The Federal Government’s new Farm Finance assistance package includes concessional loans to help farms restructure debt and invest in productivity.
But this is a back-to-the-future response that carries the risk of increasing farmers’ debt levels. There is a much better way.
The concessional loans in Farm Finance are not a new idea. In fact they were available for nearly 20 years until they were scrapped in 1992.
The justification for their removal two decades ago related to the deregulation of the Australian financial sector in the 1980s and a belief that the commercial financial sector is much better placed to judge the viability of farm operations than officials in state rural adjustment agencies.
There was also a reluctance for governments to compete with or usurp the role of commercial financial institutions in the delivery of finance to farmers.
In spite of the end of policy support for concessional loans, the idea regularly comes up when times are tough for farmers, whether caused by drought, flood or, more recently, the high Australian dollar.
However, last week’s announcement is the first time for a very long period the federal Government has wanted to spend resources in this way. But for many reasons it is a poor way to provide rural assistance.
A fresh approach - although not fresh in our minds because we have been analysing and modelling it for over 12 years now - is to offer farmers financial relief through what are known as income contingent loans; loans against which repayments are only made if and when the borrower can afford to do so. The best known example of an income contingent loan is HECS but the approach can be adapted to a range of policy applications.
The basic economics is that farming is an uncertain business. For many farmers the best forms of assistance are those which smooth incomes out across the business cycle, and the government has clearly recognised this with the extension of the successful Farm Management Deposits Scheme.
An income contingent loan is essentially a mirror image of this scheme, allowing farmers to borrow from future good years in order to meet the needs of the present bad years – with the loan only to be repaid if and when the farm recovered from difficult circumstances.
There are two important feature of this type of loan for farmers. One, compared to a normal loan in which repayments have to occur on a regular basis (which would happen with the loans of Farm Finance) is that there is default protection – the farm is not at risk of repossession due to inability to meet repayment obligations. Two, they make life easier for farmers because loans are only repaid when farm revenues are high.
Again, the loans of Farm Finance have to be repaid no matter what the circumstances facing the farmer is, and this creates a significant problem for borrowers even if the loans have low or subsidised interest. The risk of the concessional loan is that, while it might provide short term relief now, it adds to the debt burden, and therefore the level of repayments, faced in the next downturn if it has not been paid off in the interim.
Income contingent loans to support farmers in hard times are a good solution for governments and farmers. In order to satisfy taxpayers that their money is being spent wisely, governments need to ensure that support is directed at those who deserve it.
This can result in excessive ‘red tape’ and frustration for farmers who need to provide large amounts of financial data to prove their eligibility. To see how important this administrative issue is for the loans of Farm Finance just check out the eligibility criteria announced for the scheme and start to calculate the red tape this will entail.
As with any form of government expenditure, every dollar spent on drought relief is unavailable for other purposes, such as disability insurance scheme or the Gonski reforms. This then leads to other budgetary pressures. And many farmers experiencing short term difficulties are asset-rich. It seems reasonable that they are assisted when they are in need but return some of these funds to the community – who on average do not have the same level of wealth – when they are in a position to do so.
Modelling of this proposal suggests that income contingent loans provide a realistic alternative to interest rate subsidies or concessional loans for farmers.
Yet where is the debate for the use of income contingent loans? Irrespective of the merit of specific policy proposals, there is clearly a need for look more closely at the nature of farm business emergency relief, and this has to involve more than just the farm community.
In an era of tight budgets and mutual obligation in many areas of government support, it would seem appropriate that farm financial assistance relief be subject to further scrutiny, particularly when there is available a viable alternative that makes life easier for farmers and saves government resources.