ECONOMY & TRADE. INFRASTRUCTURE. CONSUMER SENTIMENT. THIS REPORT SPOTLIGHTS THE MOST IMPORTANT FACTORS AT PLAY AND HOW THEY MIGHT IMPACT YOUR BUSINESS.
published February 2019
The growing U.S. economy is about maxed out, according to a number of analysts. For the past nine and a half years, the U.S. economy has been expanding. Unemployment has been on the decline, gross domestic product (GDP) is up, and inflation and interest rates have remained low. While growth remains, sectors from manufacturing to energy report a slowing.
Let’s start with unemployment. In 2018, unemployment rates reached the lowest numbers seen since the mid 1970s — reaching as low as 3.7% and closing out the year at 3.9%. What does this really mean about the U.S. workforce?
The U.S. has a civilian workforce of about 162 million people, of which 155 million are working. To give this some perspective: In 1990, the civilian workforce was 125 million, of which 118 million were working. Since then, the United States has added 37 million workers, or an additional 1.28 million workers each year.
Looking ahead, the unemployment rate in the United States is expected to be 3.8% at the end of the first quarter 2019 and stand at 3.7 this time next year. Longer-term, that rate is projected to increase to about 5% in 2020, according to econometric models.
While the economy is a bright spot, for those looking to hire, the labor market is a constraint. In fact, it’s so tight that companies report unfilled positions and that they are actually keeping employees on during demand lulls for fear that when demand returns they won’t be able to find the help needed. This also means employees are asking for more compensation and employers are paying it.
Finding skilled labor is a challenge and one that restricts economic growth.
Action 1: Put together a 5- to 10-year talent acquisition and retention plan.
According to Larry DeBoer, a Purdue University agricultural economist, real GDP is limited by the growth of the labor supply and the growth of labor productivity. He anticipates real GDP growth of 1.4% based on growth rates since the recession, or 2.1% using more recent growth rates.
However, at a Money Marketers meeting in New York City at the beginning of 2019, Federal Reserve Vice Chairman Richard Clarida said he expects the above-trend growth to continue into 2019. If growth continues through July, it would make the current expansion period the longest in recorded U.S. history.
What’s driving this growth is up for debate. Some cite President Trump’s business tax reform, allowing companies to invest more of their earnings. Some cite increased government spending, particularly on military and defense. Others cite continued low interest rates and positive consumer spending and sentiment.
Key sectors contributing to the growth of the U.S. economy are: healthcare with a 20% growth in jobs since 2008 (health spending accounted for 17.9% of U.S. GDP in 2016); technology with employment projected to grow 13% from 2016 to 2026; construction is expected to add nearly 750,000 new jobs and grow by 11% from 2016 to 2026; retail, which accounts for 6% of the nation’s GDP with a value of $905 billion; and nondurable manufacturing with a GDP value added of $821 billion, or 6% of the national GDP, and employing 4.4 million people.
A growing economy also means a growing supply of goods and products that need to be transported from producers or manufacturers to consumers and end users. According to the American Trucking Associations, U.S. freight transportation was projected to grow 4.2% in 2018 and increase 35.6% by 2029.
“The movement of goods is such a critical component of our economy, and the growth we’re projecting in freight demand is a reflection of its strength,” said Bob Costello, chief economist for the American Trucking Associations.
The most recent data shows nearly 14 billion tons are transported in the United States by truck, rail, pipeline, water and air.
In 2018, trucks moved about 70% of total U.S. freight with rail, including intermodal, accounting for 12.6% of tonnage. The addition of more pipeline is expected to alleviate some of the pressure on trucking and rail carriers long term. However, even with the additional capacity, by 2027 total tonnage to be transported is forecast to increase with rail intermodal seeing most of that growth, followed by air and then trucking.
It’s a driver’s market. Demand for qualified drivers outstrips supply. Drivers are in a good position to negotiate contractual terms. If you need to move product, book transportation well in advance to ensure timely delivery. Flexibility is not the name of the game at this moment in time, according to logistics experts.
Action 2: Book freight and shipping of seed and products well in advance.
Aside from GDP, two other factors that must be considered are inflation and interest rates. Clarida said the Federal Reserve looks to implement monetary policy that will sustain economic growth and maximum employment at levels consistent with its 2% inflation objective. In November and December 2018, consumer inflation was 1.9%; whereas, core inflation (which excludes food and energy sectors due to volatility) was 1.88%. Not much change is expected there since the numbers are right near the Federal Reserve’s target.
Where you can expect to see more change is with interest rates. The strong economy has given the Federal Reserve the cover it needs to accelerate its pace of interest rate increases.
In December 2008, the Federal Reserve lowered its funds rate for the 10th time in a little over a year to .25%, the lowest in history. It didn’t raise rates until December 2015. The target rate is 2.5% — the sweet spot that helps to maintain a healthy economy is between 2% and 5%. During the past two years, we’ve seen incremental increases with one or two more expected in 2019. As of Jan. 16, 2019, the federal funds rate was 2.4%.
Of this, what impacts your business? Labor availability, wage policies, business tax reform — where will you invest resources?
Farm Economy
While the U.S. economy has been steaming ahead, the farm economy in America’s heartland has been less than positive. The Wall Street Journal and Politico reported that farm bankruptcies rose to the highest level in at least 10 years.
The U.S. Department of Agriculture published a new long-range price forecast that suggests farmers will continue to face depressed commodity prices and rising costs of production. 2019 marks the sixth consecutive year farmers will plant into a down market. The agricultural economy is now in a deep and prolonged recession.
Net farm income in 2018 fell to an anemic $66.3 billion compared to 2013 when it was $134.3 billion. Net farm income has dropped more than 50% since 2013, and seven in 10 farms have an operating profit margin in the “red zone,” indicating a high risk of financial problems.
USDA projects net farm income for the next five years will average $77.3 billion, still only 59% of pre-2014 levels.
Keep in mind that no two farms are alike; farmers are as diverse and different as the weather in the Midwest. As such, on-farm revenue is all over the board depending on the crop and rotation practice.
As an example, in his 2019 crop budgets Gary Schnitkey, an ag economist from the University of Illinois, had corn profitability ranging from $188 per acre on high productivity farmland in Central Illinois in a corn-after-soy rotation to $-22 per acre in Southern Illinois in a corn-after-corn rotation. That’s a $210-per-acre spread.
For wheat, the spread is even larger with a $250 difference. In Southern Illinois, revenue is projected at $-69; however, in Central Illinois on low productivity farmland, it’s projected at $181 per acre.
For soybeans, the spread isn’t near as wide but it’s still a huge gap. On high productivity farmland in Central Illinois, Schnitkey expects soybeans grown after two years of corn to net $197 per acre, whereas in Southern Illinois revenue for soybeans after two years of corn is expected to be $26 per acre.
What’s the cause of this? Part of it is cyclical, but when you look at the big picture, farmers see input costs moving higher and headwinds in trade demand.
When you look at farm price indexes, Basse said they’ve all been rising since 2008. He did however point to the price of seed corn, noting that it’s remained relatively flat during that time.
In the Midwest, the cost for seeds and plants farmers paid per operation peaked in 2013 at $13,386 and has since come down to $10,763 in 2017. One of the sectors in which farmers have seen the most increase comes from ag service, increasing from an average $11,154 per operation in 2008 to more than $17,000 in 2017, an increase of 54%. (Note: 2018 data was not available at the time of this report.)
Add eroding demand to the picture, due to a trade war with China and a quarrel with Canada and Mexico. President Trump’s proposed 25% tariff is approximately what it was during WWII. Since the 1940s, U.S. tariffs have generally ranged from 5% to 10%. Moving back to a 25% tariff on our biggest trading partner would be a really big deal, Basse said.
“Farmers in the Midwest provide food throughout the world,” said Jeff Bielicki, an assistant professor of civil, environmental and geodetic engineering at The Ohio State University. “If we shut down that ability for them to send their goods all over the place — if we invoke tariffs and counter-tariffs — then that really affects the demand for what they produce.”
Bielicki explained that as the trade war plays out, his research team has seen tariffs and counter-tariffs lead to a reduction in U.S. bilateral trade in agricultural commodities, especially in the Great Lakes region, where much of the corn and soybeans sent to China are produced. Because of tightly integrated supply chains, these effects could multiply and reverberate through multiple sectors of the economy.
Wheat Dynamics
Last year, Russia told its farmers that is was considering implementing wheat embargoes during the first part of 2019. As a result, Russia exporters pushed wheat out the door at a rapid pace, which kept price pressure on the rest of the world market. Now those supplies are no longer in Russia, and Basse expects to see some price recovery there. It has however impacted the price cycle of wheat on the global stage.
Typically, prices start lower in June and then rally to a peak in February and March, Basse explained. This year because of the rally to export Russian wheat, prices have been depressed but should start to lift in the first and second quarters of 2019. Basse added this could be somewhat of a bullish aspect for the corn market moving forward.
With a record drought in the EU, exports have been down dramatically (as of December, 32% from the prior year). Basse said the EU is using much of its wheat for feed because there’s not much alternative feedstocks for livestock. He forecasts the EU as being “quite skinny in terms of wheat exports.”
On the flip side, Basse pointed out that the EU is well above USDA’s expectations regarding its corn imports. The EU will compete with Mexico this year for the spot of top corn importer, Basse noted.
Basse included wheat in his corn stock-to-use ratios. “When I look at both of these combined, we are now at our lowest level at 15.1% going back to 1996,” he said, noting that global corn trade looks good. “This is another reason why one can be neutral on corn.”
He also pointed out yields in Ukraine, China and the United States. In general, record yields offset a seedings drop in 2018.
“We are amazed to talk about the Ukrainian corn yields this year,” Basse said, referring to 2018. “They say its seed varieties with rain at just the right time that gave them this yield boost, but again, world corn yields did reach a record high.
“Their yields were somewhere around 103 bushels per acre, so there’s lots of upside potential there. They are well below the United States, but they are 17% above their prior record.”
2018 saw new forces at play, and 2019 looks to be no different.
In USDA’s recent World Agricultural Supply and Demand Estimates (Feb. 8, 2019) report, it put 2018 ending stocks at 910 billion bushels, down 45 million from the previous forecast. At one point, it was thought given acres and yields, the United States could exceed 1 billion bushels. With those kinds of stocks, Basse said it would take several years to destock before he could see the start of the next agricultural bull market.
Because of rising farm price indexes, growing interest rates and stagnant commodity prices, economists are concerned about the potential for an operational crisis on the farm. U.S. farmers are having more and more difficulty getting bankers to approve their borrowing requests.
Unlike farmers in the United States, Basse said farmers in Brazil are loving life. It depends on where you sit in the world as currency makes all the difference. Farmers in Brazil make money because of the poor valuation of the real. Brazilian farmers cheer when their government makes mistakes, he said, because it hurts the real and allows others around the world to buy more product — it actually increases demand for their products.
The big impact of this within agriculture was on soybeans during the last two quarters of 2018. Farmers in the Dakotas and in the Northern Plains took the brunt of the price hit because they ship soybeans through the P&W, and those markets were pretty much lost, Basse explained.
U.S. prices have since started to recover, while the price for soybeans in Argentina and Brazil have since come down. But if you look at export sales, the numbers are markedly down. For the week ending December 27, U.S. 2018/19 soybean export commitments to China totaled 4.3 million tons compared to 24.5 million a year ago. Furthermore, total commitments to the world were 31 million tons, compared to 41.1 million for the same period last year, according to USDA’s Foreign Agricultural Service. Accumulated soybean exports were at 16.9 million tons, 40% below the same period last year.
A consideration to note is that statements regarding trade and policies do impact farmers here at home and around the world. USDA won’t release its 2019 planting intentions report until the end of March, but soybean plantings are expected to be down.
CHANGES IN CHINA
Basse pointed out that at the end of 2018, China held about 61% of the world’s corn and wheat stocks. This, he said, is the result of giving one price far above the cost of production to farmers. Several years ago in China, you could produce a bushel of corn guaranteed at $9, and Chinese farmers produced as much as they could.
When the government buys it and can’t export it due to subsidies under WTO, those stocks rose to dramatic levels. China now looks to turn those stocks down. China is changing its farm programs so that the price of corn is somewhere closer to $6.70 per bushel. The point: China is finally destocking some. In 2018, the Chinese government auctioned off more than 102 million metric tons of corn.
Basse also said China is starting an ethanol program expected to burn 45 million metric tons a year. This is going to be big in 2021 or 2022 when China returns to the world as a corn importer.
“We just have to make sure that our farm clients make it to that time frame, so they understand and enjoy the profitability that then comes forward,” he said.
Action 3: Think about your relationship with businesses and/or farmers in China. Are you positioned for this growth opportunity? Do you want to be?
Opportunities & Headwinds
Climate change is bringing a warming of the poles. What does that mean? As the poles warm, the jet stream changes, becoming more agile. It means we have more stagnation, which creates problems for U.S. agriculture — it produces more droughts and more floods within the weather.
In 2018, Europe was very dry and so was Argentina — both at historic levels. Planting in those areas this coming year will be a real challenge. When you look to the Pacific and Atlantic, 2018 saw more hurricanes than in any other recorded year going back to 1900.
For the United States, 2019 is an El Nino year, meaning a good U.S. crop should be on the horizon, but Basse said there’s not a demand surge or anything to consume all the bushels being produced on the world stage.
In the 1970s and 1980s, the Russians entered the market and then biofuels kicked in adding another 157 million metric tons of additional grain demand, Basse said. In between these, seeding generally goes sideways. He thinks we are in one of those sideways periods again.
When you look at grains, wheat might be the shining star. Basse said the world is actually using and utilizing more wheat than it’s producing.
In the case of world wheat exports, wheat trade has increased 93 million metric tons since 2008. Prior to that, there was no growth. Due to demand, Russia needs to produce a big wheat crop every year. Basse said Russia’s agricultural market is starting to show signs of plateauing.
Basse also pointed out that if we look at the backbone of the wheat market (Russia, Ukraine and the European Union), they have just a 22.5-day supply of stocks as measured by USDA.
“I can’t be too bearish of wheat,” he said. “Wheat has a bullish story based on the supply losses in Russia, the Ukraine and the United States.”
With a record drought in the EU, exports have been down dramatically (as of December, 32% from the prior year). Basse said the EU is using much of its wheat for feed because there’s not much alternative feedstocks for livestock. He forecasts the EU as being “quite skinny in terms of wheat exports.”
On the flip side, Basse pointed out that the EU is well above USDA’s expectations regarding its corn imports. The EU will compete with Mexico this year for the spot of top corn importer, Basse noted.
Basse included wheat in his corn stock-to-use ratios. “When I look at both of these combined, we are now at our lowest level at 15.1% going back to 1996,” he said, noting that global corn trade looks good. “This is another reason why one can be neutral on corn.”
Conclusion
Uncertainty remains in 2019 as political statements and policies disrupt traditional trade dynamics. Mother Nature will also likely come to bare … but who knows when or where. Management teams should focus on controlling what they can and that’s increasing more and more with the adoption of new technologies and services.
Consumers continue to seek “healthy” foods and sustainable products. Any time you can authentically align your product and/or articulate your brand with that sentiment, it will resonate. Even Budweiser moved that direction with its Super Bowl ad campaign, hoping to resonate with consumers but putting corn farmers on the defense.
A focus on pollinators and soil health continues to gain momentum, on the ground with farmers and in company and NGO board rooms. How can you contribute to these discussions or the research happening here? Is there a chance to elevate your brand or your influence as an expert, either locally or nationally?
Globally, wheat is a bright spot and new breeding technologies will allow for yield advancements without being regulated as genetically-modified — at least in the United States, but we’ll have to see how other countries choose to regulate new products from those technologies. This could add to specialty wheat lines and further market segmentation for millers and bakers.
World stock-to-use ratios are the lowest they’ve been since 2012. The world outside of China doesn’t not have an abundance of corn that is going to put price pressure on corn. Corn will continue to see support from biofuels, especially as China brings more and more plants online and in production. Meanwhile, there’s a global soybean glut.
As competition for talent increases, those in the seed industry will need to be able to articulate the benefits of not only working in agriculture and on behalf of farmers, but for many this also means living in rural communities. What are the advantages and how can you differentiate your company from others? If you haven’t already, consider putting together a 5- to 10-year employee talent plan.
While the economy has witnessed strong growth of late, the infrastructure has not improved to meet demand. Make plans to transport and move product well in advance of the actual date needed.
The key to success in this market is being able to see the rainbow through the storm and planning for when that time comes.
