Fed's Waller warns farmers to brace for long-term higher rates

Economic relief might be coming for American farmers, but not on the monetary policy front, Federal Reserve Board Gov. Christopher Waller said Wednesday.

During a speech at an agribusiness conference hosted by Arkansas State University, Waller said he expects personal consumption and price growth trends to benefit agriculture this year. But, he noted, the sector will have to deal with elevated interest rates in borrowing for "some time."

The assessment follows a message the Fed has been signaling for months, that once interest rates are high enough to reduce consumer demand for goods and services, they will likely stay that way for an extended period.

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The projection does not bode well for farmers who rely on credit lines and other loans to cover their expenses between harvests. Waller acknowledged this dynamic but reassured the audience that the Fed's rate hikes will pay dividends for the economy in the long run.

"Of course, we know that higher interest rates pose challenges for farmers and ranchers who must borrow to smooth out the costs and returns from agriculture over the year," Waller said. "But, excessive inflation is a larger challenge because it has the potential to become a lasting problem weighing on economic growth, undermining living standards, and hurting consumers, who farmers depend on."

In his speech, Waller noted that after rising sharply during 2020 and 2021, consumer spending on groceries fell in 2022. He attributed this trend to people returning to restaurants and an overall drop in food spending driven by inflation, which he expected to normalize in the year ahead. 

"Looking forward, I expect personal consumption will grow modestly and price increases will moderate, and I think such outcomes would bode well for the agricultural sector this year," Waller said. "It looks as though economic activity may be moderating further in the first quarter of 2023, but I expect the U.S. economy to continue growing at a modest pace this year, supported by a strong labor market and by encouraging progress in lowering inflation."

One way in which the Fed's primary tool for lowering inflation — raising interest rates — affects farmers is through commodity prices. When rates were at their lower bound during the early stages of the pandemic, commodity prices soared. Waller pointed to soy and cattle prices as being particularly elevated. 

Farmers capitalized on those higher commodity prices by paying down outstanding debts, according to data analyzed by the University of Wisconsin. Agriculture loans at agriculture banks fell by more than 3% in 2020 and more than 2% in 2021.

Despite the Fed's tightening of monetary policy — it raised rates by 4.25 percentage points last year and an additional 25 basis points this month — many commodity prices remain high.

"Spot prices for cattle and soybeans are well above their levels at the onset of the pandemic, likely boosted by the sharply rising input costs farmers have been facing," Waller said, singling out the price of fertilizer, which was up more than 50% year over year at one point in 2022. 

Waller also noted that overall food prices have continued to rise at a rate of 10% year over year, according to the personal consumption expenditures, or PCE, price index, the Fed's go-to measure of inflation.

While higher interest rates have not depressed commodity prices or food costs, they have affected farm banking in other ways.

Farm lending has increased sharply since the second half of 2021, according to a December report from the Federal Reserve Bank of Kansas City — the Fed's leading research arm on the agriculture sector. In particular, real estate loans to farmers increased by 10% from the third quarter of 2021 to the third quarter of 2022, a trend driven by rising cropland values throughout the country. Meanwhile other forms of farm lending increased by 4% over the same period. 

Amid this return to borrowing by farmers, rising interest rates have been a boon to their lenders, which have increased profits on higher lending margins, according to the Kansas City Fed. 

Agriculture banks have also enjoyed falling delinquency rates among their borrowers, with 80% of the banks tracked by the Kansas City Fed reporting delinquency rates of 1% or less and more than 90% reporting a delinquency rate of 3% or less.

However, the Kansas City Fed noted higher costs, commodity price uncertainty and ongoing droughts as potential risk factors for farmers and their lenders in the year ahead. Also, many agricultural banks have experienced an uptick in unrealized losses on their balance sheets, according to the reserve bank. In aggregate, farm lenders saw a 35% decline in equity capital last year, largely due to depreciation of investment securities.

For farmers and their lenders, the Fed's effort to curb inflation is a double-edged sword, but Waller argued that the hardships created by rising rates are outweighed by the benefits of stabilizing prices. 

"We are seeing that effort begin to pay off, but we have farther to go," he said. "It might be a long fight, with interest rates higher for longer than some are currently expecting, but I will not hesitate to do what is needed to get my job done."