Inflation and Agricultural Interest Rates

Recently, there has been a lot of buzz regarding the increase in interest rates on agricultural loans due to the Federal Reserve’s decision to raise rates to combat increased inflation. However, the current inflationary period has caused a lot of uncertainty regarding future interest rates, making it challenging for farmers to plan effectively. Therefore, we decided to examine historical data to provide a better understanding of how inflation and interest rates on agricultural loans correlate.

Inflation Rates

From the early ’80s, a high period of inflation, they declined to relatively low levels from 2000 onwards. However, from 2010 to 2019, headline inflation averaged 1.9%, which was remarkable, given the monetary and fiscal policies implemented over that period. In response to the 2008 financial crisis, the Federal Reserve implemented an accommodative monetary policy, resulting in low-interest rates. This was coupled with the Quantitative Easing (QE) program, which provided liquidity to the market by buying Treasuries and other assets. Federal deficits also averaged 4.8% of GDP, making fiscal policy expansionary.

Headline inflation in recent years increased, reaching a high of 6.6% in September 2021, the highest level since the early ’80s. This inflationary period can be attributed to various factors, including the Covid-induced recession, significant Federal deficits throughout 2020 and 2021, and increased energy and agricultural commodity prices due to the Ukraine-Russia conflict. However, by increasing interest rates, the Federal Reserve has attempted to return to a target inflation rate of 2%, roughly the same as from 2010 to 2019.

Interest Rates

Interest rates on agricultural loans have been affected by historical inflation and interest rate spreads. For instance, if the Federal Reserve achieves its 2% inflation goal, interest rates on agricultural operating loans could be between 6% and 8.2%, roughly at current levels. However, higher interest rates may be necessary if high inflation rates persist.

We have evaluated historical relationships between three series to provide an accurate projection. These include the Consumer Price Index for urban consumers, excluding food and energy (used to measure inflation), the Ten-year Constant Maturity (Ten-year CMT) US Treasury bond rate (used to measure general interest rates across the US economy), and variable rates on agricultural operating notes in the Tenth Federal Reserve District (representing agricultural rates).

Related Facts

• Supply chain disruptions have been responsible for a significant portion of recent inflationary pressures.
• The labor market’s impact on inflation is still unclear; while supply chain disruptions could be transitory, a tight labor market may sustain elevated prices.
• The inflationary expectations in the US do not appear to be affected by the tapering of QE and the policy rate remaining close to zero.

Key Takeaway

Since the future inflation rate is not entirely predictable, planning for various interest rate scenarios is critical. Furthermore, it is always wise to consult with experts in the field when deciding on the best course of action.

Conclusion

The current inflationary period has created uncertainty regarding future interest rates, particularly for farmers. However, our historical analysis shows that different inflation rate scenarios heavily influence interest rates on agricultural loans. Therefore, it is crucial to keep an eye out for the inflation rate and make plans accordingly.