The Import of Exports

By Dave Juday

Concerns about the longer-term impacts of trade policy disputes and negotiations this past year have raised the inevitable comparison to the 1980 U.S. grain embargo. “Everyone always asks me,” says Nate Franzen, president of the agribusiness division for First Dakota National Bank in Yankton, S.D., “is this another 1980s scenario?” Indeed, the 1980 grain embargo hobbled the farm economy for years to follow and left an indelible mark on the collective psyche of American agriculture.

There are similarities to the 1980 embargo and the current trade environment. In both cases, trade policy decisions were interwoven with foreign policy. Back in 1980, it was Russia’s military intervention in Afghanistan that led President Jimmy Carter to suspend grain shipments to the then-USSR. Earlier this year, President Trump announced across-the-board tariffs on imported aluminum and steel under Section 232 of the 1962 Trade Act after a nearly year-long investigation by the Commerce Department determined that the volume of steel imports did indeed “threaten to impair the national security.”

That action led to retaliatory tariffs imposed by a number other countries, including Mexico, Canada and the European Union. Additional tariffs escalated the tension, and U.S. agriculture—the nation’s leading trade surplus industry—has borne the brunt of the retaliation.

Both the 1980 unilateral grain embargo and this year’s trade battles occurred during a period of tightening monetary policy, though much different in scope. In 1980, the Fed was aggressively fighting double-digit inflation and the federal funds rate reached a high of 20 points that year. Today, however, we’re experiencing “much more of a slower grind with tightening” by the Fed, observes Franzen. The year began with the federal funds rate at 1.5 percent.

The biggest difference between then and now may lie in the end game. “With these trade tactics, the president has goals he’s trying to get accomplished,” notes Franzen. “In the end, we could have better trade.” To be sure, a breakthrough in the trade tensions that leads to better market access would certainly shorten the tail of market disruption, compared to the Carter-era embargo. Nonetheless, the punch and counter-punch nature of the present trade environment has made it difficult for farmers and their lenders to navigate a volatile commodities market.

“Something can just get tweeted out and prices move one way or the other,” says Shan Hanes, president and CEO of Heartland Tri-State Bank in Rolla, Kan. “We just can’t plan; that’s the frustrating part.”

Mike Budach, VP and senior ag loan officer at Farmers State Bank of Hartland in southen Minnesota, shares that frustration. “We don’t know where it is heading,” he says. “Borrowers who had positive cash flow projections at the beginning of the year have taken a hit on prices.”

While volatile markets are nothing new for farmers and ranchers, the trade dispute adds a new element of uncertainty vastly complicating farmers’ marketing decisions. According to Budach, “I have plenty of farmers with old crop grain on hand, but since these tariffs have been in place, they have been holding it. They will have to get rid of it though, because they don’t have enough storage for the new crop.”

One of the crops most affected by the tariff fight with China has been soybeans. China purchases about a quarter of the U.S. crop. The new duties on U.S. soybeans resulted in canceled orders for 2018 and 2019. While the tariffs and lowered shipments were priced into futures, the market was also pressured into structural change. “Most of our soybeans get put on rail and shipped west to be exported to China,” says Franzen. “All that inventory that typically goes west will have to go elsewhere and that will widen the basis and really impact the cash prices.”

Another casualty of the trade war is U.S. pork, where more than a quarter of all production is sold overseas. For context, no country has ever shipped more pork—800,000 metric tons—to another country than did the U.S. to Mexico in 2017. China and Hong Kong make up the largest market for variety meat products, last year accounting for 63 percent of exports and 45 percent of production. According to U.S. Meat Export Federation economist Erin Borer, in 2017 total muscle cut and variety meat exports to Mexico added about $14.76 per head ($5.18 per cwt) and shipments to China and Hong Kong added about $10.51 per head ($3.69 per cwt).

The trade policy shock to the hog and pork sector is not only rippling through the feed sector. It affects other proteins such as broilers and beef in the domestic market. As Hanes notes, the disruption to the hog sector spills over to his cattle producer customers, who typically rely on five-year loans. Moreover, with a bearish hog market, planned construction of new hog barns have also been put on hold, deferring loans to both growers and the firms that construct them and supply building materials. Of course, to bring the economic effects full circle, prices for steel used in livestock barns have also increased due to the new U.S. tariffs.

In late July, the U.S. Department of Agriculture announced that up to $12 billion would be available to mitigate the impact of the tariffs and lost markets. But according to Hanes, not enough details were known to factor into lending decisions for farmers making planting decisions for fall crops, typically done months in advance. In fact, in announcing the relief package, USDA Deputy Administrator for Farm Programs Brad Karmen stressed that this year’s crops would have to be harvested before payments could be calculated.

“We don’t know where this is all headed,” says Budach. Moving forward, he says, “we probably will have to be collateral lenders versus cash flow lenders, and will have to make loans on the basis of good farm management track records.”

As Franzen puts it: “Ag is cyclical and before the tariffs margins were already getting tighter. We’ve been talking to our customers for a year already about how to reduce the risk and damage and figure out how do we get across the finish line.”

Dave Juday is a commodity market analyst and the principal of the Juday Group.