The Federal Reserve has raised interest rates twice in recent months and reaffirmed its intention to raise them twice more this year and three times next year. After years of cries of wolf about rate hikes, the wolf appears to be at the door. How concerned should farmers be?
If they take the Fed at its word, the answer is "somewhat, but not too much." The question is whether the Fed can stay true to its word.
The central bank says it intends to raise rates slowly and to stop at a level below historical norms. This cautious approach is based on forecasts that the economy will be growing at from 1.6% to 2.2% a year with inflation hovering at around 2% a year. If reality conforms to these forecasts, the benchmark Fed funds rate will rise in small increments to around 3% in 2019 from 1% now.
Farmers who borrow to finance their operations and land purchases would, naturally, rather see no increases at all. These years of extraordinarily low interest rates have been good for farmers' bottom lines. But no one doubts that sooner or later the Fed must bring back a more normal monetary policy. If it could proceed in easy stages and stop at around 3%, the hit to the ag economy would be minimized.
But what if the forecasts on which the Fed is basing its plans are too conservative? What if the economy booms and price increases accelerate? This more robust economic outlook -- call it Scenario B -- would inflict considerable pain on debtors. It would force the Fed to raise rates faster and to higher levels.
Here, then, is the rub: Financial markets are betting on Scenario B. The stock market has been strong. Bond yields are up. Investors seem confident Congress will play nice with President Trump and embrace tax reform, deregulation and big infrastructure spending. They find the Fed's forecast stodgy. A Wall Street Journal columnist accuses the Fed of "recency bias" -- of assuming, in other words, that because growth has been slow and inflation low these last several years, the next several years will bring more of the same (http://tiny.cc/…).
That said, the economic statistics betray no signs of a B-like growth spurt -- not so far, at least. Tax reform and infrastructure spending may someday stimulate the economy, but there's no telling when Congress will pass them and until the details are revealed, there's the risk these measures will underwhelm. It isn't hard to make the case that the markets have gotten ahead of themselves.
It would probably be better for the country as a whole if the markets were right and the Fed wrong. It wouldn't necessarily be better for agriculture, though. With ag commodity prices low and farm incomes shrinking, farmers could be forgiven for preferring a slower-growing economy and a kinder, gentler return to a normal monetary policy.
One thing is clear: If the Fed based its interest-rate policy on the ag economy rather than the general economy, interest rates would not go up at all.
Urban Lehner can be reached at firstname.lastname@example.org
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