Farmers are in debt, and more debt won’t help

Farm debt is increasing in Australia, but will writing it off make more farms viable? Grenville Turner/AAP

Farm debt in Australia has increased by almost 75% over the past decade, from A$40.3 billion in 2004 to an estimated A$70 billion in 2014. Barnaby Joyce, the Federal Minister for Agriculture, has argued the government should take on $7 billion of the riskiest proportion of this debt.

The suggestion by Joyce is that a government Rural Reconstruction and Development Bank be established to buy up bad loans, making the government joint owner of some farm businesses until the loans are repaid.

The federal budget is in deficit by A$47 billion dollars, total net debt is approaching A$200 billion and interest repayments will soon exceed A$10 billion per year. It will be a hard sell to convince the government to take on $7 billion of risky debt, and Treasurer Joe Hockey has already poured cold water on the idea, arguing “there are swings and roundabouts in agriculture all the time”.

Why help agriculture and not other industries?

At a time when the motor vehicle and fruit processing industries haven’t received additional government help, why should the agricultural sector?

Agriculture is different to other industries in that it’s characterised by long-term financial viability but short-term vulnerability. Its output and survival depend primarily on the weather, which is not something that most other industries face. Pests and disease also add additional uncertainty and risk.

Therefore it’s reasonable to have short term emergency funding from the government for periods of severe drought to support an industry that exports around two thirds of its output and is estimated to generate A$38 billion in export earnings in 2013/14. Further, the long-term outlook for agriculture is positive as the world’s population grows, along with the increased demand for meat products from the growing middle-income classes in Asia.

The federal government has for decades provided emergency drought relief funding, and in 2013 the Farm Finance Concessional Loans Scheme came into effect. This provides A$420 million in low-interest loans (4.5%) to “eligible and viable” farm businesses. The key point here is that only “viable” farms can receive assistance.

Equity levels are high

Debt is an important source of funding for investment in agriculture, for expansion, improved machinery, technology and techniques.

Debt is not usually a problem if sufficient equity is held. Because the value of agricultural land has been rising, the ratio of debt to equity hasn’t changed significantly over the past decade. For example, the average price per hectare in a broadacre farm (crops and/or livestock) was around A$270 in 2000 and is around A$470 per hectare today. While debt has grown significantly, so too have average farm values. It’s similar to owning a home that has increased in value which enables more borrowing against its value to occur.

Equity ratios in Australian broadacre farms are high, averaging around 88%. This rate is similar to 10 years ago (89%), and a little higher than in 2010 (87%). Banks do not usually lend to a farm with an equity ratio of less than 70%.

Who’s really affected?

70% of farm debt is held by only 12% of farms. These are mainly larger operations that produce over 40% of total broadacre output and can service their debt.

Around 6% of farms are estimated to be at high risk. This is of great concern, but is lower than the 10.3% of high-risk farms in the early 1990s, which occurred due to extremely high interest rates in 1988-89. More than 80% of broadacre farms hold more than 80% of the equity in their businesses and almost 70% have equity that exceeds 90%.

The problem is long-term viability

The current severe droughts in northern Queensland and parts of New South Wales, have led to calls for increased government assistance. In Western Australia, recent droughts in some regions led to similar financial stress. A good season in 2013 meant that many farms recovered, but some farms on the eastern parts of the wheat belt region didn’t receive rain and are suffering long-term drought. The concern is that droughts may also be long-term in parts of Queensland.

Banks won’t lend to farms in this situation as the likelihood of repayment is low. Land values plummet in areas of prolonged drought, and as the land has few or no alternative uses, the situation is dire. Famers either sell their land at a low price, or cannot find buyers at all. Further, farmers are forced to sell animal stock at low prices.

In these extreme circumstances, more government loans or the government buying the bad debts and assuming co-ownership is unlikely to contribute to long-term viability.

Other farms have large debts as they bought more land when interest rates were low in the 2000s. Land purchase is the largest single contributor to the increases in farm debt over the past two decades. In 2012, 44% of debt was due to land purchases. If financial stress is occurring today, when interest rates are at historic lows, repayments will become even more difficult when interest rates rise. Taking on more debt today is not likely to help those in this situation.

Clearly several drought affected regions are facing severe financial pressure. Smaller operations have been surviving for years only due to earning off-farm income. But the farm sector has healthy equity ratios and positive long-term prospects. Drought assistance and short-term loans are important, but government high-risk loans totalling $7 billion are not good use of taxpayers’ money and are not likely to increase long-term farm viability.