The Outlook for the Swine Industry and Its Relationship with the Global Economy Allen D. Leman Swine Conference September 19, 2011 Brian C. Briggeman Associate Professor and Director of the Arthur Capper Cooperative Center
How will agriculture and the swine industry fare in today s economic climate? Through the recession and financial crisis of 2008-2009, most of agriculture held up quite well. Rural economies benefited, but slumping demand curtailed livestock profits The U.S. and global economy are recovering from a steep contraction in growth. Still, there are plenty of questions surrounding the sustainability of future growth. To address the question above, ten opportunities and corresponding challenges are identified.
Opportunities and Challenges for Agriculture Opportunities Challenges 1) Economy is recovering 1) Recovery is anemic
Soft data has curbed growth and dampened forecasts 6 5 4 3 2 1 0-1 -2-3 -4-5 -6-7 -8-9 -10 Actual Advance Estimate Real GDP Growth Annualized percent change from previous quarter 2007:Q4 2008:Q2 2008:Q4 2009:Q2 2009:Q4 2010:Q2 2010:Q4 2011:Q2 2011:Q4 2012:Q2 Source: Bureau of Economic Analysis and Wall Street Journal July and August 2011 Forecast Survey (Average) WSJ Forecast (July) WSJ Forecast (August) 6 5 4 3 2 1 0-1 -2-3 -4-5 -6-7 -8-9 -10
Consumption growth is key for the economic recovery in the U.S. Percent change from year ago 10 8 6 4 2 0-2 Personal Consumption Expenditures -4 Jan-90 Jan-93 Jan-96 Jan-99 Jan-02 Jan-05 Jan-08 Jan-11 Source: Bureau of Economic Analysis Recession (gray bar) 10 8 6 4 2 0
Opportunities and Challenges for Agriculture Opportunities 1) Economy is recovering 2) Food expenditures are rising Challenges 1) Recovery is anemic 2) Elevated unemployment rate
Jan-07 Mar-07 May-07 Jul-07 Sep-07 Nov-07 Jan-08 Mar-08 May-08 Jul-08 Sep-08 Nov-08 Jan-09 Mar-09 May-09 Jul-09 Sep-09 Nov-09 Jan-10 Mar-10 May-10 Jul-10 Sep-10 Nov-10 Jan-11 Mar-11 May-11 After slumping in 2008-2009, food sales have rebounded. Percent change from year ago 8 Food Retail Sales 6 4 2 0-2 -4 Source: U.S. Census Bureau Grocery Store Sales Restaurant Sales
An elevated unemployment rate weighs on consumption. Percent 12 10 8 U.S. Unemployment Rate Recessions Indicated by gray bars 6 4 2 0 Jan-69 Jan-73 Jan-77 Jan-81 Jan-85 Jan-89 Jan-93 Jan-97 Jan-01 Jan-05 Jan-09 Source: Bureau of Labor Statistics
Opportunities and Challenges for Agriculture Opportunities 1) Economy is recovering 2) Food expenditures are rising 3) Business and financial markets have improved Challenges 1) Recovery is anemic 2) Elevated unemployment rate 3) Uncertainty abounds
1999:Q1 1999:Q3 2000:Q1 2000:Q3 2001:Q1 2001:Q3 2002:Q1 2002:Q3 2003:Q1 2003:Q3 2004:Q1 2004:Q3 2005:Q1 2005:Q3 2006:Q1 2006:Q3 2007:Q1 2007:Q3 2008:Q1 2008:Q3 2009:Q1 2009:Q3 2010:Q1 2010:Q3 2011:Q1 Since 2008, business investment has improved, but will it continue? Percent change from year ago 0.2 0.15 0.1 0.05 0-0.05-0.1-0.15-0.2-0.25-0.3 Nonresidential Private Fixed Investment Source: U.S. Census Bureau Private fixed investment in structures Private fixed investment in equipment and software
Jan-92 Sep-92 May-93 Jan-94 Sep-94 May-95 Jan-96 Sep-96 May-97 Jan-98 Sep-98 May-99 Jan-00 Sep-00 May-01 Jan-02 Sep-02 May-03 Jan-04 Sep-04 May-05 Jan-06 Sep-06 May-07 Jan-08 Sep-08 May-09 Jan-10 Sep-10 May-11 Since the financial crisis of 2008, financial stress has eased considerably. 6 Financial Stress Index (FRBKC) 4 2 Above zero: Financial market stress exceeds the long run average 0-2 -4-6 Below zero: Financial market stress is below the long run average Source: Federal Reserve Bank of Kansas City
1990:Q1 1990:Q4 1991:Q3 1992:Q2 1993:Q1 1993:Q4 1994:Q3 1995:Q2 1996:Q1 1996:Q4 1997:Q3 1998:Q2 1999:Q1 1999:Q4 2000:Q3 2001:Q2 2002:Q1 2002:Q4 2003:Q3 In general, uncertainty hinders household and business decision making. According to economic theory, uncertainty will cause households and firms to take a wait-and-see approach when making decisions. In a number of articles, Nicholas Bloom supports theory through empirical findings. Unemployment rate following 9/11/2001 U.S. Unemployment Rate 8.0 7.0 6.0 5.0 4.0 3.0 2.0 1.0 0.0 Actual Unemployment Rate 9/11/2001 Event date Source: Bureau of Labor and Statistics, Survey of Professional Forecasters Forecasted Unemployment Rate on August 23, 2001
Opportunities and Challenges for Agriculture Opportunities 1) Economy is recovering 2) Food expenditures are rising 3) Business and financial markets have improved 4) Low cost of borrowing Challenges 1) Recovery is anemic 2) Elevated unemployment rate 3) Uncertainty abounds 4) Inflation risk
With interest rates at historically low levels, bank liquidity has surged. To stimulate the economy, the Federal Open Market Committee (FOMC) dropped the Fed funds rate to the zero bound and pumped liquidity into the market (QE and QE2). Percent 8 6 Fed Funds Rate and Excess Reserves Upper Bound of Intended Federal Funds Rate (Left Axis) Billion Dollars 2,000 1,500 With low interest rates, large amounts of liquidity and limited to no borrowing activity, excess reserves of depository institutions held at the Fed surged. 4 2 0 Excess Reserves of Depository Institutions (Right Axis) 1,000 500 0 Could this set the stage for a rapid rise in future inflation? Source: Federal Reserve Board of Governors
To understand the current environment for inflation, it is helpful to pull a page from Econ 101. A rapid rise in inflation occurs when too much money is chasing too few goods. Quantity Theory of Money Price = Money Velocity Quantity of Goods = M V Q So, for rapid price inflation: M V Q
Today, headline and core inflation remain well below levels experienced during the 1970s and 1980s. Personal Consumption Expenditures Price Index Percent change from previous year 14 PCE Price Index (Headline) 12 PCE Price Index excluding food and energy (Core) 10 8 6 4 2 0 14 12 10 8 6 4 2 0-2 Jan-71 Feb-75 Mar-79 Jun-83 Source: Bureau of Economic Analysis Jul-87 Aug-91 Sep-95 Oct-99 Nov-03 Dec-07-2
Why is inflation low? Velocity has plummeted. One way to measure velocity is by calculating the ratio of gross domestic product (GDP) to money (M2). This ratio is essentially a turnover ratio of how quickly money is turned into output. Today, velocity is very low. So, what will it take to raise velocity, and when might this happen? 2.50 2.25 2.00 1.75 U.S. Velocity of Money Recessions indicated by gray bars GDP/M2 (right axis) 1.50 1970 1976 1983 1990 1997 2003 2010 Source: BEA and Federal Reserve Board of Governors 2.50 2.25 2.00 1.75 1.50
Opportunities and Challenges for Agriculture Opportunities 1) Economy is recovering 2) Food expenditures are rising 3) Business and financial markets have improved 4) Low cost of borrowing 5) Farm income is very positive Challenges 1) Recovery is anemic 2) Elevated unemployment rate 3) Uncertainty abounds 4) Inflation risk 5) Will expected profits falter?
Net farm income is subject to booms and busts. 2005 Constant Dollars (Billions) 140 World War II 120 100 80 Real U.S. Net Farm Income Exports Jump Russian Grain Deal Protein Demand Surges with Atkins Diet Ethanol and Exports 60 40 20 0 1929 1935 1941 1947 1953 1959 1965 1971 1977 1983 1989 1995 2001 2007 Source: USDA
Opportunities and Challenges for Agriculture Opportunities 6) Agricultural exports have surged Challenges 6) Risks facing global growth
Agricultural exports have surged led by Asia. Real U.S. Agricultural Exports 2010 Constant Dollars (Billions) 2010 Constant Dollars (Billions) 16 7 14 World Total (Left Scale) Asia (Right Scale) 6 12 Linear (World Trend (World Total (Left Total) Scale)) 5 10 4 8 6 3 4 2 2 1 0 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 0 Source: USDA
1960 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Will China s exponential income growth continue? 2000 Constant U.S. Dollars 3,000 2,500 China s Per Capita Gross Domestic Product 2,000 1,500 1,000 500 0 Source: World Bank
What happens if the Chinese economy slows? Since dipping into negative territory in 2009, China s inflation rate has surged to over 6%. To cool rising inflation and very rapid growth, China s central bank has: raised the one-year deposit interest rate from 2 to 3.5 percent raised reserve requirements for Chinese banks China s substantial growth has been led by a robust real estate sector. Some economists and investors fear this growth has led to a bubble.
Another risk to the global economy is the Eurozone sovereign debt crisis. Percent 25 Spread between Ten Year Government Bond and German Bund 20 15 10 5 0 Greece Ireland Portugal Spain Italy United States Source: Thomson Reuters 2-Aug-10 2-Aug-11 13-Sep-11
Opportunities and Challenges for Agriculture Opportunities 6) Agricultural exports have surged 7) Global food demand is changing Challenges 6) Risks facing global growth 7) Who will meet this changing food demand?
A growing world population boosts international food demand, but what will they eat? Percent Households Owning a Refrigerator Households Owning a Microwave Oven Percent Source: USDA, Euromonitor
Will consumer-oriented products continue to lead agricultural exports? Indexed (1990 = 100) Value of U.S. Agricultural Exports 450 400 350 300 250 Bulk Products Intermediate Products Consumer-Oriented Products 200 150 100 50 0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 Source: USDA Foreign Agricultural Service
Opportunities and Challenges for Agriculture Opportunities 6) Agricultural exports have surged 7) Global food demand is changing 8) High commodity prices Challenges 6) Risks facing global growth 7) Who will meet this changing food demand? 8) High commodity prices
U.S. crop prices have surged, boosting crop incomes. Dollars per bushel 18 16 U.S. Crop Prices 18 16 14 12 10 8 6 Soybeans Wheat 14 12 10 8 6 4 2 Corn 4 2 0 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 0 Source: Commodity Research Bureau
Higher crop prices continue to pressure livestock profit margins. Dollars per hundredweight 135 120 Cattle Breakeven Price 135 120 105 105 90 90 75 60 Cattle Price Hog Breakeven Price 75 60 45 Hog 45 30 Price 30 Jun-04 Jun-05 Jun-06 Jun-07 Jun-08 Jun-09 Jun-10 Jun-11 Source: USDA and Iowa State University
Rising commodity prices have pushed world food prices above 2008 highs. 1/2000 7/2000 1/2001 7/2001 1/2002 7/2002 1/2003 7/2003 1/2004 7/2004 1/2005 7/2005 1/2006 7/2006 1/2007 7/2007 1/2008 7/2008 1/2009 7/2009 1/2010 7/2010 1/2011 7/2011 Index 2002-2004 = 100 250 World Food Price Index 200 150 100 50 0 Source: Food and Agriculture Organization
Opportunities and Challenges for Agriculture Opportunities 6) Agricultural exports have surged 7) Global food demand is changing 8) High commodity prices 9) Farmland values boom Challenges 6) Risks facing global growth 7) Who will meet this changing food demand? 8) High commodity prices 9) Will they bust?
Interest rates can affect farmland values through two avenues. Expected Farm Income Interest Rates = Farmland Values Capitalization Rates
Over time, real interest rates and capitalization rates tend to move together. Percent 12.0 10.0 8.0 6.0 4.0 2.0 Percent 12.0 10.0 8.0 6.0 4.0 2.0 0.0 Nebraska Cash Rent-to-Land Value Ratio -2.0 Yield on 10-year U.S. Treasury Security - adjusted for inflation -4.0 1970 1975 1980 1985 1990 1995 2000 2005 2010 Sources: USDA, Federal Reserve and BLS 0.0-2.0-4.0
Over time, real interest rates and real net farm income tend to move in opposite directions. Constant 2005 dollars (billions) 125.0 100.0 Real Net Farm Incomes Less Government Payments (Left Scale) Real 1-year U.S. Treasury Securities Yield (Right Scale) Percent 7.5 5.0 75.0 2.5 50.0 0.0 25.0-2.5 0.0 1970 1975 1980 1985 1990 1995 2000 2005 2010 Sources: USDA, Federal Reserve, BLS -5.0
With low capitalization rates and elevated farm income, farmland values have surged. Non-irrigated Cropland Values (Percent change from 2010:Q1 to 2011:Q1) Source: Agricultural Finance Databook, Federal Reserve Bank of Kansas City
Historically low capitalization rates help support current cropland values. Dollars per acre 10,000 9,000 8,000 7,000 6,000 5,000 4,000 Eastern Nebraska Irrigated Cropland Value = $5,300 Historical average cap rate, Farmland values drop by 1/3 3,000 2,000 3.0% 3.5% 4.0% 4.5% 5.0% 5.5% 6.0% 6.5% 7.0% 7.5% 8.0% Farmland capitalization rate Authors calculations assuming 200 bushels per acre, a corn price of $5.35 per bushel, and 25% of gross revenues capitalized into land.
If capitalization rates return to their historical average, then record high corn prices could support current cropland values. Dollars per acre 6,000 5,500 5,000 4,500 4,000 3,500 3,000 2,500 2,000 1,500 Eastern Nebraska Irrigated Cropland Value = $5,300 2009 average corn price, Farmland values drop by 1/2 3.0 3.5 4.0 4.5 5.0 5.5 6.0 6.5 7.0 7.5 8.0 Corn price (dollars per bushel) Authors calculations assuming 200 bushels per acre, the historical average capitalization rate of 7.5%, and 25% of gross revenues capitalized into land.
Opportunities and Challenges for Agriculture Opportunities 6) Agricultural exports have surged 7) Global food demand is changing 8) High commodity prices 9) Farmland values boom 10) Swine outlook: cautiously optimistic Challenges 6) Risks facing global growth 7) Who will meet this changing food demand? 8) High commodity prices 9) Will they bust? 10) Managing volatility and risk is critical
Thank you. Questions? Allen D. Leman Swine Conference September 19, 2011 Brian C. Briggeman Associate Professor and Director of the Arthur Capper Cooperative Center
Opportunities and Challenges for Agriculture Opportunities 1) Economy is recovering 2) Food expenditures are rising 3) Business and financial markets have improved 4) Low cost of borrowing 5) Farm income is very positive Challenges 1) Recovery is anemic 2) Elevated unemployment rate 3) Uncertainty abounds 4) Inflation risk 5) Will expected profits falter?
Opportunities and Challenges for Agriculture Opportunities 6) Agricultural exports have surged 7) Global food demand is changing 8) High commodity prices 9) Farmland values boom 10) Swine outlook: cautiously optimistic Challenges 6) Risks facing global growth 7) Who will meet this changing food demand? 8) High commodity prices 9) Will they bust? 10) Managing volatility and risk is critical