Rainfall distribution throughout the growing season is of particular importance to rainfed farming systems. For instance, significant variations in forage yields are associated with changes in annual precipitation patterns. To protect against uncertain precipitation levels, livestock and forage producers have adopted climate risk management strategies that include short- and long-term adjustments in forage supply and demand, and the adoption of weather-related crop insurance programs.
The Pasture, Rangeland, Forage (PRF) is a pilot insurance program created in 2007 as a tool to mitigate the risk of forage loss associated with the lack of precipitation. Compared to traditional crop insurance options, the PRF program is an index-based insurance, in which indemnity payments are not based on actual precipitation or forage production, but on projected deviations from historical precipitation levels. Currently, the PRF insurance program is available in 48 states, and is one of the top crop insurance programs in the country in terms of the number of acres enrolled (Figure 1). Since its launch, the number of participating acres in the PRF program has increased by 771% from 24.5M acres in 2007 to 247.8M acres in 2022. This rapid growth could be attributed to the reduced number of insurance options for forage producers, changes in program provisions, and severe drought conditions observed during this period. In contrast, 10.8M cotton acres, 36.6M wheat acres, 78.9M soybeans acres, and 83.0M corn acres were enrolled in different crop insurance programs in 2021.
Figure 1. Insured Acres by Selected Crops
Source: USDA RMA
Texas, Arizona, Nevada, New Mexico, and Utah are the top participating states in the PRF insurance program (Figure 2). In 2022, these five states represent about two-thirds or 63.7% of all participating acres in the country. Namely, 34.7M acres are enrolled in Texas, 36.5M acres in Arizona, 37.9M acres in Nevada, 27.0M acres in New Mexico, and 21.8M acres in Utah. As rainfall uncertainty intensifies, participating in the PRF program could be an effective strategy for livestock and forage producers to mitigate production risk and to increase farm income.
While inflation is an immediate challenge to all economic stakeholders, the kind of broad-based inflation currently affecting the economy also raises the prospect of higher interest rates. Rising interest rates are a significant risk for anyone regularly using short & intermediate term and/or variable rate financing, which includes a large portion of agricultural operations.
Although rates remain low from a historic perspective, the U.S. weekly average 30-year fixed mortgage rate hit 5.25% in mid-May for the first time since 2009 (St. Louis Federal Reserve Bank). The US bank prime loan rate is averaging 4.0%, rising from 3.25% in step with the Federal Reserve Board’s recent increases in the federal discount rate. The discount rate is the rate commercial banks pay on short term loans from their regional Federal Reserve Bank. As a monetary policy tool, the Federal Reserve Board of Governors raises the discount rate as a means of curbing inflationary pressure in the economy. See Southern Ag Today – April 5, 2022 for a brief discussion of Fed policy tools. Figure 1 compares a measure of inflation (year over year percentage change in monthly consumer price index) to the federal discount rate, clearly illustrating the relationship between the two series.
Figure 1. Inflation (Year-Over-Year Percentage Change in Monthly CPI) versus Federal Discount Rate
When the pandemic broke out in March 2020, the Fed dropped the discount rate from 2.25% to 0.25% to bolster an economy that hit an abrupt wall. In the next year, inflation began to climb but remained acceptably under 2% until early 2021. Throughout 2021, the rapid rise in prices was thought (hoped) to be transitory, meaning prices would settle back to normal as temporary market and supply chain disruptions eased. Now clearly not transitory, the Fed is engaging interest rates to tap the brakes on inflation. In March, the Fed increased the discount rate by a quarter of a percent from 0.25% to 0.50% and followed that with a half point increase in May, moving the discount rate to 1.0%. Looking ahead, the Fed has projected an intention to use half point rate hikes at consecutive meetings over the next year, presumably until they begin to see an impact on inflation.
What level of interest rates are necessary and how long will it take to tame inflation? Can the Fed manage inflation and avoid pushing the economy into deep recession? What is the economic and political tolerance for higher interest rates?
The last time inflation was at levels comparable to today, interest rates were exceptionally high. The bank prime rate exceeded 20% in 1981. It is difficult to imagine similarly high rates today. The federal budget implications of higher rates are far different now than forty years ago. In 1982, federal government outlays for interest totaled $85 billion against a total debt obligation of $1,120 billion. That implies an average interest rate on federal debt of 7.59%, the highest at any time in the last fifty years. Those 1982 federal interest payments amounted to about 2.5% of nominal gross domestic product (GDP). In comparison, 2020 federal interest payments were $344 billion against total debt of $26,098 billion, an implied average interest rate of just 1.32%, and only 1.6% of nominal GDP. Historically low interest rates over the last decade have clearly softened the impact of high federal debt levels on the federal budget. For context, consider what federal interest payments would be on current debt levels at 1982 interest rates. At an average interest rate of 7.59%, 2020 federal outlays for interest would have been $1,981 billion, equivalent to an unsustainable 9.5% of total GDP. In the post-WWII era, federal outlays for interest have only rarely exceeded 3% of GDP, hitting a high of 3.15% in 1991. The current level of federal debt suggests far less policy room to maneuver in response to rising inflation compared to the early 1980s. The aggressive interest rate hikes that ultimately tamed inflation then would be far more expensive now for both the federal government as well as individual households. Effectively, economic policy makers are caught between the rock of inflation and the hard place of higher interest rates.
Economic uncertainty, inflation, and high interest rates present serious challenges for managers. On a positive note, the financial situation in agriculture is better and should be more resilient to potential shocks compared 40+ years ago, and the likelihood of a 1980s-style farm sector implosion remains remote. However, it is no time to get complacent. In changing financial markets, shop for your best interest rates and terms. Ruthlessly control costs (to the extent you have control), take profits when (if) they appear, jealously guard equity, and build your individual financial resilience.
The April U.S. Bureau of Labor Statistics Consumer Price Index (CPI) update confirms what anyone who has gone to the gas station or grocery store in the last few months already suspected: prices are rising rapidly, particularly on food and energy. The CPI is a composite measure of the cost of consumer related products, and a number of different CPI measures include different types or bundles of consumer products. The CPI which includes all-items was up 8.5% from March 2021 to March 2022. The March index for food only was up a bit more than that year-over-year, increasing by 8.9%. The March energy index was up 32.0% over the past twelve months.
While energy and food prices have clearly gotten a lot of attention, price inflation is occurring broadly throughout the economy. The core inflation index (all items less food and energy) for March was 6.5% higher than the previous year. This is the largest year-over-year increase in the core index since August 1982. So, while inflation may be most pronounced on energy and food at present, it is clearly not confined to those sectors. The overall economy is experiencing the worst inflation in forty years. Figure 1 illustrates the annual rate of inflation over the past half century, expressed as the year-over-year percentage change in the monthly all-items CPI.
Figure 1. Inflation, Measured by Percentage Change (year over year) in Consumer Price Index (CPI)
Rising prices are a challenge not only for consumers but also for businesses who must deal with rising production costs. Many businesses will respond to increasing costs of labor, supplies, materials, or other inputs by raising the price of their output to maintain profits. Competitive pressure can certainly constrain a business’ ability to raise prices, but many businesses generally have some latitude to adjust their product prices in response to higher input costs. This is not the case for farmers and ranchers, who are price takers in both input and output markets. That is, farmers and ranchers have no ability to influence the price they pay for inputs or to set prices on their output. Thus, their ability to pass along increased costs to their customers is basically nonexistent.
Figure 2 illustrates the long term trends in consumer prices and farm product prices. It is clear that farm prices have not kept pace with broad consumer prices. Effectively farm products are losing buying power relative to broad consumer products. An aggregate bundle of farm products today is sold for 5.25 times the price received in 1970. On the other hand, a bundle of consumer products costs 7.5 times what it would have cost in 1970. Farm commodities today will only buy about 70% of the consumer products they would have bought in 1970, and that is only after the gap has narrowed considerably since the spring of 2020.
It is important to note that the agricultural industry as a whole is in better shape than the chart alone would suggest. To offset the erosion of buying power, farmers have increased the quantity of products they sell by relying on improved production efficiency, yield gains, and growing the size of their farm. In other words, the erosion of purchasing power per unit of farm output has been offset by increases in the scale of production. Necessarily over time, an increase in farm size also implies a decrease in the total number of farms (two trends that date back hundreds of years). The challenge for the individual farm or ranch is to manage times of volatility and uncertainty while also navigating the normal long-term trend of attrition, and thus surviving to be one of the “fewer” farmers moving forward. We appear to be in the middle of one of those times when price volatility is a significant management challenge.
The warning on the horizon for agricultural producers is not the immediate problem of inflation. Instead, the concern is what comes after. Producers can weather inflation reasonably well, as long as, farm prices are moving more-or-less in conjunction with input prices. Such a situation is not unprecedented: take the 1970’s as an example. While the 10 years from 1973 to 1982 represent some of the worst inflation in this country’s history, we don’t talk about a 1970’s agricultural crisis because farm prices were mostly keeping pace. In fact, in the face of extraordinary inflation, agricultural conditions encouraged farmer investment and taking on additional debt. The crisis didn’t appear until the 1980’s. As inflation moderated and commodity prices flat-lined, the burden of servicing debt at high interest rates (which were both a result of and the treatment for high inflation) became unsustainable for an industry that was not only highly dependent on short and intermediate term financing but that had also leveraged up to high debt levels. The lessons moving forward in an uncertain economy where both inflation and farm prices are rising together: 1) farm prices are not likely to keep up with broader inflation rates indefinitely, 2) higher interest rates are very likely coming soon, and 3) don’t take on new debt based on the assumption that current conditions will continue.
Irrigation water can be one of the largest expenses associated with rice production, particularly when energy prices are high as in the current production season. Multiple inlet rice irrigation (MIRI) has potential to reduce the cost of applying irrigation water to rice. MIRI uses poly pipe to distribute irrigation water to all rice paddies simultaneously. This differs from conventional cascade flood in which water is applied to the first paddy at the top of the field and then flows over spills to lower paddies until the entire field is flooded. Fields are flooded much faster with MIRI. Based on examples in Arkansas, applied water savings of up to 25 percent are achievable with MIRI relative to cascade flood. Other potential benefits of MIRI relative to cascade flood include reduced irrigation labor and higher rice grain yields. Labor is reduced with MIRI due to less adjustment of levee gates and better management of water depth during the growing season. Yields can be 3 to 5 percent higher under MIRI due to a reduced “cold water” effect at the top of the field (more cold water concentrated at top of field with cascade flood) and improved nitrogen efficiency due to faster flooding of the field.
Figure 1 presents rice irrigation variable costs per acre for both cascade flood and MIRI. Irrigation variable costs include energy, repairs and maintenance, irrigation labor, and for MIRI, the additional cost of poly pipe pick-up and removal. Rice irrigation variable costs are presented for three total dynamic head (TDH) levels (80 ft, 100 ft; 120 ft), and assume 32 acre-inches of water are applied under cascade flood and 24 acre-inches of water are applied under MIRI during the growing season. Both applied water amounts are typical water amounts for cascade flood and MIRI as reported in the Arkansas Rice Production Handbook.
Irrigation variable costs are presented for both diesel and electric power. Irrigation energy costs were calculated based on diesel and electric energy consumption data from McDougal (2015). A diesel price of $3.94/gallon and an electric price of $0.138/kWh were used in the energy cost calculations. The diesel price comes from 2022 Arkansas field crop enterprise budgets, while the electric price represents a median price estimated from electric rate schedules for irrigation from various electric cooperatives located throughout eastern Arkansas. Irrigation labor is charged at $11.33/hour, also from 2022 Arkansas field crop enterprise budgets.
Irrigation variable costs are much lower for electric power than for diesel power (Figure 1). Farmers have switched many of their diesel irrigation motors to electric motors because the cost of electricity has been lower and less variable over time relative to the cost of diesel. Irrigation variable costs are lower for MIRI than for cascade flood at all TDH levels. Lower costs are associated with less applied water and lower irrigation labor under MIRI. Monetary savings from MIRI are greater for diesel power than for electric power because applied water costs are much greater under diesel power than under electric power. Applied water cost for diesel power ranged from $5.35/acre-inch at 80 ft TDH to $8.02/acre-inch at 120 ft TDH. In contrast, applied water cost for electric power ranged from $2.10/acre-inch at 80 ft TDH to $3.15/acre-inch at 120 TDH. Diesel irrigation motors could potentially receive larger monetary payoffs from MIRI than electric irrigation motors on farms. Nonetheless, rice fields supplied with irrigation water by both diesel and electric motors could potentially benefit monetarily from MIRI relative to conventional cascade flood irrigation.
References and Resources
McDougall, W. M. (2015). A Pump Monitoring Approach to Irrigation Pumping Plant Performance Testing. Graduate Theses and Dissertations Retrieved from https://scholarworks.uark.edu/etd/1146
Retaining ownership of calves beyond weaning is a value-added process that provides cow-calf enterprises access to a greater share of the retail dollar. There are costs and benefits to selling at weaning as well as costs and benefits when retaining ownership, each of which must be evaluated on an annual basis. Estimating expected returns is challenging in a normal year, and has been complicated in 2022 by drought, widespread culling, high feed costs, and increasing calf prices. Below is an analysis of the retained ownership decision using today’s market expectations.
We can roughly estimate the expected revenue generated from the sale of a weaned calf today. The average price of a 7-8 weight steer in Joplin, MO the last week of April ran $1.63 per pound, meaning a 750-pound steer calf brought $1,224.38. So the question of retained ownership is how much additional revenue (value-added) over $1,224 can I expect from selling a fed calf, and what is the additional cost associated with the added value.
If we assume a current calf weight of 750 pounds for a 2021 spring-born calf, and an average daily gain (ADG) of 3.5 pounds, we can assume a target harvest date of mid-October at approximately 1,350 pounds. The board price for an October delivery fed steer last week averaged approximately $1.43 per pound. If we locked that price in today, a 1,350-pound steer would generate $1,930.50 in revenue. Compared to selling today at $1,224, retaining ownership would generate an additional $706/head. Now let’s look at the cost of achieving that additional $706.
Cost of Gain (COG) is a function of days on feed, cost of feed, and pounds of feed per pound of gain. It is commonly estimated using corn price, so it is significantly higher this year than in recent years. The increased cost of corn has cost of gain in the neighborhood of $1.20 per pound to $1.50 per pound depending on the feeding location, including an approximate 33% markup for yardage fees, overhead, and miscellaneous expenses. Subtracting COG from the expected value-added ($706.12) leaves the bottom-line Expected Net Revenue change from making the retained ownership decision. The table below shows the expected net revenue impact of retained ownership for various COG estimates ranging from $1.20 to $1.50 per pound of gain.
Given the current COG and relative calf values retaining ownership through the feed yard seems to be a relatively less profitable choice against selling a weaned calf. The market appears to value an additional 600 pounds of gain at a little over $700/hd while the cost of that gain could range from $720 to $900.
