agriculture, crops, type of farms and land quality across this country. However, according to the 2013 FCC Farmland Values report, the average increase in farmland value in 2011 was 14.8 per cent, followed by increases of 19.5 per cent in 2012 and 22.1 per cent in 2013.
Likewise, although the U.S. also has differences between states and types of farms, the USDA estimates the average increase of land values from 2012 to 2013 at 13 per cent.
If you compare 2013 U.S. farmland values to 2003 values, land has increased by 240 per cent. The real estate debt load of U.S. farmers is now estimated at US$182 billion.
We have reached a point, especially in Canada, where it seems there is no land price that is too high. After all, when land values are rising faster than inflation and interest, borrowing to buy land can be justified through important financial ratios like debt to asset and equity to asset.
So given that interest rates are low, and that cash flow positions are good due to years of high prices, there are strong motivations to borrow to buy land.
Unfortunately, farmland values now far exceed productive value, and we may be seeing many farmers ignore the risk of interest rate increases or declining revenues, and continue to borrow to purchase land based on the belief that the trends of the last few years are likely to continue.
You have to wonder how speculative these land purchases really are.
The Federal Reserve Bank of Kansas City — Omaha Branch surveyed farmers to find out why farmers were buying land. The results of this survey were surprising (see chart below).
Risk of the bubble bursting
While in the 1980s the crash in agriculture was precipitated by high interest rates, Brinkman feels the next crash could be caused by high farm debt.
Brinkman is not the only one warning of a potential agricultural bust. In February, 2014 the Wall Street Journal was already reporting falling farm property values in the U.S. Corn Belt.
Michael Duffy, agricultural economist at Iowa State University has projected land prices could fall from 20 to 25 per cent over the next few years if corn prices fall.
In a conversation with Bloomberg News in December 2013, Gary Ash, CEO of 1st Farm Credit Services predicted that a drop in corn prices could result in land prices dropping by up to 30 per cent.
Jason Henderson and Nathan Kauffman of the Federal Reserve Bank of Kansas City have written a number of research papers warning of a drop in commodity prices which may result in some farms not being able to service the debt they have accumulated. Some of their analysis and research is available online, including the paper “Farm Investment and Leverage Cycles: Will This Time Be Different?”
Unfortunately, the fall in commodity prices is no longer just a vague fear. We are experiencing those declining prices right now, so every farmer must take a close look at their debt and make sure it can be serviced at current and worst-case commodity prices.
There is a saying in banking: “Most bad loans are made during good times.” Without question we have enjoyed a run of good prices and for most producers, we have experienced good yields as well. Time will tell if those good times have enticed farmers into too much debt.
This article was originally published as “Boom or bust,” in the November 2014 issue of Country Guide