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THE CHANGING CREDIT PICTURE IN AGRICULTURE Remarks by Chas. N. Shepardson, Member, Eoard of Governors, Federal Reserve System, at Fourth National Agricultural Credit Conference, American Bankers Association, at Morrison Hotel, Chicago, Illinois, on December 2, 1955. Agriculture ha3 truly become a major industry as well as a "way life" — m an industry fraught with all of the problems of adequate invest- ent and operating capital, production efficiency, markets, and salesmanship "that confront any other industry, in addition to the hazards of nature with which the farmer has always had to contend. For years we have thought of industry and of agriculture as if th ey were separate and distinct economies, each with its own peculiar char- acteristics. ln Too frequently we have not fully appreciated that the develop- g trends of recent years have led to a situation in which the similarities between the farmer and the city producer are fully as striking as the differences. Farm output for human consumption has advanced throughout our histor y but the advance has been greatly accelerated during the past 15 years. Pri o r to 1900, this increased production was largely the result of expanding la s nd frontiers and increased acreage in cultivation. From 1900 to 1 % 0 °ience and technology played an increasing role as land frontiers diminished, during the past 15 years, with a fairly stable acreage in cultivation, output h as increased 35 per cent even with a decrease of 28 per cent in farm popu- la "tion. This latter increase is almost solely due to increased productivity acre and per man-hour and has been brought about by the astounding Avarices in agricultural science and technology and the substitution of - 2capital for labor. There was a time when a man with.a team, a wagon, a plow, and a cow, a sack of seed and enough determination could move onto a governm ent homestead and, by long hours of hard work and sacrifice, build himself a f arm and a home. That condition no longer exists. Today the farmer must have technical "know-how" as well as integrity and he must have access to adequate capital as well as willingness to work. to w The increased productivity hich I have referred has made not only possible but necessary the enlarge- ment of the family farm unit if the operator is to make the most efficient U3e of modern technology and machinery. meivts As a result, the capital require- have become staggering in terms of our former standards for farm credit. The value of production resources on typical commercial family- °Perated farms outside of the South, in 1954, ranged from an average of ^25,000 for dairy farms to an average of over 4100,000 for seme grain producing farms. The average investment on Southern family farms was much smaller, ranging from frl0,000 to £>20,000. While the large number of these small farms reduced the national average, it still amounted to about &23,00C PGr farm i n 1954, 0 r nearly four times the 1940 average of ^6000, and it is continuing to increase. These figures refer to the physical capital used in farming — land v > buildings, livestock and equipment. alue of e a the They do not take account of the modern dialling and modern household equipment, which are almost ssential part of the farm equipment if we expect to hold our capable, ambitious young farmers and their families on the farm. Neither does it in- °lude the operating capital necessary to meet current cash expenses, which are also increasing from year to year. These two items may well add another 1 - 3v«000 to $10 ,000 to the average. Usually this large capital investment on a f a r m mus "t be obtained and controlled by one individual. The whole technological revolution in agriculture of the last 15 years is PriCe Ca re reflected in these figures, as well as the effect of the much higher structure of the economy. With the increases that have occurred, the Pital needed per worker in the agriculture industry now exceeds the capital quired in manufacturing and other off-farm activity. In looking at a breakdown of these figures, one finds further re- lection of the drastic change in farm production methods and operations in the nT 1 iar age • investment in machinery and equipment. Before the war, the aver- . 1 rm in this country — including both small and large farms — had an nve stmeiit in these assets of about (-400. Today the machinery inventory averv 3,l00, about eight times the 1940 level. On a typical commercial farm, u "^ide the South, the necessary machinery and equipment may be valued at ment' in or more. Even in terms of constant dollar values, the current invest- ^achinery and equipment is nearly four times that of 1940. you know, the cash operating expenses have increased greatly n ° e before the war, reflecting, 'in part,this increase in investment needs and. Part, the increased quantity and variety of other items that farmers purchase to produce at lowest possible cost. Production expenses per farm in 1954- averaged about four times the 19/ Q evel, or $4,300 compared with $>1,050. Expenses have remained at high levels • lri Se a these recent years of declining farm prices and have now started to gain as many of the items purchased by farmers begin to reflect the Ureases occurring in the prosperous nonfarm economy. Froduction -u expenses, as compared with prewar, are relatively higher than gross farm income. I n fact, farmers' net return per dollar of gross receipts this year Wl11 smaller than for any other year of record except in the depths of the depression in 1932. Farmers' net income will be about 32 per cent of their gross compared with /Jo per cent .in 1947-/+9, and 36 per cent in 19-40. T his smaller share of gross emphasizes not only the cost-price squeeze of recent years but also high cost structure facing farmers and the shift that has °°curred from home produced to purchased power and supplies. With in- creased overhead in terms of capital investment and increased operating costs, the need for increased efficiency and increased output per operating unit is o1 °vious. i n i^is connection, it is interesting to note that the biggest in- crease i n operating expense is in the cost of depreciation on machinery and eC1Ulpmen t, further emphasizing the importance of volume per unit. What are the implications to lenders of the great changes in farm capital needs and in production expenditures? The situation can be summar- lae <* as fellows: (1) a °e now farrner la The much larger and more complex enterprises that farmers man- require a range of skills and knowledge so broad that the average frequently finds himself in need of expert assistance. This is espe- H y true in his borrowing and investing decisions. (2) To a much greater extent than in the past, credit, properly Use ^ u > must be one of the tools by which farmers acquire and operate today's eff-i cient enterprises. be much Ularly We should expect that average debts per borrower will larger than we have been accustomed to think of in the past, particamong beginning farmers or for farmers on units being converted to new ^Pes of farm operations. (3) An increasing share of farmers' credit needs are for inter- mediate term types of investment. I feel this is or- of the most important areas of farm lending today. We have noted the relatively rapid rate of farm mechanization. Machinery is a a Farm semi-permanent type of investment which produces income over number of years. Just as the income is received over a period of years, Similarly a loan to purchase such machinery should properly be repaid over a Period of years. th at are neither fixed capital, as land, nor current operating capital, such cr op expense. more Se Machinery is only one of several important investment needs With the high cost of land, farmers are turning more and to making their present land holdings more productive. Many soil con- -vation measures and irrigation systems also require and merit longer term ° r e d i t ^ a n is usually available. A. similar situation is found in the case of the farmer who needs to change his farming operation to a new type better suited to market con- ations , to the resources of the farm, or to his particular interests and a Ptitudes. Where f Such cases are common in areas of the West and South, particularly the loss in export markets has had the most severe effects, but are ° U n d to some extent in all areas. Here there is a need for a form of inter- mediate credit which permits matching the loan advances to the steps in the conversion process and the terms of repayment to the expected flow of income. The need for intermediate credit to farmers is not entirely new. It Was V ar e an issue throughout the 1920's and some new farm credit institutions ' ' set up at that time. lng The need always becomes greater at times of declin- P^ces and rising costs when farmers find themselves unable to finance - 6 such expenditures from one year's net earnings. It is especially pressing present because of the rapid growth in intermediate term items needed on farms. Some day our loan statistics will have a three-way break to in- clude intermediate term loans, in addition to the present two-way break on m °rtgage loans and short-term loans. However, before we reach the state when such lending is as commonplace in agriculture as it is in industry, we mu st learn a great deal more than we now know about the methods best adapted to such lending. be developed. Techniques which will permit this type of lending need to In making intermediate term loans, it is imperative that a realistic and careful appraisal be made of the situation, including not only the integrity, industriousness and collateral of the borrower but also his capac i t y and the soundness of his plan of operations, at least for the period of the contemplated loan. As mentioned before, modern farming is a highly complicated under- taking, involving a wide variety of technical and business problems. the Unless borrower has the training or is willing to seek and. use the advice of competent specialists, he is not apt to be a good risk regardless of his Co Hateral for no business transaction is a desirable one unless it promises to ^ mutually profitable to both parties. In appraising the borrower's proposed plan, there are several Points to be considered. Wg e First, is the unit large enough or can it be made enough without prohibitive cost to provide an adequate living for the °Perator and his family and still leave enough margin to repay the loan over a r easonable number of years? Second, is the land adapted or adaptable to - 7 the contemplated use? Use of land. liuch of our present farm problem comes from the mis- In spite of years of concentrated emphasis on soil conserva- tion and proper land use, we still have vast acreages with a low or hazardous cr °P Potential that should be returned to grass or timber. Is the borrower's schedule of anticipated income realistic in making due allowance for weather cycles and market fluctuations? The present difficulty of many wheat farmers and (cattlemen is in no small measure due to the mal ^warranted optimism generated by the unusually good weather and abnor- ly high prices during the war and early post-war period. term A sound plan for credit should make provision for years of uncontrollable adversity but should also require off-setting prepayments in years of higher than anticipated returns. qUotas It should also take account of the possible effects of and acreage allotments and have sufficient flexibility of alternative enterprises to meet such conditions. The farm plan should be a living document, laying out the broad ° ut lines of the farm operation for the period ahead. by the borrower as a useless paper which he signs to get the loan and then Promptly forgets. b It must not be regarded A. properly prepared plan is a joint product in which the ° rrov/ er and lender are both vitally interested and which will, in fact, be ref erred to frequently. bas It should be subject to appraisal periodically, ed on actual achievements, and should be flexible enough to be modified b y mut ual agreement if conditions require such change. Banks with agricultural representatives are ideally suited to mak- ln 2 such loans and they appear to be increasingly interested in this develop- ment * Other bank3 which are not staffed with agricultural specialists may fi nd it somewhat more difficult. Banks with agricultural people and those without them should avail themselves of the assistance of county agents, SC3 Personnel and other Federal and State agricultural people in developing such Plans. City banks can be of much assistance to their correspondent banks ln Piping them to develop this phase of their farm lending service. In addition to the technical assistance which the city banks can provide, they m ay at times be asked to participate in the larger loans for which the local banks ' resources are not adequate. make a SUch A sound farm plan and loan agreement highly desirable, if not absolutely essential, basis for appraising Participations. It is of doubtful value to the individual or the community to aSsist 0 f bGi him in continuing on an inadequate unit which shows little promise ng substantially improved and where the applicant runs the risk of see- ln § his lifetime savings and possibly the land itself gradually dissipated. Th unit, either °se borrowers who cannot develop an economically profitable because Clent of lack of physical and financial resources or because of insuffi- Managerial capacity, should be encouraged to supplement their farm if e arnings with part-time, off-farm jobs or, in some cases, even ful l-time, off-farm employment. nclu This latter move often results in the indi- al improving his own position and at the same time allows the land to be ^combined into larger and more efficient units. Slt to consider With the present cost price Uation in agriculture, everything possible should be done to promote heater efficiency. - 9In this connection, we should not overlook the credit needs of the part-time farm operators. If a person has a reasonably secure, off-farm or can get one and operates his farm on a part-time basis, his loan repayment ability can be based on these earnings as well as on the earnings from hls f tarm arm. Thus, it may be possible to help him on a sound basis whereas his earnings alone would not justify the loan. The management potential of the prospective borrower — consideration in today's complex farm operations — extent on the basis of his past performance. riVed a a major can be appraised to some Some appraisal can also be ar- t, based on the knowledge and judgment that he exhibits in mapping uJ s farm plan. SOme ris Addition of or conversion to a new enterprise always entails k and such moves should be undertaken gradually and with sufficient "•exibility so that the plan can be slowed down or speeded up as developments arrant. w At first this farm planning may seem onerous and costly. the However, experience gained in processing earlier plans will serve as a basis for tne mor e expeditious handling of subsequent cases. Many of the problems en- countered in preparing one plan will be common to others. iederal late pric and State agricultural workers can be of help. As stated earlier, They can help formu- the basic data needed, such as land use classification, crop yields, e prospects, crop and livestock production goals, and similar considera- ti Thav may be able in some cases to work with a prospective borrower in Preparing application* a specific plan for his farm, to be submitted with the loan - 10 The service that a banker can render tc agriculture in financial Planning has been mentioned. his Since a prospective borrower must scrutinize projected income and expense picture carefully when a farm plan is pre- pared, he is less likely to purchase a machine or some other item that he d °es not actually need for greater efficiency. Bankers can perform an impor- tant service to farmers by helping them to limit their expenditures to those ltems w hich are most likely to improve their efficiency and income. It should not be implied from these remarks that banks are not eeting these credit needs, particularly in the intermediate term area. Some V* i a r U s hav ® been doing an excellent job in this field for several years. Others, w hich are equally interested in serving their farm customers, have felt they were •»•» + restrained from making such loans due to some regulatory restriction, connection, the Federal Reserve Board has recently stated in a letter to a L1 /hic ul Federal Reserve examiners that there is no Federal law or regulation h prevents commercial banks from making intermediate term loans for agri- tur a l purposes and that such loans, made on a sound credit basis, are not to be considered as undesirable. Some bankers have attempted to meet this situation with annual en eval s of short-term loans. UVe b e e n It is entirely possible that such loans may criticized by examiners if the terms of the note were not being 8Ven though the lender and the borrower both understood that renewals De might h« necessary over a period of years before the loan could be liquidated. It ig aiso Potential possible that some bankers may not have realized the needs or opportunity for profitable service in this field. - 11 Lenders, of course, need protection so if a lending operation is not properly or there is danger of loss the operation can be straight- 6ned out b e aff or the loss minimized as quickly as possible. This protection can °rded with a properly prepared farm plan and with a loan agreement that embodies the necessary safeguards. It is much better that these safeguards be bitten down specifically and accepted by both parties so the borrower, as well as the lender, knows exactly what is expected. The borrower is thus assured that the financing will be available in the amounts and on the terms P °mised if h e mee -t s the terms of the agreement. ^e have little knowledge of the over-all extent of intermediate t e r m len is r» 3ing to farmers and we need to know more. The Federal Reserve System J °nsiclering the desirability of a study of agricultural lending by commerCj -al banks in the not too distant future. S °Udy f the It is hoped we will learn from the extent of bank participation in intermediate term lending and some the characteristics and conditions of such lending. So pr °blem. I9/Q t far, 1 have dealt mainly with one phase of the agricultural credit There are a few general observations I would like to make. to 1945 the ratio of total From f a r m d e bt to total assets dropped from 1:5.3 t° 1'ln rFrom , 194.5 to January 1, 1955 that ratio has narrowed slightly to 1:9 t -to the extent that rising debt reflects added investment in productive resou r e °es, it may be indicative of increasing productive efficiency. To the Xt en + ,, ^at it represents operating losses, it is a matter of grave concern, do rtunately, available data do not show which of these two predominate. We however, that agricultural credit is in a relatively strong position. n S a g e debt at present represents only 9 per cent of the market value of farm - 12 re al estate compared with 20 per cent in 194-0 and even higher in earlier years. While the total farm debt represents 11 per cent of total assets, reflecting, a t least in part, the increasing amount of machinery, equipment and - livestock purchased on credit, it is still low compared with 19 por cent ln ^O. this tim It is indeed fortunate that this healthy debt situation exists at e of falling prices. While the legitimate needs for agricultural credit must be met, it is important that it be done with discernment to the en <3 that this healthy situation may be maintained. Compared with the rest of the economy, total farm debt increased approximately 1 billion in the last 10 years against an .increase of $200 lion in non-farm private debt. available credit. This indicates the tremendous demand for Some fear has been expressed that because of this condi- "H ° n agriculture would be adversely affected by any measure of credit repaint, While tightening credit may increase the credit cost for farmers, it "l s relatively to their advantage. The rest of the economy is booming. demand i s crowding capacity in many areas and this pressure is beginning to bp ' reflected in price increases. c ° s t-pri CQ ln has <S to sqUeQ3et with The farmer is already suffering from the iittle immediate prospect for any material improve- farm prices, any further increase in the cost of things the farmer buy would only accentuate that squeeze. when v. This is further emphasized realize that the cost of outstanding farm credit represents less "than per Q redit cent of total farm costs. In closing, then, we may say that agriculture is still in a strong Position and worthy of the credit needed for furthering productive effi • eiency and that any credit restraint which will minimize the upward su re on non-farm prices and hence on the cost of farm production is to / - 13 the advantage of agriculture even though it results in some slight increase ln the c °st of farm credit, There is a real challenge to country bankers these days to continue to lead to in financial service to the farm community. There is a pressing need improve efficiency on many farms, to adapt the agricultural production Plant to the changing demands of our domestic and export markets, and to help farmers learn better management techniques. Qnce ia Your attendance at this confer- evidence of your interest in these problems. I am sure you have the imagination and initiative to continue your leadership in this important f ield.
@FedFRASER