Matt Erickson, our agriculture economic and policy advisor, offers insights and updates on some of the most important factors shaping the agricultural economy as we move into July.
Interest Rate Highlights
- The Federal Reserve increased its benchmark interest rate by an additional 75-basis points in June to a range of 1.50% to 1.75%. This was the most aggressive rate hike since 1994.
- According to the CME Group, confidence is high that July will bring an additional increase of 75-basis points. As of June 29, 2022, the CME Group shows an 85.6% chance that the Fed Funds rate will be in the target range of 2.25% and 2.50%.
- Markets are projecting that by the end of 2022, the benchmark interest rate target range will be 3.5% to 3.75%. If realized, this would equate to 14, 25 basis-point increases for the entire year.
- Although interest rates are increasing at a rapid pace, they are still low compared to historic levels. Currently, the federal funds rate is 1.58%, the highest since October 2019. If the 14, 25 basis-point increases are realized, the federal funds rate would be at levels not seen since late 2007, early 2008.
Why This Matters
In today's volatile market, expectations can change frequently, even those from a month ago. Frankly, a month can seem an eternity in the current environment. During the end of May (May 27th), the CME FedWatch Tool predicted a 50 basis-point increase at the June meeting of the Federal Reserve. The actual increase was 75 basis points. The Fed’s aggressive action was driven primarily by the May Consumer Price Index (CPI) report, which was released on June 10, and ended up exceeding market expectations. The May CPI came in at 8.6%, higher than the expected 8.3% and capping a 12-month period in which inflation rose at the fastest pace since 1981.
Inflation can’t go down until it flattens out, which is why the Fed took a more aggressive posture with its 75 basis-point increase. There are signs from the data that consumer demand is weakening in the wake of the Fed’s move. The purchase index for homes, for example, has fallen 9.4% over the past year, with refinancing demand down 77%. Additionally, U.S. retail sales dropped 0.4%, signaling that consumer purchases may be weakening.
The Fed has been transparent in signaling to the market that it will do all it can to tackle inflation, even if it potentially leads to a recession. But there are major cost spikes beyond what the Federal Reserve can control. These include energy and food prices, which according to the May CPI report, rose more than 34% and 10% respectively year-over-year.
The impact of rising interest rates will impact a producer’s cash flow. As a result, producers need to plan for the remainder of 2022 and start planning for 2023. For example, rising input costs have already reduced margins significantly for 2022. Producers need to be looking at all avenues for reducing expenses for 2022 and beyond. One way to do this: Look at your debt service worksheet and consider strategies for managing intermediate and long-term interest rates.
- Start with an honest evaluation, listing all inputs and other costs, such as equipment, overhead, land, etc.
- Build out projection scenarios of revenue and expenses for the production year and identify each in total dollars or dollars per acre.
- Test and sensitize those projections to changes to cash flow.
Planning now will provide a better understanding of your margin and breakeven for 2023. By default, this allows you to better protect your margins and lock-in price floors when it’s time. It also helps you develop a course of action that contains a diversified marketing strategy to protect your downside while taking advantage of upside opportunities.
With the uncertainty continuing in the marketplace, it’s important to have sufficient working capital, understand different scenarios in the marketplace that could change margins and breakevens, and have strong financial acumen. Now would be a good time to talk with your Farm Credit advisor about options for achieving and managing these goals.
Gasoline and Diesel Price Highlights
- Nationally, U.S. consumers paid an average of $4.86 for a gallon of gas at the end of June, or 56% more than a year ago. While a gallon of gas is projected to fall to an average of $3.66 in 2023, according to the Energy Information Administration’s (EIA) June Short-Term Energy Outlook, this price still would be $0.85 higher than the 10-year average.
- National average diesel prices are $5.77 per gallon, up 78% from a year ago. Like gasoline prices, EIA projects diesel prices to fall in 2023, but remain well above the 10-year average.
- Crude oil is up 59% since the beginning of 2022. Low crude oil inventories, demand outstripping supply and geopolitical unrest in Eastern Europe are all factors leading to the increase.
- The U.S. currently has very low ending stocks of crude oil. In fact, current U.S. ending stocks are 8% below the 5-year average. Measuring ending stocks in relation to days of supply, U.S. crude ending stocks are equal to 25.8 days of supply. This is well below the 5-year average of 29 days.
Why This Matters
Rising energy costs impact every corner of the U.S. and global economy. Whether it’s filling your car up at the pump, heating or cooling your house, or producing a crop, each of these (and much more) require energy.
In mid-June, the average gas price in the U.S. hit an all-time high of $5.02 per gallon. At this price point and averaging costs across a variety of vehicles, consumers who drive 15,000 miles a year would pay about $270 a month to fill their tanks, a monthly increase of about $105 compared last year, according to Kelley Blue Book.
High gas prices incentivize consumers to seek more fuel-efficient vehicles, but inventory is extremely low due to a global microchip shortage and supply chain bottlenecks. That leaves consumers to look for savings elsewhere, including at the grocery store.
According to USDA, retail prices for a market basket of meat increased more than 12% between May 2021 and May 2022. As a result, per-capita disappearance of beef is expected to decline after the second quarter of 2022 through the end of the year. Per-capita pork disappearance, by comparison, is expected to increase through the end of the year as consumers opt for cheaper protein.
Higher energy costs impact the entire domestic and global supply chain, including agriculture.
June Acreage Report Highlights
- The June acreage report pegged corn plantings at 89.9 million acres, up 400,000 from the March Prospective Plantings Report and just above the market's average pre-report expectation.
- Soybean acreage was pegged at 88.3 million acres, down 2.6 million from the March Prospective Plantings Report and outside the lower range of the market’s pre-report expectation of 89.2 million to 92.4 million soybean acres.
- All-wheat acreage was reported at 47.1 million acres, up 200,000 from the March Prospective Plantings Report. If realized, this would be the fifth lowest wheat plantings level since 1919.
- Overall, the June Acreage Report was neutral for both corn and wheat. While on the surface, the report seems bullish for soybeans, it was actually more neutral-to-bullish. It’s important to note that USDA plans on resurveying Minnesota and the Dakotas in July, which for the time being has tamed markets.
Why This Matters
The big surprise from the June Acreage Report came from USDA’s reduction of soybean acreage by 2.6 million down to 88.3 million acres. Even more significant: This decrease in acreage fell outside the lower range of market expectations ahead of the June Acreage Report. On the upper end, markets anticipated 92.4 million acres.
While corn is back on top, the reality is much of the decline in soybean acreage likely went to barley, cotton, durum wheat and hay acreage. And at 88.3 million acres, the 2022 soybean crop still appears significant. Only 2017 and 2018 soybean plantings are higher.
There was a sense heading into the report that slightly more corn than soybean acres were planted. Despite high fertilizer costs, commodity prices titled heavily in favor of corn during the middle part of March.
Over the long-term, the average number of bushels of corn value in each bushel of soybeans is around 2.4. But with new crop corn and soybean futures, the ratio has averaged 2.35. A ratio above 2.35 tends to signal more soybean acres to corn and vice versa. By the end of March, the soybean-to-corn ratio hovered around 2.0, and even fell to 1.97 on May 12, which made corn more attractive than soybeans.
If fertilizer prices hadn’t doubled or tripled in the past year, there probably would be a lot more corn acreage. On the soybean front, with the June WASDE reporting 91 million acres and a 6.1 percent stocks-to-use ratio, soybean plantings at 88.3 million acres (holding all else constant) could make for a much tighter market this year.
Summer Weather Highlights
- The National Weather Service forecasts hot and dry conditions in the Western Corn Belt and Central Plains for July, August and September, peak months for the U.S. weather market.
- The dry, hot conditions during the latter part of June resulted in a slight deterioration in corn and soybean crops. Sixty-seven percent of the U.S. corn crop was in good-to-excellent condition the week ending June 26, down from 70% the previous week. Soybeans rated as good to excellent stood at 65%, a 3% decline compared to the prior week. Despite the decline, crop conditions are slightly better than last year at the same time, when 64% of corn and 60% of soybeans were rated as good to excellent.
Why This Matters
At the start of 2022, commodity markets focused largely on the impact of war in Eastern Europe and dry conditions in South America. While both remain factors, the health of U.S. corn and soybean crops now takes center stage.
As growers know, hot temperatures alone won’t make or break yields. It’s the combination of heat and low soil moisture reserves that prevents corn and soybeans from reaching full yield potential. And that’s exactly the situation the U.S. sees itself in as we enter July.
The decline in condition ratings in USDA’s Crop Progress report signaled that the hot and dry weather in June impacted corn and soybeans. Cooler conditions during the last week of June tempered some of the concern, but the forecast for the next three months makes it increasingly difficult for the U.S. to see trend or above-trend yields this growing season.
Spot showers – and several of them – may be greatly needed this year.
Soil Moisture Highlights
- Record heat and dry weather in the latter part of June significantly diminished soil moisture reserves and increased stress to multiple crops. As a result, the percent of short-to-very-short subsoil moisture increased to 41% as of June 26, up from 28% percent on June 12.
- During this two-week period, major corn and soybean producing states reported substantially drier subsoil conditions. Short-to-very-short subsoil moisture increased in each of the following states: Iowa, up from 19 to 27%; Illinois, 9 to 27%; Indiana, 7 to 48%; Nebraska, 43 to 56%; South Dakota, 22 to 29%; and Kansas, 38 to 42%.
- Much of the Corn Belt is experiencing soil moisture deficits heading into July, a critical month for corn development as the reproduction stage begins.
Why This Matters
June brought a “flash drought” across much of the Corn Belt. As a result, sharp declines in subsoil moisture and a concurrent increase in crop stress occurred.
It’s too early to cut projected U.S. corn yields. But hot and dry conditions, as projected in the Weather Outlook below, could add to existing plant stress and make the flash drought in June quite impactful in the long run.
With all the events occurring in the global market, any significant decrease in U.S. corn yields could put significant strain on U.S. exports and global supply. While it’s important to reiterate that it’s still too early to adjust the U.S. corn crop, the combination of a projected hot and dry weather outlook, accompanied by low soil moisture reserves, could lead an already bullish market into a stampede.
Certainly, multiple (and timely) rains in July are needed.
