Monday, April 22, 2024

Costs wave to break over farming

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A one-and-a-half percent rise in interest rates over the next year will be a large component of rapidly rising on-farm inflation.
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Beef + Lamb NZ chief economist Andrew Burtt says individual farmers will handle inflation with resourcefulness.

A one-and-a-half percent rise in interest rates over the next year will be a large component of rapidly rising on-farm inflation.

After a decade of low interest rates, the forecast increase in the Official Cash Rate (OCR) from 0.5% to 2% looks set to increase the interest portion of debt servicing by as much as one-third.

For individual farmers, the added interest cost will be dependent on total indebtedness and their mixture of fixed and floating rates.

The most recent Federated Farmers banking survey said the average farm mortgage rate was 3.8% and the average farm debt, across all types, was $4.3 million.

When the standard interest rate climbs to 5%, interest-only debt servicing will increase by $50,000 annually.

In the dairy industry, 1.5% higher interest across $40 billion equates to 33c/kg milksolids, or $600m more on annual debt repayments.

The Beef + Lamb New Zealand Economic Service New Season Outlook has not yet included a rise in interest rates in its farm accounts model, but it has forecast a $10,000 increase in fertiliser, lime and seeds.

Sheep and beef farm expenditure is forecast to increase by 3% this financial year following a negative 1% inflation in the year to March 2021, mainly because of lower prices for interest and fuel.

Chief economist Andrew Burtt thought debt servicing increases in farm profit and loss accounts would be delayed, especially for those on fixed rates.

“Individual farmers will find ways of minimising cost increases, for example, in fertiliser by using less,” Burtt said.

“Farm costs are certainly going up this year, but the rate of increase will be moderated by on-farm decisions.”

Because they are a priority and non-discretionary expenditure item, rising interest costs would be compensated by savings elsewhere.

He says farmers are also fortunate that product prices are at record levels and that inflation generally flows into higher commodity prices.

BNZ senior economist Doug Steel highlighted a Consumer Price Index expectation of 5.6% early next year, well outside the Reserve Bank’s monetary policy target zone.

The central bank would have to respond more quickly than previously expected and hike the OCR.

Primary sector costs in Q2 this year went up by 3.4%, according to Statistics NZ.

The Q3 figure will be released in mid-November, but Steel says costs are only going one way, and that is up.

“Fortunately, producer returns are healthy, especially for dairy, sheepmeat and beef, so the focus now shifts to margins and how much can be retained after rising costs,” Steel said.

“Rising costs are a reason to not overly celebrate the generally positive selling prices NZ is experiencing. It is margins that matter more.”

Concerning the costs of debt servicing, Steel says the OCR passes quickly through into floating rates, but the term of the loan impacts fixed rates.

ANZ agri-economist Susan Kilsby says costs of operating a farm are expected to continue to lift, particularly as the impact of environmental costs start to be priced in.

“The upside to inflation is that the price of our export commodities are also rising,” Kilsby said.

“The question really is whether commodity prices, and therefore incomes, will rise more quickly than costs.”

ANZ economists predict the OCR will be 2% by next August and that inflation will peak at 5.8% in the March quarter.

“Administrative costs are going up, like council rates and compliance, and these do not add to income,” she said.

ANZ southern regional manager of commercial and agri Mark Grenside says higher interest rates will take some time to pass through to farmers.

Asset classes like farms have appreciated in value and the Reserve Bank needs to try and keep inflation within the 1-3% band, using only OCR hikes.

“I have a great deal of faith in the adaptability and resourcefulness of NZ farmers to balance their needs and expenditures and we are here to help,” Grenside said.

NZAB director Andrew Laming says many more dairy farm loans were on floating rates now, compared with five or 10 years ago.

Fixed rates currently around 4% reflect where the market thinks interest rates will go and they have probably moved already.

What could be a 50c/kg increase in debt servicing for those on floating rates would take 15% out of net profit, before including the cost increases in fertiliser, chemicals and contractors.

Laming says the biggest concern in expenses right now was labour, following the increase in the minimum wage rate, visa restrictions and competition to keep skilled employees.

Federated Farmers national president Andrew Hoggard agreed that labour shortages and wage inflation are the biggest cost issue.

“If inflation goes up the Reserve Bank will try to hammer it with OCR increases,” Hoggard said.

“Interest rate increases will feed through to farm loans, but thankfully many of these have been paid down over the past two years.

“Fortunately, our product prices are very good right now but with inflationary pressures, so it becomes a matter of trying to hold on to margins.”

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