AGRICULTURAL INCOME AND FINANCE -- SUMMARY February 26,2002 February 2002, ERS-AIS-78 Approved by the World Agricultural Outlook Board -------------------------------------------------------------------------------- This SUMMARY is published by the Economic Research Service, U.S. Department of Agriculture, Washington, DC 20036-5831. The complete text of the report will be available electronically about 1 week following this summary release. -------------------------------------------------------------------------------- Demand for Farm Credit Will Moderate, and Farm Lenders Have Adequate Loan Funds Financial institutions serving agriculture continued to experience improved conditions in 2001, and further gains are expected in 2002. Farm financial conditions remain stable because of large government payments to farmers and sizable amounts of off-farm income. Net cash farm income, which measures cash available from sales after paying cash operating costs, was $57.5 billion in 2000 and is expected to be the highest on record at $59.5 billion in 2001. Despite the rosy income picture, continued low prices for many agricultural commodities, weather problems in some regions, and the uncertain status of government payments have generated concerns about farmers ability to service new or existing loans. New legislation is expected in 2002. In the absence of new legislation, under current law, farm lenders will be dealing with a clientele whose net cash income is forecast to decline to $50.9 billion in 2002. Should it occur, the impacts of this decline in income would not be evenly distributed across all U.S. farm operations, with corn, wheat, and other cash grains (barley, oats, and rice); soybean; dairy; and hog operations facing possible lower earnings in 2002. The position of agricultural lenders reflects the generally healthy state of farmers finances in recent years. All major institutional lender groups, including the Farm Service Agency (FSA), the government lender of last resort, continue to experience low levels of delinquencies, foreclosures, net loan charge-offs, and loan restructurings. These aggregate farm lender indicators will remain favorable barring sustained farm financial stress. Total farm business debt at yearend 2001 is estimated at $193 billion, up 4.8 percent. The dollar volume of farm loans outstanding increased for all lender categories, except the FSA. Farm loan volume held by commercial banks and the Farm Credit System (FCS) increased 3 and 12 percent, respectively. Together, commercial banks and the FCS held 69 percent of all farm debt at the end of 2001. Commercial banks have gained market share for 17 of the past 20 years and now hold 41 percent of outstanding farm business debt. FCS market share has increased in 6 of the last 7 years to 28 percent. The expected 2-percent increase in farm business debt in calendar 2002 will be the 10th consecutive increase but reflects declines in the rate of growth of both nonreal estate and real estate loans. The expected increase in total debt of about $3.7 billion during 2002 will follow a 1992-2001 expansion of $53.8 billion or 39 percent. Farm debt at yearend 2001 was $1 billion below its 1984 peak in nominal terms. However, the debt-to-asset ratio in 1984 was 22.6 percent, but is forecast to be 16 percent in 2002. Farm sector equity growth continues, but at a much slower pace than during the 1990s. The 2002 forecast of a moderate increase in debt suggests modest levels of new capital investments financed by debt and a relatively low incidence of farms borrowing their way out of cash-flow problems. Adequate levels of working capital, emergency government support, and off- farm earnings reduce the need for new borrowing. Congress enacted emergency farm assistance legislation five times between October 1998 and August 2001 to increase farm program spending. Annual direct government payments to farmers averaged $22 billion over the last 3 years but are projected at $10.7 billion for 2002 unless further legislation is enacted. This would be comparable with the annual average of $8.8 billion in direct payments farmers received during 1990-1997. These sizable 1998-2001 direct payments are helping sustain farmland values and have helped farmers maintain or improve their balance sheets during a period of low commodity prices. In response to the farm loan portfolio losses they experienced in the early to mid-1980s, many lenders have moved to improve measures of repayment capacity to assess the ability of farmers to handle a given level of debt. In the absence of additional emergency legislation, 21 percent of all commercial and intermediate-sized farm businesses are forecast to have debt repayment problems in 2002, up from 18 percent in 2001. Farmer use of debt repayment capacity is projected to rise to 68 percent in 2002, up from 60 percent in 2001. Large Federal payments contributed to lower use of repayment capacity in 1999-2001. Currently, farmers are not being turned away by lenders because of a lack of loanable funds. But the farm sectors heavy reliance on Federal payments may leave individual farmers who are not being helped susceptible to credit problems. Despite low commodity prices, lenders appear confident about the majority of their farm customers, given the level of anticipated 2002 Federal assistance and the amount of off-farm earnings. Lenders thus will work with most of their customers to restructure debt, if necessary, and provide credit for operating expenses. Annual interest rates on outstanding farm debt dropped about 25 basis points (a basis point is 1/100th of 1 percent) from 2000 to 2001. Interest rates on new farm nonreal estate loans made in the fourth quarter of 2001 declined almost 400 basis points from their fourth-quarter 2000 levels. Over the same period, interest rates on real estate loans declined by over 200 basis points. These large rate declines, not seen since the early 1980s, were partly a result of the 475 basis-point reduction in the federal funds rate target by the Federal Reserve Board over the course of 2001. Unlike the large interest rate reductions in the early 1980s, which came about as inflation declined, the general reduction in rates during 2001 was due to a decrease in real (non-inflationary) factors, such as a slowing economy. Agricultural banks remained very profitable through the middle of 2001. Their annualized rate of return on assets was 1.2 percent, down slightly from 1.3 percent the prior June but matching their strong full-year performance of recent years. At 11.3 percent, return on equity was the lowest since 1991, but this value is still high, and other information suggests that the decline was due to building capital levels rather than reflecting weak profits. Nonperforming loans increased to just 1.1 percent of total loans, from 1.0 percent the prior June, and loan loss provisions were only 0.3 percent of total loans. These results indicate that several years of problems in the farm sector have not seriously affected farm bank loan portfolios. No agricultural bank failed in 2001, and only five failed between 1994 and 2000. The financial condition of the FCS remains solid as it enters 2002. Loan volume and at-risk capital continue to grow. Income is fueled by strong portfolio quality, loan growth, and the reduced taxation of income from interest on real estate loans originated by Agricultural Credit Associations through Federal Land Credit Association subsidiaries. Loan portfolio growth is related to fairly even growth in shorter and longer term loans to farmers and from the purchase of participations in FCS eligible loans originated by other lenders, including commercial banks. Portfolio quality remains strong with nonaccrual plus accrual loans more than 90 days overdue accounting for just over 1 percent of total loans as of September 30, 2001. Net interest margins have benefited from the overall fall in interest rates during the past year, allowing FCS lenders to generate enough retained earnings to keep their capital positions strong. FSA presence in farm credit markets declined in 2001. FSAs direct and guaranteed loan programs now account for only 8.5 percent of total farm debt compared with 15.8 percent 10 years earlier. Outstanding guaranteed farm loan volume fell for the first time in 20 years due to weaker demand and better repayments. Farm loan obligations (direct and guaranteed) fell from $3.7 billion in fiscal 2000 to $3.2 billion in fiscal 2001. Loan quality continued to improve for both the direct and guaranteed loan programs. Despite the decline in new lending, FSA continued to increase its lending to beginning and socially disadvantaged borrowers during the year. Also, FSA farm borrowers were benefitting from historically low farm loan interest rates in 2001 and 2002. Direct operating loans in early 2002 were being made at 4.75 percent, the lowest in at least 25 years. Guaranteed operating loans with 4-percent interest rate assistance are being made at even lower rates by participating lenders. Farmer Mac reported record purchase and guarantee volume of $1.5 billion in 2001. The large increase in new volume pushed outstanding volume over the $4 billion mark. Much of the increase in new lending came from the guarantee of FCS loans. The quality of Farmer Mac loans weakened slightly during 2001, and the government-sponsored enterprise faces new risk-based capital standards starting in the spring of 2002. Subscribe to ERS e-mail notification service at http://www.ers.usda.gov/updates to receive timely notification of publication availability. Printed copies can be purchased from the USDA Order Desk by calling 1-800-999-6779 (specify SUB-AIS-4038). Outside the United States, please call 1-703-605-6220. END_OF_FILE