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F a r m C r e d i t - Supply and Demand F o r Funds and Efficiency of C r e d i t Institutions Speech by D a r r y l L. F r a n c i s , P r e s i d e n t F e d e r a l R e s e r v e Bank of St. Louis Before the National A g r i c u l t u r a l C r e d i t Conference November 13, 1967 It is good to have this opportunity to d i s c u s s s o m e c u r r e n t farm, c r e d i t p r o b l e m s with you who r e p r e s e n t the n a t i o n ' s m a j o r s o u r c e s of f a r m c r e d i t . The fact that we meet for this d i s c u s s i o n indicates our g r e a t i n t e r e s t in the a g r i c u l t u r a l s e c t o r of our economy,Jn t e r m s of e m p l o y m e n t , the f a r m s e c t o r of the economy is d e c l i n i n g . If attendance at this conference had r e m a i n e d p r o p o r t i o n a t e to the n u m b e r of f a r m e r s , only about 50 p e r cent as many would be attending today as attended twenty y e a r s ago, However, r a t h e r than followirjg the decline in n u m b e r of f a r m e r s , p a r t i c i p a n t s in these c o n f e r e n c e s have i n c r e a s e d . The farm c r e d i t i n d u s t r y is typical in this r e s p e c t to other a g r i b u s i n e s s i n d u s t r i e s . Both the f a r m supply and the p r o c e s s i n g and m a r k e t i n g s e c t o r s have t r e n d e d constantly upward. A g r i b u s i n e s s output in 1965 totaled about $130 billion. Such p r o d u c t s accounted for 30 p e r cent of the n a t i o n ' s economic activity. The a g r i b u s i n e s s group of i n d u s t r i e s grows about 4 . 0 per- cent p e r y e a r in dollar volume, despite the decline in w o r k e r s at the farm s e c t o r . - 2 F r o m a national welfare viewpoint, we a r e indeed fortunate to live in a nation and an age when the production of food and fiber r e q u i r e s such a s m a l l portion of the n a t i o n ' s l a b o r . Only 6 p e r cent of our labor force in the United States was employed on f a r m s in 1965, and the p e r cent employed in this s e c t o r has declined a l m o s t every y e a r during the p a s t t h r e e d e c a d e s . Indicative of the gains in f a r m technology, one w o r k e r in 1966 produced sufficient food and fiber for himself and 39 other people. This was a l m o s t six t i m e s the n u m b e r of people sustained by one f a r m w o r k e r at the t u r n of the c e n t u r y . Of the 12 m a j o r i n d u s t r i a l nations of the world for which data a r e provided by the OECD (Organization for Economic C o o p e r ation and Development), the United States in r e c e n t y e a r s has had the lowest p e r cent of w o r k e r s employed directly in a g r i c u l t u r e . Employ- m e n t on f a r m s in the 1 9 6 0 s ranged from 6 p e r cent of the labor force in the United States to 49 p e r cent in G r e e c e . In W e s t e r n E u r o p e , one of the m o s t highly-developed a r e a s of the world outside the United S t a t e s , about 20 p e r cent of the labor force was engaged in a g r i c u l t u r e and s t i l l failed to p r o d u c e sufficient food and fiber for the population. The a r e a i m p o r t e d a sizable portion of its f a r m p r o d u c t n e e d s . In n o n i n d u s t r i a l nations such as the African s t a t e s , India, and Latin A m e r i c a , which contain about t h r e e - f o u r t h s of the w o r l d ' s population, m o r e than half of the work force is usually engaged in producing - 3~ food. In other w o r d s , while we a r e lining in a land of abundance, m o s t of the world has b e e n subjected to the h a r s h laws of s c a r c i t y as outlined by Malthus 150 y e a r s ago. The level of population in m o s t c o u n t r i e s m a y have actually been d e t e r m i n e d by the food supply, and s t a r v a t i o n is the n o r m r a t h e r than the exception. How have we in the United States achieved this efficiency in the production of f a r m p r o d u c t s ? I might begin by commenting that we have made wise use of our productive r e s o u r c e s (labor, land and c a p i t a l ) . Our l a b o r has g e n e r a l l y been well t r a i n e d and our other r e s o u r c e s have b e e n efficiently allocated, not dictatorially nor by c o m m i t t e e , but by the d e s i r e of each p e r s o n to achieve g r e a t e r profits via i n c r e a s e d s a l e s a n d / o r reduced c o s t s . This incentive to m a x i m i z e h a s provided a m a r k e t for productive f a r m r e s o u r c e s . The m o r e efficient o p e r a t o r s have found it profitable to expand by p u r c h a s i n g r e s o u r c e s from o t h e r s . Individual f a r m expansion has taken s e v e r a l f o r m s , including m o r e a c r e s p e r f a r m and an i n c r e a s e in both fixed and operating c a p i t a l . The l e s s efficient o p e r a t o r s and many of the f a r m youth not a l r e a d y e s t a b l i s h e d in farming have moved to other occupations w h e r e l a b o r r e t u r n s a r e g r e a t e r . Efficiency of f a r m production has been g r e a t l y enhanced bytechnological d e v e l o p m e n t s . Science has attacked f a r m production p r o b l e m s on a wide front and with amazing s u c c e s s , mechanization .. 4 technology" has m a d e p o s s i b l e our l a r g e m u l t i - r o w cultivating and h a r v e s t i n g equipment, as well as n u m e r o u s other l a b o r - s a v i n g machines. P l a n t and a n i m a l b r e e d i n g have changed the c h a r a c t e r i s t i c s of plants and livestock. C h e m i c a l s , including i n s e c t i c i d e s , fungicides, weed control a g e n t s , and f e r t i l i z e r s , have b e e n developed which enable p r o d u c e r s to g r e a t l y increase output p e r a c r e and lower d i r e c t l a b o r r e q u i r e m e n t s p e r unit of output, E a c h s u c c e s s provided incentive for additional i n v e s t m e n t in r e s e a r c h as m a r k e t s for productive inputs developed. In this development m o s t g o v e r n m e n t p r o g r a m s , e s p e c i a l l y those concerned with education and r e s e a r c h , s e r v e d as a c a t a l y s t , aiding the m a r k e t to achieve m a x i m u m efficiency. Agriculturally- t r a i n e d s p e c i a l i s t s hired by the g o v e r n m e n t encouraged f a r m e r s to adopt new devices and use new p r o d u c t s . C r e d i t m a r k e t s for f a r m e r s w e r e i m p r o v e d through the organization of the F a r m C r e d i t B a n k s . R e s e a r c h supported by g o v e r n m e n t has made m a j o r contributions to new f a r m production and m a r k e t i n g t e c h n i q u e s . Government p r i c e s t a b i l i z a t i o n p r o g r a m s have tended to reduce r i s k and possibly t h e r e b y i n c r e a s e m a r g i n a l innovations. On the other hand, p r i c e s u p p o r t s have tended to reduce the r a t e of adjustment in the f a r m l a b o r force and f a r m organization for m a x i m u m efficiency in some - 5 areas. The A c r e a g e Control P r o g r a m s , a companion to p r i c e stabilization, may a l s o have contributed to inefficiency in f a r m organization and output, but possibly hastened the exit of l a b o r from a g r i c u l t u r e . Despite the inefficiencies inherent in p r i c e and a c r e a g e c o n t r o l s , m o s t other g o v e r n m e n t p r o g r a m s have, on b a l a n c e , tended to aid the m a r k e t forces in moving toward g r e a t e r efficiency in the industryMost moves toward g r e a t e r farming efficiency have involved l a r g e r quantities of c r e d i t for longer t e r m s . High r e t u r n s to s c a l e have hastened f a r m e n l a r g e m e n t and g r e a t l y enhanced demand for farm real estate credit. Such c r e d i t r o s e at the annual r a t e of 9 p e r cent during the p a s t decade and at an annual r a t e of 7 p e r cent in the p r i o r ten y e a r s . Demand for c r e d i t p e r f a r m , i. e. , size of loan, r o s e at a f a s t e r r a t e than total c r e d i t demand. Total c r e d i t p e r f a r m r o s e at.the annual r a t e of 13 p e r cent during the decade ending in 1966, with a l m o s t equal r a t e s of i n c r e a s e in r e a l e s t a t e and nonreal estate credit. E a c h i n c r e a s e in p u r c h a s e d inputs from f a r m supply i n d u s t r i e s has r e s u l t e d in a c o r r e s p o n d i n g i n c r e a s e in c r e d i t demand. Costs of many f a r m supply i t e m s such as m a c h i n e r y , b r e e d i n g livestock, and specialized buildings can only be r e c o v e r e d after many y e a r s of u s e . Demand for l o n g e r - t e r r a c r e d i t for non- r e a l e s t a t e p u r p o s e s thus i n c r e a s e d . - 6 D e s p i t e g o v e r n m e n t p r i c e stabilization p r o g r a m s , c r e d i t r i s k s have probably i n c r e a s e d . farm Major fluctuations in f a r m income could f o r m e r l y be a b s o r b e d by the f a r m family, since family l a b o r and other n o n p u r c h a s e d m a t e r i a l s constituted the m a j o r portion of f a r m production expense. Now, however, p u r c h a s e d inputs total m o r e than four-fifths the value of all f a r m inputs and t h r e e - f o u r t h s the value of a l l f a r m product s a l e s . thus moved into the c a t e g o r y of a b u s i n e s s m a n . operations has declined. in r e l a t i o n to net r e t u r n s . The f a r m e r has His m a r g i n from His capital and c r e d i t demands a r e high He can now go b a n k r u p t . With this brief background of developments in the farming i n d u s t r y , it s e e m s a p p r o p r i a t e to a s k o u r s e l v e s the questions: well have f a r m c r e d i t demands been m e t ? How How well has the c o m - m e r c i a l banking s y s t e m p e r f o r m e d its job of supplying f a r m c r e d i t , and what a r e the p r o s p e c t s for bank c r e d i t to a g r i c u l t u r e during the next few d e c a d e s ? We have s e v e r a l y a r d s t i c k s for m e a s u r i n g the efficiency of c r e d i t flows into a g r i c u l t u r e . F i r s t , we have a g e n e r a l m e a s u r e , which is o v e r - a i l productive efficiency of the i n d u s t r y . is c r e d i t s t a r v e d , it would n e c e s s a r i l y be inefficient. h o w e v e r , t r u e r e l a t i v e to other n a t i o n s . the world we a r e quite efficient. If a g r i c u l t u r e This is not, C o m p a r e d with the r e s t of We have a v e r y s m a l l p e r cent of our labor force in a g r i c u l t u r e . - *7 « — i — Yet it is able to produce an e x c e s s of f a r m c o m m o d i t i e s for d o m e s t i c use at c u r r e n t p r i c e s . T h u s , on the b a s i s of o v e r - a l l efficiency of f a r m production, it a p p e a r s that f a r m c r e d i t demands have b e e n adequately m e t . Another m e a s u r e of the f a r m c r e d i t m a r k e t is the r a t e of r e t u r n on f a r m productive a s s e t s . If a g r i c u l t u r e is s t a r v e d for c r e d i t or capital, one would expect the r e t u r n s to capital to be r e l a t i v e l y high. In other w o r d s , if f a r m c r e d i t is s c a r c e , a s s e t s a r e likely to be m o d e r a t e l y p r i c e d . such a s s e t s would be high. farm The r a t e of r e t u r n on R e t u r n s on a s s e t s in a g r i c u l t u r e , how- e v e r , a r e actually r e l a t i v e l y low. Since 1959 the r a t e of r e t u r n on productive a s s e t s in a g r i c u l t u r e has a v e r a g e d only about 5 p e r cent. This is l e s s tha.n the a v e r a g e r a t e of r e t u r n on book value in any of the 6l m a j o r i n d u s t r i e s listed in Standard and P o o r ' s Indvistry S u r v e y s . Despite the differences in m e a s u r i n g the value of f a r m and nonfarm a s s e t s , these data indicate that c r e d i t to f a r m e r s has been sufficient to bid up f a r m a s s e t s to r e l a t i v e l y high l e v e l s . A t h i r d m e a s u r e of f a r m c r e d i t availability is the i n t e r e s t r a t e s paid by f a r m e r s on b o r r o w e d funds. Rates c h a r g e d f a r m e r s a r e g e n e r a l l y higher than r a t e s on other b u s i n e s s l o a n s . It is difficult, however, to c o m p a r e i n t e r e s t r a t e s in absolute t e r m s , since size of loan and r i s k involved g r e a t l y influence the r a t e c h a r g e d . - 8 During the p a s t twenty y e a r s the r a t e s paid by f a r m e r s have i n c r e a s e d l e s s than r a t e s paid by a l m o s t any other g r o u p . Average r a t e s on c o m m e r c i a l bank n o n - r e a l e s t a t e loans to f a r m e r s r o s e from 6. 3 to 7. 1 p e r cent. This was an i n c r e a s e of only 13 p e r cent, or l e s s than one p e r c e n t a g e point, in the r a t e paid, w h e r e a s the p r i m e c o m m e r c i a l loan r a t e m o r e than tripled and the a v e r a g e r a t e on all s h o r t - t e r m b u s i n e s s loans doubled. A g r i c u l t u r e would thus a p p e a r to be in a m o r e favorable position on the b a s i s of i n t e r e s t r a t e s paid than it was twenty y e a r s ago. T h e s e data on the f a r m c r e d i t situation a r e evidence that a g r i c u l t u r e is being adequately financed and that f a r m e r s a r e able to b o r r o w money at competitive r a t e s . If, as indicated, a g r i c u l t u r e is being financed at r e a s o n a b l e r a t e s , do we have a f a r m c r e d i t p r o b l e m , or is it limited to c o m m e r c i a l bank p r o b l e m s of financing a g r i c u l t u r e ? suggest the l a t t e r . The data s e e m to The volume of n o n - r e a l e s t a t e f a r m c r e d i t by c o m m e r c i a l banks has a l r e a d y declined to a s e c o n d a r y position in some states. In c o n t r a s t , p r i o r to the G r e a t D e p r e s s i o n of the 1930s banks w e r e the only institutional l e n d e r s of i m p o r t a n c e in this field. In the late 1930's the P r o d u c t i o n Credit A s s o c i a t i o n s and the F a r m e r s ' Home A d m i n i s t r a t i o n ( F a r m Security A d m i n i s t r a t i o n ) had begun to supply s u b s t a n t i a l quantities of s h o r t - t e r m c r e d i t to f a r m e r s . The c o m m e r c i a l b a n k s 1 s h a r e of all s h o r t - t e r m f a r m c r e d i t by institutional - 9 l e n d e r s had declined to 57 p e r cent of the total in 1939. The r e m a i n i n g 43 p e r cent included holdings of 30 p e r cent by the P C A ' s and 13 p e r cent by the F a r m e r s ' Home A d m i n i s t r a t i o n . Following World War II c o m m e r c i a l banks w e r e in a highly liquid condition and e a g e r to a c q u i r e additional l o a n s . As a r e s u l t of this liquid condition plus a rapid i n c r e a s e in f a r m c r e d i t demand, t h e i r holdings of s h o r t t e r m f a r m loans r o s e rapidly. By 1952 the banks 1 s h a r e had i n c r e a s e d t o 76. 8 p e r cent of the $4, 1 billion outstanding to r e p o r t i n g l e n d e r s . The s h a r e of s h o r t - t e r m f a r m loans held by banks turned down, however, in 1952 and the relative decline continued through 1967. Nationally the banks 1 s h a r e of the total declined from 76. 8 p e r cent in 1952 to 69 p e r cent in e a r l y 1967. The PCA p r o p o r t i o n had i n c r e a s e d from 13. 8 p e r cent to 24 p e r cent during the p e r i o d . Little change o c c u r r e d in the s h a r e s held by F e d e r a l I n t e r m e d i a t e C r e d i t Banks, while the s h a r e held by the F a r m e r s 1 Home A d m i n i s t r a t i o n declined. By e a r l y 1967 banks had been r e p l a c e d as the leading institutional l e n d e r of s h o r t - t e r m f a r m c r e d i t in seven s t a t e s . In c o n t r a s t , banks w e r e the leading institutional s u p p l i e r s of such c r e d i t in all s t a t e s only ten y e a r s e a r l i e r . Looking at r a t e s of growth during the past ten y e a r s , banks have m o r e than doubled t h e i r s h o r t - t e r m f a r m c r e d i t outstanding, while the growth of such c r e d i t held by the P C A ' s has m o r e than ~ 10 tripled. In d o l l a r amount, however, such holdings by banks continued to i n c r e a s e f a s t e r , rising $ 4 . 4 billion c o m p a r e d with a gain of $ 1 . 9 billion for P C A ' s , T h e s e data a l l point to the fact that P C A ' s a r e rapidly becoming a m a j o r c o m p e t i t o r to banks in supplying n o n - r e a l e s t a t e c r e d i t to f a r m e r s . C o m m e r c i a l banks have h i s t o r i c a l l y held only a s m a l l portion of the f a r m r e a l e s t a t e debt. At the beginning of 1967 all operating banks held only 14 p e r cent of all f a r m m o r t g a g e c r e d i t , a slightly s m a l l e r p e r cent than ten y e a r s e a r l i e r . Thus banks can look b a c k on a s m a l l r e l a t i v e decline in f a r m r e a l e s t a t e c r e d i t and a g r e a t e r r e l a t i v e decline in n o n - r e a l e s t a t e f a r m c r e d i t . The facts with r e f e r e n c e to f a r m c r e d i t so far indicate that f a r m e r s a r e not only being supplied with c r e d i t at r e a s o n a b l e r a t e s , but that the competition for f a r m c r e d i t is so g r e a t that banks a r e losing in the s t r u g g l e to maintain t h e i r r e l a t i v e position of r e c e n t y e a r s . I do not believe that the r e l a t i v e decline of c o m m e r c i a l bank c r e d i t to f a r m e r s can be t r a c e d to a s h o r t a g e of funds in the banking s y s t e m as a whole. F o r e x a m p l e , a l a r g e portion of the f a r m c r e d i t supplied by the P C A ' s and the F e d e r a l Land Banks has come from the commercial banks. At the close of last y e a r banks held about $6. 5 billion of n o n - i n s u r e d government agency i s s u e s , a l a r g e p a r t of which w e r e FICB d e b e n t u r e s and F L B b o n d s . against cooperative farm credit. This is not a complaint On the c o n t r a r y , I would suggest ~ 11 that the evidence points to the possibility that t h e s e a g e n c i e s have done a m o r e efficient lending job by p u r c h a s i n g funds from banks at wholesale r a t e s and retailing t h e m out to f a r m e r s than has the banking s y s t e m through d i r e c t l o a n s . In looking at c o m m e r c i a l banks to d e t e r m i n e why they a r e not gaining f a r m c r e d i t r e l a t i v e to other a g e n c i e s , t h r e e p r o b l e m a r e a s are apparent. I would classify them as follows: (1) p r o b l e m s a r i s i n g at the individual bank level, (2) bank s t r u c t u r a l p r o b l e m s , and (3) legal r e s t r i c t i o n s . F i r s t l e t ' s take a look at some individual bank p r o b l e m s . It i s quite obvious from the data that a n u m b e r of banks a r e about "loaned up," given the set of conditions under which they a r e c u r r e n t l y o p e r a t i n g . A F e d e r a l R e s e r v e S y s t e m survey of bank c r e d i t to a g r i c u l t u r e in m i d 1966 indicated that 30 p e r cent of all f a r m banks in the nation had loant o - d e p o s i t r a t i o s in e x c e s s of 60 p e r cent and 10 p e r cent of such banks had l o a n - t o - d e p o s i t r a t i o s exceeding 70 p e r cent. Given the legal r e q u i r e m e n t s for g u a r a n t e e i n g c e r t a i n public accounts and the need for d a y - t o - d a y liquidity, it is a p p a r e n t that a s u b s t a n t i a l n u m b e r of f a r m b a n k s , e s p e c i a l l y those with 70 p e r cent l o a n - t o - d e p o s i t r a t i o s , a r e s h o r t of liquid a s s e t s . F u r t h e r confirming the "loaned u p " t h e s i s is the fact that o n e - s i x t h of all f a r m banks in the nation r e p o r t e d difficulty in m e e t i n g f a r m financing r e q u e s t s from t h e i r own r e s o u r c e s . About - 12 one-eighth of all banks in the Eighth F e d e r a l R e s e r v e D i s t r i c t s i m i l a r l y r e p o r t e d difficulty in meeting f a r m c r e d i t r e q u e s t s . P r i o r to rushing out with m a j o r p r o g r a m s for the solution of this p r o b l e m , however, we should take a n o t h e r look at the situation. Surely one i m p o r t a n t factor in meeting c r e d i t r e q u e s t s is the p r i c e c h a r g e d on loans - - i n t e r e s t r a t e s . If the r a t e s c h a r g e d a r e below the going r a t e for s i m i l a r l o a n s , one would expect an e x c e s s of r e q u e s t s and obviously all r e q u e s t s could not be handled, i . e . , rationing b e c o m e s n e c e s s a r y . On the other hand, if the p r i c e paid for loanable funds such a s t i m e and savings deposits is below the going r a t e , it is r e a s o n able to expect a s h o r t a g e of incoming money. One way of looking at the supply side of the c r e d i t m a r k e t is to imagine yourself a wholesale merchant. If his offering p r i c e for apples is somewhat below the going r a t e but his asking p r i c e is the c u r r e n t m a r k e t p r i c e , he will find his opportunities for selling to be about n o r m a l , but his w a r e houses will soon be empty b e c a u s e his p u r c h a s e s will decline. The da.ta indicate that many c o m m e r c i a l banks a r e trying to o p e r a t e in a m a n n e r s i m i l a r to that of the wholesale apple m e r c h a n t . Of the 175 banks in the Eighth F e d e r a l R e s e r v e D i s t r i c t which r e p o r t e d difficulty in m e e t i n g f a r m c r e d i t r e q u e s t s , 119, or t w o - t h i r d s of the total, w e r e paying well below the m a x i m u m p e r m i s s i b l e r a t e s on - 13 savings in m i d - 1966. It s e e m s a p p a r e n t that funds will be lost to other agencies and other geographic a r e a s if the local offering p r i c e is not at generally competitive r a t e s . I might mention that t h e . P C A ' s , the banks 1 leading c o m p e t i t o r in supplying s h o r t - t e r m f a r m c r e d i t , w e r e paying well above 5 p e r cent for t h e i r funds l a s t y e a r . P a r t of the individual bank p r o b l e m in the f a r m c r e d i t field is probably a s s o c i a t e d with motivation and quality of p e r s o n n e l . When I o b s e r v e bank s t a t e m e n t s which show low l o a n - t o - d e p o s i t r a t i o s and note the high rate of growth of non-bank loans to f a r m e r s in t h e i r c o m m u n i t i e s , I can only a s s u m e that the b a n k e r d o e s n ! t c a r e for the additional b u s i n e s s . P e r h a p s m o r e competition among financial a g e n c i e s is d e s i r a b l e in such c o m m u n i t i e s . In other i n s t a n c e s the quality of p e r s o n n e l in the competing agencies a p p e a r s to be the deciding factor. Most of the non-bank f a r m c r e d i t a g e n c i e s a r e staffed by w e l l - t r a i n e d f a r m c r e d i t s p e c i a l i s t s . Banks in r u r a l c o m m u n i t i e s m a y a l s o find it advantageous to obtain s p e c i a l i s t s in f a r m c r e d i t , j u s t as banks in n o n - f a r m a r e a s have c r e d i t s p e c i a l i s t s . This would be a m a j o r step in equalizing bank opportunities in the f a r m c r e d i t field. Second to individual bank p r o b l e m s in m e e t i n g f a r m c r e d i t competition I would place bank s t r u c t u r a l p r o b l e m s . Some banks grow at rapid r a t e s while others grow at s l o w e r r a t e s . The - 14 capitalization and c r e d i t needs of m o s t f a r m s a r e i n c r e a s i n g at a v e r y high r a t e . As a r e s u l t , many f a r m s a r e becoming i n c r e a s - ingly difficult for the local banks to finance b e c a u s e of size alone. Some banks a r e located in low savings and high c r e d i t demand a r e a s . Since loanable funds of banks a r e g e n e r a l l y obtained locally, t h e s e banks may not be able to obtain sufficient funds at competitive r a t e s to m e e t t h e i r f a r m c r e d i t r e q u e s t s at going r a t e s . A banking s y s t e m which moved funds freely throughout the nation from high savings to high demand a r e a s would apparently be m o r e efficient in meeting all credit demands. In the a b s e n c e of a nationwide banking s y s t e m we a t t e m p t to ta,ke c a r e of t h e s e local fund s h o r t a g e and overline p r o b l e m s through c o r r e s p o n d e n t banking. Individual overline r e q u e s t s have probably been handled through the banking s y s t e m with g r e a t e r efficiency than local demands which ha/ve r e s u l t e d from o v e r - a l l liquidity s h o r t a g e s . About one bank in seven r e p o r t e d to the F e d e r a l R e s e r v e S y s t e m of having r e c e i v e d overline r e q u e s t s during the 12 months ending in June 1966. Of the s m a l l e r banks (those with c a p i t a l and s u r p l u s of l e s s than $300, 000) m o r e than a fourth received overline r e q u e s t s during the y e a r . I believe that m o s t l a r g e c o r r e s p o n d e n t banks a r e e a g e r to p a r t i c i p a t e with t h e i r c u s t o m e r s in handling overline demands of farmers. On the other hand, I know of i n s t a n c e s w h e r e s m a l l e r banks - 15 p r e f e r r e d not to be b o t h e r e d with such c r e d i t , and the loans w e r e eventually made by non-bank a g e n c i e s . How m u c h of the f a r m c r e d i t b u s i n e s s banks have lost b e c a u s e of p r o b l e m s of this type I do not know. If we w e r e f a r m e r s , I wonder how long we would give the b a n k e r to reply to c r e d i t r e q u e s t s when we knew that someone else who had the m e a n s to m e e t all our c r e d i t demands was ready to give us a favorable h e a r i n g . With f a r m s i n c r e a s i n g in size and capitalization at such a fast r a t e , it is inevitable that p a r t i c i p a t i o n r e q u e s t s will r i s e . I believe that the banking s y s t e m will r i s e to the occasion and m e e t a c o n s i d e r a b l e portion of such requests. On the o t h e r hand, u n l e s s many banks make p r e p a r a t i o n s to avoid u n n e c e s s a r y delays in meeting overline r e q u e s t s , the banking s y s t e m will probably continue to lose many overline c u s t o m e r s . The other p a r t of the bank s t r u c t u r a l p r o b l e m , n a m e l y , a r e a s which a r e s h o r t on loanable funds at going r a t e s , may r e q u i r e solutions outside the c o m m e r c i a l banking s y s t e m in some i n s t a n c e s . Loanable funds and debt i n s t r u m e n t s do not move through the banking s y s t e m as freely as we would like. F e d e r a l funds, c e r t i f i c a t e s of deposit, and other i n s t r u m e n t s move quite freely among the l a r g e r banks and provide an opportunity for liquidity a d j u s t m e n t s . Federal funds a l s o move quite readily from the s m a l l e r to the l a r g e r b a n k s . However, it is the s m a l l e r banks in the a r e a s which a r e chronically - 16 s h o r t on c r e d i t that may have difficulty in financing f a r m c r e d i t demands. A l s o , the c e r t i f i c a t e s of deposit of s m a l l e r banks a r e not as m a r k e t a b l e as those of l a r g e r b a n k s . Unfortunately, the c o r r e s p o n d e n t banking s y s t e m does not work as well as we would like in t h e s e s i t u a t i o n s . Different c r e d i t s t a n d a r d s among banks p r e v e n t the free m o v e m e n t of c u s t o m e r s 1 notes from bank to bank. We do not have i n s u r a n c e policies available for m o s t types of loans in c a s e of default. Since banks in c r e d i t - d e f i c i t f a r m a r e a s a r e likely to be loaned up, they have few a s s e t i n s t r u m e n t s o t h e r than notes for exchanging, and exchanging notes from s m a l l to l a r g e banks has been l e s s than s a t i s f a c t o r y in providing a u n i f o r m national f a r m c r e d i t m a r k e t . N e v e r t h e l e s s , I believe t h a t m o r e c o o p e r a t i o n within the banking s y s t e m toward the solution of this p r o b l e m would be profitable. It has been suggested that a s y s t e m of f a r m c r e d i t discount banks be o r g a n i z e d for discounting the p a p e r of c o m m e r c i a l b a n k s . T h e s e discount banks would apparently obtain funds by selling debt i n s t r u m e n t s in the money m a r k e t s i m i l a r to F e d e r a l I n t e r m e d i a t e C r e d i t Bank o p e r a t i o n s . I a m not s u r e , however, that we have exhausted the facilities that a r e in existence for distributing funds to r u r a l a r e a s . The F e d e r a l I n t e r m e d i a t e C r e d i t Banks w e r e originally designed for • 17 this p u r p o s e . Most b a n k e r s have looked upon the F I C B s as the exclusive discount agency for the P C A s . The officials at the local I n t e r m e d i a t e C r e d i t Bank, however, informed m e that they a r e d i s counting f a r m notes for c o m m e r c i a l b a n k s . willing to expand such discounting. I believe that they a r e They r e p o r t that the t e r m s a r e g e n e r a l l y the s a m e for c o m m e r c i a l banks as for the P r o d u c t i o n Credit Associations. If the facilities of the I n t e r m e d i a t e Banks a r e capable and willing to do the job, and I believe they a r e , then I think that they should be used by those c o m m e r c i a l banks that a r e willing to pay money m a r k e t r a t e s for loanable funds. Only if we t r y the F I C B ' s and find t h e m unable to do the job do I suggest new a g e n c i e s for channeling funds from money m a r k e t s to r u r a l b a n k s . Ultimately all loanable funds m u s t come f r o m savings and the s m a l l i n c r e m e n t s c r e a t e d through the banking s y s t e m by m o n e t a r y o p e r a t i o n s . T h u s , an agency a l r e a d y in e x i s t e n c e for channeling such savings would a p p e a r to be s t r o n g e r and m o r e efficient than a new agency, if its policies a r e sufficiently flexible. The t h i r d c a t e g o r y of bank p r o b l e m s in meeting f a r m c r e d i t d e m a n d s involves legal r e s t r i c t i o n s . In s o m e r e s p e c t s legal r e s t r i c t i o n s a r e s i m i l a r to bank s t r u c t u r a l p r o b l e m s , since both r e t a r d flows of loanable funds through the national m a r k e t . - 18 The type of r e s t r i c t i o n s to which I r e f e r a r e those which l i m i t the r a t e s that banks m a y pay and c h a r g e for funds. When m a r k e t r a t e s a r e below the legal l i m i t s , the l e g a l r e s t r i c t i o n s a r e not effective. On the o t h e r hand, when m a r k e t r a t e s r i s e above the legal l i m i t s , legal r e s t r i c t i o n s can be damaging, both to the banks involved and to s o m e s e c t o r s of the economy. When c o m m e r c i a l banks a r e unable to pay r a t e s c o m p a r a b l e v/ith other financial i n t e r m e d i a r i e s on t i m e and savings d e p o s i t s , banks tend to lose deposits to t h e s e i n s t i t u t i o n s . As a r e s u l t , potential b o r r o w e r s from banks a r e the u l t i m a t e l o s e r s . When l i m i t s a r e placed on r a t e s paid by all financial a g e n c i e s , savings tend to move d i r e c t l y from, s a v e r s to u s e r s , thus bypassing our efficient lending a g e n c i e s and thereby c r e a t i n g m a j o r inefficiencies in the loan m a r k e t s . M a x i m u m l i m i t s on loans c r e a t e p r o b l e m s s i m i l a r to the l i m i t s on s a v i n g s . F o r e x a m p l e , t h e r e is a legal limit of 6 p e r cent on single payment loans in one s t a t e of the Eighth F e d e r a l R e s e r v e D i s t r i c t and a limit of 7 p e r cent in a n o t h e r s t a t e . When such l i m i t s a r e set below the m a r k e t r a t e , as d e t e r m i n e d by supply and demand conditions for loanable funds, e i t h e r c r e d i t rationing or a tendency to b y p a s s the r e g u l a t i o n s o c c u r s . Banks m a y p u r c h a s e loans made in other a r e a s which yield h i g h e r r e t u r n s , or they m a y d i v e r t money f r o m single payment farm loans to i n s t a l l m e n t loans at h i g h e r r a t e s of r e t u r n . - 19 If c r e d i t rationing o c c u r s , the banks will be likely to supply funds to the v e r y l o w - r i s k applicants until all loanable funds a r e depleted. t o obtain c r e d i t . All h i g h e r - r i s k b o r r o w e r s will thus be unable In e i t h e r the c a s e of c r e d i t rationing or of b y - p a s s i n g the r e s t r i c t i o n s , the p o o r e r and h i g h e r - r i s k f a r m e r s who the r e s t r i c t i o n s w e r e designed to p r o t e c t a r e damaged m o s t , for c r e d i t is unavailable to t h e m . So long as the b a s i c supply and demand situation with r e s p e c t to loan and i n v e s t m e n t funds p r o d u c e s high g e n e r a l i n t e r e s t r a t e s , 'it is n e c e s s a r y for the c o m m e r c i a l banks to go along with these trends. Banks m u s t both pay high r a t e s and c h a r g e high r a t e s if they a r e to p e r f o r m t h e i r function in the economy. In many ways the high and i n c r e a s i n g g e n e r a l level of i n t e r e s t r a t e s is disruptive and u n d e s i r a b l e . But if the g e n e r a l level of r a t e s needs to be kept down, total demand for loanable funds m u s t be reduced. Public policy can a c c o m p l i s h this only by influencing the supply and demand situation with r e s p e c t to the total product of the economy. The only way we know to a c c o m p l i s h this is by a m o r e r e s t r i c t i v e F e d e r a l budget and a somewhat l e s s rapid m o n e t a r y expansion. In conclusion, we have a v e r y efficient a g r i c u l t u r a l industry in the United S t a t e s . competitive r a t e s . Apparently, f a r m e r s a r e receiving c r e d i t at C o m m e r c i a l b a n k s , however, have declined s o m e - what from t h e i r e a r l i e r position as the p r e d o m i n a n t s u p p l i e r of f a r m ~ 20 credit. S e v e r a l factors may have r e s t r a i n e d the r a t e of bank c r e d i t growth to f a r m e r s . Such factors may include lack of p r o p e r p e r s o n n e l , bank s t r u c t u r a l p r o b l e m s , and legal r e s t r i c t i o n s on b a n k s . I b e l i e v e , however, that we should fully utilize existing institutions and a t t e m p t to reraove some l e g a l r e s t r i c t i o n s both on r a t e s c h a r g e d and r a t e s paid before proposing additional a g e n c i e s . I don't believe that we have exhausted t h e s e opportunities at the present time. TABLE I P e r Cent of Population Employed in A g r i c u l t u r e in Selected Nations P e r Cent J a p a n (1966) 24.2 Norway (1966) 18.6 Switzerland (I960) 10. 1 Iceland (1964) 14.0 United States (1965) 6.1 Italy (1966) 24. 7 P o r t u g a l (I960) 42.3 D e n m a r k (I960) 17. 5 Canada (Oct. 1966) ?,. 5 I r e l a n d (Apr. 1965) 32. 2 G r e e c e (196l) 49.0 G e r m a n y (1965) 10. 9 S o u r c e : Economic S u r v e y s , Organization for Economic Cooperation and Development, P a r i s , 1967. T A B L E II I n t e r e s t Rates on Selected Loans and S e c u r i t i e s Rat.2 S Increase 1945-65 1945 1965 F a r m loans Nonreal estate PCA C o m m e r c i a l banks Real e s t a t e - F e d e r a l Land Banks 5. 40 % 6.30 4.00 6.60 % 7. 10 5.60 Other loans Bank b u s i n e s s loans Prime commercial All s h o r t - t e r m FHA new home m o r t g a g e s 1.50 2.20 4.50 4. 50 5. 00 5.47 200 127 22 Securities 3-month T r e a s u r y bills 3 - to 5 - y e a r U. S. Government bonds C o r p o r a t e Aaa bonds H i g h - g r a d e municipal bonds F e d e r a l Land Bank bonds I n t e r m e d i a t e C r e d i t Bank d e b e n t u r e s 0.375 1. 18 2.62 1.67 , 1.36-i/ 0.88 3.954 4.22 4.49 3.27 4.32 4.47 954 258 71 96 218 408 22 % 13 40 1/ 1946. S o u r c e s : Rates on f a r m c r e d i t from USDA; FHA new honie m o r t g a g e yields from 1964 Supplement to Economic I n d i c a t o r s and F e d e r a l R e s e r v e Bulletin; all other data from Economic Report of the P r e s i d e n t , J a n u a r y 1966.
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