Overview

Great financial times, but more uncertainty seems to be hallmarks for 2008. Agriculture is experiencing the best times since the 1970s. It’s finally a boom for Indiana farmers and agribusinesses. Farm incomes are up. Landowner equity is way up due to a 17% increase in land values. Most farm families are in the strongest financial position in 50 years. Better crop prices are being driven by a worldwide surge in the use of grains and oilseeds for biofuels that has eliminated grain surpluses. Furthermore, world economic growth has been robust and is spurring added food demand, and a reduced value of the U.S. dollar is making the U.S. a haven for the world’s food buyers.

High crop margins and farm incomes mean strong demand for inputs. Input prices will rise sharply in 2008 raising crop input costs. Cash rents (that were not adjusted in line with the crop price jump in the fall of 2006) are expected to increase by 15% or more. Higher input costs and rents may reduce potential margins. Added to cost of production concern, volatile crop prices and little government safety net at the current higher price regime means crop margins may have both—high return potential but will also expose producers’ margins to downturns.  That’s the high-risk business environment agriculture will experience in 2008. (A longer version of the

Ag Outlook for 2008 is online at: http://www.agecon.purdue.edu/ extension/prices/index.asp.

If paper copy is desired call: 1-888-398-4636, Ext. 44216).

Economy Slowing, But Not Stalling

Larry DeBoer

The U.S. economy is completing its sixth straight year of expansion. But it experienced its slowest growth since £003. The strengths in the coming year are based on strong world eco- nomic growth and a weak U.S. dollar that will stimulate exports. The housing sector will be a negative. The concern is whether the problems in housing will spread to other investment spending, and to consumers. Will the decline in housing wealth reduce consumer spending? Expect KDP to rise £.6% above inflation. The unemployment rate probably will increase, perhaps to 4.9% by July 2008. Core inflation may continue to moderate, but expect an increase in oil and food prices. The inflation rate should remain near 2.5% over the next twelve months.

Perhaps the Fed will cut interest rates a quarter-point or two in coming months. Expect the interest rate on 3-month Treasury bills to be about 4.2% by this time next year. The spread between long-term and short-term rates will increase. Expect the 10-year Treasury bond interest rate to be around 5.0% by this time next year.

Odds of a recession may be one in five. The economy should grow slowly, but it’s unlikely to stall.

2007 Agricultural Trade Reflects Strong World Demand

Philip Abbott

USDA’s most recent trade fore- cast predicts another record year for fiscal 2007 for U.S. agricultural exports, at $79 billion. Agricultural imports continue their rapid growth as well, and a record at $70.5 billion is foreseen. While import growth is expected to exceed a 10% annual growth rate, higher prices for grains and oilseeds have led the even more rapid advance in exports providing an agricultural trade surplus of $8.5 billion.

Poor weather in Australia, Europe and Canada is dramatically affecting the recent wheat export value. Export values are because of higher prices due to biofuels demand around the globe, strong world economic growth, and a very weak dollar. Until recently, both export and import expansions were led by higher value product trade, such as meats, and horticultural products in the case of imports. Over two-thirds of the current export expansion is from greater grains and oilseeds export values.

A high U.S. trade deficit, at 6.25% of GDP, continues to fuel expectations for a weak dollar in the longer term. A weak dollar means grain and oilseed prices don’t seem as high elsewhere. Thus, agricultural exports have not reduced substantially in the face of higher prices. If foreign markets are slow to reduce their purchases in the face of high prices, this may mean more adjustment in crop usage will have to occur in the U.S. or that crop prices will have to move even higher.

New Farm Bill on Deadline

Allan Gray

On July 27th the House of Representative passed its version which in many ways resembles the 2002 Farm Bill particularly in the commodity title. The three-tiered system of support provided to commodity producers that includes direct payments, counter-cyclical payments, and marketing loans remains largely unchanged. There is an option for producers to choose between the counter-cyclical payment system used over the past five-years; with increases in target prices for wheat and soybeans; or a new counter-cyclical system that is based on changes in national revenue targets which incorporates changes in yields and prices to determine the amount of support the producer would receive. In addition, it would eliminate the three-entity rule used for determining payment limitations while making both the operator and the spouse eligible for a payment limit.

There would no longer be a payment limit for marketing loan gains or loan deficiency payments and the payment limit for direct payments would be increased from $40,000 to $60,000 per person. In addition, anyone making more than $1,000,000 in adjusted gross income would no longer be eligible for government support payments; the limit would be $500,000 if less than F5% of the person’s income comes from farming.

The House version of the Bill also makes some changes in the conservation title—maintaining the Conservation Reserve Program (CRP) and Wetlands Reserve Program (WRP) while modestly increasing funding for the Grasslands Reserve Program (GRP). Funding for the Environmental Quality Incentive Program (EQIP) would see modest increases funding while reserving 60%

of the funds for livestock operations. It also contains provisions to allow no new contracts under the Conservation Security Program (CSP) and instructs USDA to devise a new CSP to be implemented in 2012; essentially eliminating this program  from the 2007 Farm Bill.

Finally, the House version contains provisions for increasing spending for Fruit, Nut, Vegetable and Vine producers and biofuels. The Bill increases funding for fruits and vegetables in school lunch programs and increases spending on research and market promotion for fruits and vegetable. Funding is provided for loan guarantees, grants, and feedstock subsidies for cellulosic ethanol and biodiesel.

By October, the Senate has made little progress on a version of the 2007 Farm Bill. If the politics get too contentious, Congress could extend the 2002 Farm Bill for one or two years.

Food Price Inflation Perks Up

Corinne Alexander

For 2007 and 2008 food price increases for all food on average are expected to be in the 3.5% to 4.5% range. Food prices rose 4.2% from August 2006 to August 2007, well above the 1997-2006 average annual food and beverage retail price increase of 2.5%.

Price increases are due in large part to: tightened supplies of eggs, chicken and beef in response to increased feed costs; strong demand for food products; higher energy costs and a strong world demand for food. World demand is spiked by: the reduction in supplies of grain and oilseeds for food; strong world economic growth; a weak U.€. dollar which moderates prices of U.S. Ag exports and adverse weather. The rapid increase in biofuel production is just one of the contributing factors for high food prices.

Milk Prices Record High

Mike Schutz

The US All Milk price reached an all-time record of $21.70 for both July and August. Though

milk supply responds to increased profits; but strong demand should prevent a dramatic drop in prices well into 2008. Expect milk prices to remain over $18.00 for the rest of 2007 and above $15.50 through the first half of 2008, strong prices, historically.

Higher feed costs may have had some impact in holding back production per cow, feed costs contribution to higher milk prices paled in comparison to the effects of an increasing demand for dairy products. Global demand for U.€. dairy proteins (e.g., whey powder and nonfat dry milk) has been especially strong in 2007 reflecting reduced supplies of milk and whey powder from Europe and Australia and a weaker US dollar.

The U.S. supply of milk is expected to respond to the increased milk prices. Expect

a 2.6% increase in milk production for 2008.  Currently, increases in production have been slowed due to: forage availability especially in the Eastern Corn Belt and Upper-Midwest; evolving milk handler and retailer attitudes about use of Posilac™ in dairy herds and extreme summer heat over a wide swath of the US.

If and when consumer demand weakens for milk, small stocks of butter and cheese

will allow the industry to easily divert lost fluid milk sales to manufactured products.

In Indiana, construction continues for ConAgra’s ReddiWip” production in Indianapolis and the Nestlé’s plant in Anderson. Both should modestly increase demand for milk and cream locally, possibly providing small price increments for regional dairy producers.

Beef Cattle Industry Seeing the Green $

Chris Hurt

Reduced beef supplies mean cattle producers should expect a record price year in 2007 and again in 2008. Choice Nebraska steers averaged $85.40 in 2006, but are expected to reach a record $91 this year. For next year prices should set a new record, perhaps around $93 per hundredweight.

The size of the nation’s breeding herd dropped slightly in the mid-year update to 32.9 million head. Cow-calf producers have shown little interest in expansion and brood cow numbers remain near their cycle lows since 2004. Beef heifer retention was also down 6% at mid-year — females slaughtered rather than increasing breeding herds.

Nearly stable beef production in combination with growing exports and a growing U.S. population mean that the supplies of beef available per person will decline in 2007 and 2008. Per capita supplies will drop by 1% in 2007 and are expected to drop by an additional 2% in 2008.

Record high finished cattle prices and a large corn crop are expected to contribute to very strong calf prices this fall as well. Kentucky steer calf prices are expected to average in the $105 to $120 range this fall—stronger than the final quarter of 2006 when 500-550 pound Kentucky steer calves averaged $106/cwt.

Profits for cow-calf producers look bright. The industry is at the low point in the production cycle, there is little interest in expansion, exports are now growing, there is a large

corn crop this fall, and massive increases in distiller’s grains will increase feed supplies. On the downside forage crops and pastures have been ravished in some areas and an uneasy U.S. economy could loom as threats.

Hog Margins Squeezed by Feed Costs

Chris Hurt

Pork production is moving upward by 3% in 2007 and about 2% in 2008. Thus, per capita supplies are expected to increase by 2% in 2007 and again by about 1% in 2008. As a result, hog prices are expected to ease modestly in 2008.

Barrow and gilt yearly average prices have been surprisingly stable since 2005 ranging between $47 and $50 liveweight. For 2007, prices are expected to average about $49, perhaps $48 in 2008 due to higher per capita supplies.

While yearly average hog prices have been in a narrow range, costs of production have been more volatile with unstable feed prices. Costs of production was near $40 per live hundredweight in 2006, but rose to near $47 in 2007 and are expected to rise further to near $49 in 2008. Higher feed prices have largely eliminated profit margins.

Hog prices this fall and winter are expected to average in the $42 to $45 range then move back toward the $48 to $52 level for averages next spring and summer. With costs of production moving upward to the very high $40s – pork producers may operate at losses this fall and winter, but at near breakeven next spring and summer. Financial losses may stimulate some modest cuts in the breeding herd.

Huge National Corn Crop

Chris Hurt

In 2007, producers responded with 19% more corn acres. USDA’s October estimates the nation’s corn crop at a record 13.3 billion bushels based on 154.7 bushels per acre. Yields were about 3 bushels above trend with a total crop that is 2.8 billion above last year. Indiana yields were estimated at 158 bushels per acre — ranging from 135 bushel in east central to 171 bushels in the west central and northwest sections of Indiana.

Record usage due to the huge growth in ethanol production is expected in the 2007/08 marketing year. Total usage will grow to 12.6 billion bushels with ethanol use expanding

to 3.2 billion, or 25% of total usage and exports at 2.35 billion bushels due to tight world stocks. U.S. corn stocks are expected to increase to 2.0 billion bushels with an average U.S. price of

$3.20/bu. received by farmers.

Ethanol producer margins are expected to narrow and reach breakevens or even losses. This will likely slow down some plant construction and may result in fewer bushels moving into ethanol use. How much ethanol plants can pay for corn appears to be a factor that may limit corn’s upside price potential. Prices above $3.50 may result in some ethanol plants running at less than capacity.

Corn prices for Indiana producers are expected to average about $3.30 per bushel in the coming year. Seasonal price increases are anticipated with prospects for corn prices to reach $3.60 to $3.90 late in the storage season. Gross storage returns may be around 60 to 70 cents per bushel. Returns to on-farm storage space after deducting interest costs are expected to be 45 to 55 cents per bushel for storage into late-spring or early-summer of 2008.

Soybeans Supplies Shift From Surplus to Short

Chris Hurt

The 15% drop in national soybean acreage and average yields of 41.4 bushels per acre will result in a crop of only 2.6 billion  bushels or 19% below last year. The large reduction in production means that soybeans will move from record surplus inventories of 573 million bushels as of September 1, 2007 to tight supplies by next spring and summer. Expected ending stocks for the 2007/08 marketing year are only 215 million bushels, the tightest since the 2003/04 marketing year. For Indiana, USDA reports a disappointing average yield of 43 bushels per acre.

Domestic crush is expected to remain high as the use of soy meal remains strong and the use of soy oil for biodiesel continues to grow. U.S. exports will have to be reduced by about 13%. World market must rely more heavily on South America where soybean acreage is expected to rise by 4% with production up by 2%.

Large, fall soybean stocks have depressed the basis, but basis should improve by 40 to 50 cents as stock surpluses turn to a shortage by next spring and summer. The new Louis Dreyfus crushing facility in Kosciusko County will increase soybean demand and providing basis gains for central and northern sections of Indiana.

Indiana soybean prices may average $8.50 to $9.50 this marketing year. On-farm storage returns after interest is deducted may provide 55 to 65 cents of return per bushel

for the grain bin and the producer’s time. Returns above interest and storage charges are expected for commercial storage. Some storage charges may be high enough to eliminate a positive storage return.

Strong export sales could mean soybeans would follow a pattern similar to wheat where foreign buyers have not slowed purchases even in the face of record high wheat prices. If the same “buy at any price” attitude were to develop in soy- beans, or if South American weather becomes threatening to their crop, then soybeans could be in for a more bullish upward pattern.

Soybean acreage could grow by 8% to 10%. Nevertheless, some £008 crop futures could exceed $10 per bushel.

Wheat: Record Prices Mean Wheat/Double Crop Beans

Chris Hurt

U.S and world 2008 wheat inventories will be low due to poor yields in Australia,

Canada, portions of Europe and below normal yields in the U.S. Tight stocks mean record high wheat prices. Wheat supplies have tightened and its price moved sharply above corn such that wheat is no longer a partial feed grain, but priced only as a food grain.

Wheat prices in Indiana were $5.00 to $5.50 around harvest, but moved upward to well over

$8.00 per bushels. Strong world economic growth rates and the weak value of the U.S. dollar keep wheat buyers coming back to the U.€. This is reflected in extremely strong export sales.

Most Indiana producers sell wheat at or near harvest. For those still with wheat in storage should look to December to sell — a favorable pricing time, historically.

U.S. average prices of wheat for 2007/08 are expected to reach a record $6.00 to $6.50 per bushel. Worldwide acreage is expected to increase for next year’s crop and assuming normal yields, wheat prices are expected to move lower and average closer to $5.75 to $6.25 per bushel.

Budgets for 2008 suggest that producers in the southern one-third of the state who can effectively produce wheat and then double crop soybeans should strongly consider this crop mix. Projected returns are currently $60 to $100 per acre higher than single crop corn or soybeans for that part of the state.

Crop Input Costs Swell for 2008

Alan Miller

Prices of several important crop inputs are expected to increase in 2008 as farm incomes rise.

But changes in crop acres and production practices will also strain the supply of some inputs. There is a lot of uncertainty about to what extent optimism will translate into additional product sales and higher prices. With uncertainty comes price volatility, so farmers will really have to stay on top of their purchasing management for 2008 and are advised to line up supplies early.

Purdue’s cost estimate for 2008 are rising more than would be indicated by higher input prices, as they reflect changes taking place in crop production practices in Indiana. Purdue’s 2008 “Crop Cost and Return Guide” is available at: http://www.agecon.purdue.edu/extension/pubs/ID166_£008.pdf. In particular, Purdue’s cost estimates for 2008 reflect the recent rapid adoption of biotech corn seed by Indiana farmers and changes recommended by Purdue’s Extension Crop Production Specialists including adopting a regional approach for determining the economically optimal amount of nitrogen fertilizer to apply. These adjustments, as well as rising input prices, contributed to significantly higher estimates of the variable costs per acre for producing corn, soybeans and wheat in 2008 relative to 2007.

Fertilizer costs will increase from 4% to 20% in 2008 as compared to prices reported by the USDA for April 2007. Price increases will vary with the type of product. Natural gas prices

are expected to average 9% higher in 2008 than in 2007, which will tend to prop up ammonia prices and other N fertilizer prices.

Chemical prices are forecast to creep up by 2% to 6% in 2008. Prices for many seed varieties are expected to increase significantly. This is particularly true for corn varieties carrying biotech traits. News from the seed industry suggests that seed prices will increase from 15% to 25% overall for 2008. Increased technology fees, higher crop production costs, and the high cost of research and development are among the factors contributing to higher seed costs. Wheat seed prices appeared to be up around 30% to 35% this fall.

Diesel fuel prices are likely to average around 5% higher in 2008 than in 2007, with crude oil up about 7%.

Crop insurance premiums followed crop prices higher in the spring of 2007 and will likely remain at the relatively higher level in 2008. The average net premium paid across all insured corn acres in Indiana and across all product types was $22.88 per acre according to information

from the U€DA Risk Management Agency. The average net premium paid for soybeans was $11.31 per acre across all product types. The Revenue Assurance  (RA) and Crop Revenue Coverage (CRC) products insured about 58% of Indiana’s 4.£ million insured corn acres. Group Risk Income Protection (GRIP) insured about 28% of the corn acreage. RA and CRC insured about 54 percent of the insured soybeans and GRIP insured about 24%. Current corn and soybean prices would likely indicate comparable premiums for corn in 2008 but higher premiums for soybeans.

Demand for new farm machinery is forecast to remain strong. As a result farm machinery prices are expected to rise at least 5% to 6%. Farm wage rates are expected to increase 4% to 5%.

Rethinking 2008 Land Leases

Luc Valentin

Higher crop prices and rising variable costs impact margins and rent that can be paid in opposite directions. Producers must also consider farm machinery and labor costs when determining their ability to pay rent. However, there is little doubt that farmland leases and particular cash rents will be renegotiated to a higher level despite the usual uncertainty in the farm economy.

Understanding and sharing returns and risks should be the focus of landlords and ten- ants. The higher the expected return, the higher the risk for the tenant/producer.

A cash rent agreement may provide the lowest expected return to the landlord,  but also the lowest risk level. A crop share lease may have the highest expected return and the highest risk — though a few landlords may take even more risk and settle for a custom farming agreement.

Between these extremes is a flexible lease where the landlord accepts price and/or yield risk in search of a better return for the land.

For the tenant the situation is opposite. The less risky situation is the share rent agreement where the risks are split between tenant and landlord. It may also have the lowest potential income. With cash rent, the tenant bears all the risks, but may also have higher returns over a period of time.

The acceptable agreement may be a flexible cash lease. Amended rules for farm bill payments indicate that if the flexible component in the lease is not based on the land to be leased the landlord will not be held to be a “producer” for farm bill payment purposes. If in doubt about a flexible cash lease, it may be advisable to have the local FSA Office review the flexible terms in the lease. The “flexible lease rule” regarding farm bill payments is in Notice DCP-172 available online at: http://www.fsa.usda. gov/Internet/FSA_Notice/ dcp_172.pdf. Lastly, look for the web-based tool dealing with evaluating lease alternatives online at the Purdue Ag Econ web site at: http://www.agecon. purdue.edu/extension/

 

Land Prices and Rents Expected to Move Higher

Craig Dobbins

The June 2007 Purdue Land Value and Cash Rent Survey found that Indiana farmland values and cash rents moved sharply upward. Cash rent for average quality farmland increased by 9.4% to a value of $139 per acre. Average farmland in Indiana increased 16.6% to a value of $3,688 per acre both compared to one-year earlier.

In addition to indicating larger margins, projected crop budgets also indicate that the variability in this margin is also much greater. A University of Illinois study indicates that for the tenant to have the same chance of a return the tenant’s risk premium in this new environment needs to be more than twice as large as the risk premium in the period from 2001 to 2005.

Cash rents for 2008 are expected to move higher. Budget projections indicate rent increases of 10% to 25% could occur since many rents were set before the sharp rise in crop prices last fall. These cash rents may need “catching up”. For those cash rents that were adjusted last year, or for areas hit hard by dry weather this summer, the changes will be lower. In this environment,

it is important budget individual situations and to develop a risk management plan.

Rising farmland values are likely to continue upward by 5% to 15% for 2008 due to:

• Expectation of improved crop returns

• A limited supply of farmland on the market,

• An increased demand from farmer and others wanting to invest in farmland

• Modest long-term interest rates and

• A strong liquidity position of buyers.

The negative side of the land market includes uneasiness in financial markets that could push long-term interest rates higher and the supply of land may be up as some owners may think it is time to sell, but for now, there are more buyers than sellers.

Finance and Agribusiness Outlook

Mike Boehlje and Chris Hurt

The financial performance of farm and agribusiness firms has been very strong in 2007. The Indiana farm sector is in the midst of a boom in their financial wellbeing as well. Indiana farm income was $1.5 billion in 2006, about 25% higher than the yearly average for the previous ten years. Purdue estimates for 2007 are for farm income to reach $2.2 billion or an additional 45% above 2006. In addition, these strong farm incomes are not expected to fade in 2008 and to thus remain near $2.2 billion.

Higher incomes are only one measure of the improving Indiana farm financial situation.  Another is increasing levels of financial equity. In 2007, the equity position of Indiana farms improved by an estimated $8.3 billion. Thus, the equity increase in 2007 was the equivalent of about 7 years of average income ($8.3 billion divided by $1.2 billion average annual income for the previous ten years). The large increase in equity is mostly driven by 17% higher  land values in 2007.

Can these good fortunes continue for Indiana’s farms and agribusinesses? What are the risks? Perhaps the greatest immediate risk is margin reduction in 2008 due to higher input costs and rising cash rents. But, prices for commodities could move upward given low world stocks.

In general, the business climate and financial outlook for the farm and agribusiness sector is very favorable for the next 1-2 years. But be cautious as both cash costs and price variability increase in the future.

Producers are encouraged to focus on “margin management” implying careful consideration of costs and revenues. Price inputs and crops with a view to locking in margins. Crop and/or income insurance will be a critical tool in protecting margins. Constant evaluation of margin levels and the risks to margins is required. Managers should develop trigger points when margins are jeopardized and a plan to deal with the margin threats.

Conservatism and diversification are also advised. Conservatism means not taking major positions based on a “hoped for outcome”. Diversification keeps producers and agribusiness managers from having too many financial eggs in one basket. The objective is to increase the odds of survival by managing downside risks while still leaving an acceptable amount of opportunity in place for favorable outcomes.