Friday, August 31, 2007


Corn is over $3 bushel compared to an average of about $2 for the last few years. Soybeans are over $8.50 per bushel vs. an average of about $6.00 for the last few years. While prices are up, and good marketing will pay off for many producers, many others may be facing yield problems as a result of drought conditions.

SOYBEANS: The recent dry weather will be deleterious to those plants that were stressed during the flowering and pod fill stages. Flower and pod abortions will likely result. For those already in grain fill, pods will be lighter of may have fewer beans.

CORN: Corn has had many obstacles this year. After planning early we had a late freeze. Frost typically will not hurt corn at less than V4 stage, but there were some worries about germination with cold ground temperatures. Early planted corn may have made it through critical pollination stage but the heat and drought was pretty bad when it came to grain fill. Ears may not be as full, and test weights will likely be much lighter. The dry conditions will force the plant to draw moisture and nutrients from the stalk if it can’t get all that is required from the parched soil. ( notice the quick browning we’ve seen in the last couple of weeks). This will greatly affect the physiology of the plant when it comes time for harvest, and could result in more loss due to harvest conditions.

Estimates put corn yields down 26 bu/ac vs 146 bu/ac last year.

Thursday, August 30, 2007


The fed has already taken action by lowering the discount rate. We will see if further liquidity is provided in September with a lowering of the Fed Funds target.

Many are opposed to this on the grounds that we should let the markets ‘sort things out.’ Others think that we should maintain a focus on controlling inflation.

It was not unfettered markets that lead to these things ( see previous entries). At this point unfettered markets will call for a correction, which could be devastating to the economy. They could lead to a recession or at least massive losses in the financial and real estate sector.

Since this correction would be very much the consequence of Fed action,( once again the boom/bust result of discretionary monetary policy previously discussed) should the fed use their ‘discretion’ to help cover up their mistake? If they do will we not expect to see another bubble in some other sector in 5 more years? Or, regardless of inflation or expectations, are we experiencing a monetary contraction that calls for fed action to provide liquidity?

These are the questions we have to ask, and they illustrate the uncertainly and instability that we live with in the face of discretionary monetary policy.

Friday, August 24, 2007

DISCRETIONARY MONETARY POLICY III: Towards an Explanation of the Sub-Prime Mortgage Crisis

In a previous post I presented a brief overview of a hybrid monetarist/Austrian view of bubbles and business cycles. This explained the bursting of the ‘agriculture bubble’ in the 70’s. Similar logic would also explain the tech bubble in the 90’s.

The current issue is the recent disruption in the housing market and the sub-prime lending ‘meltdown’ as they are calling it.

By keeping interest rates artificially low for so long- via discretionary monetary policy- resources were devoted to housing at a level that is not supported by fundamentals.

In addition, with low interest rates, the lenders were able to cast their nets much deeper and much wider, getting a large applicant pool with risk characteristics that were unprecedented. Many financial institutions felt that should the house of cards fall, the fed would come to the rescue with liquidity. For this reason risks were taken that otherwise would have been avoided ( this is referred to as a ‘moral hazard’ problem).

After the true fundamentals of the housing market began to materialize, and the bad risks presented themselves with defaults and late payments, chaos ensued.

Tuesday, August 21, 2007

DISCRETIONARY MONETARY POLICY II: Macroeconomic Linkages to Agriculture

In the previous post, I noted that the miscalculations that result from discretionary monetary policy may have resulted in many of the economic crisis we have experienced this century.

With regards to agriculture, the macroeconomic linkages are very important. In the 1970’s expansionary monetary policy led to inflation. This was initially reflected in higher commodity prices and the appreciation of land values. These conditions and easy credit made it possible for many farmers to expand and invest in their operations.
Later, when the fed became worried about inflation the direction of monetary policy changed. Interest rates increased and the farm sector suffered with record foreclosures in the late 70’s and 80’s. The agriculture ‘bubble’ had burst.

This was discretionary monetary policy at its worst. Economists at the time believed there was a trade off between inflation and employment-i.e. economic bliss. It turned out that this was only a temporary phenomenon, that once realized, resulted in a crash.

Friday, August 17, 2007

DISCRETIONARY MONETARY POLICY: Towards an Explanation of the Sub-Prime Mortgage Crisis

Many economists agree that in the short run, an increase or decrease in the money supply has real effects on the economy. That’s how the fed raises and lowers the fed funds rate, buy buying and selling bonds and utilizing printed money to manipulate the money supply in such a way that the fed funds rate (determined by overnight borrowing between banks) remains at it’s target level.

So, if the federal reserve wants to try to stimulate economic activity, at least in the short run it can inject liquidity into the market by lowering its targeted fed funds rate. This is why many people agree that the fed should be able to conduct discretionary monetary policy. When markets are volatile the fed's action can calm tensions.

The problem is that the tensions that the fed may be trying to calm are a symptom of problems created by previous discretionary monetary episodes. The general consensus of the Austrian and Monetarist/Rational Expectations views of monetary policy (admitting in substance they actually differ in many ways) is that expanding the money supply when not fully anticipated can lead to an artificial expansion. Decisions are made based on conditions in the credit market that may not be supported by the true fundamentals of the market. I.e. credit is cheaper than it should be. People take on riskier projects, leveraging increases, and if it is anticipated that the fed may intervene when problems ensue, they take on more risks than otherwise. This creates a moral hazard and adverse selection problem, and a series of bad ‘mal-investments.’

Later, when there are problems with inflation, or risky plans start to fall through, this house of cards built on miscalculated expectations and easy credit begins to fall. It is expected that the Federal Reserve will take action to alleviate concerns at this point. However it is often the case that the fed will have inflation concerns and be reluctant to act. A monetary contraction may follow with a recession. Many economists believe that this ‘boom and bust’ scenario is characteristic of discretionary monetary policy and that most of the recessions (including the great depression in the 30’s) we have had are a direct result.

Tuesday, August 14, 2007


I’ve previously discussed one issue with government decision-making, being type-two error bias.
The next issue I would like to introduce is the arbitrariness of putting decisions to vote. Let’s look at a particular voting scenario to illustrate this.




If the voters were voting on this issue, voter X would prefer law A over law B and law B over law C. In shorthand – A > B > C. To summarize all of the choices of the voters we see that 2/3 of the voters have preference A > B, 2/3 of the voters have preference B > C, but when voting A vs. C, 2/3 have preference C > A.

See if you follow the application of this. If we have two elections and the first is made between policy B and C, then B will win (2/3 of the voters have preference B > C). If this is followed by a second election A vs. B (Because C was eliminated in the first election) then A will be the law that ultimately passes by majority rule.

Now if the order is changed, in which the first election is between A and B, A will win (because 2/3 of the voters rank A > B). Then in the second election when A goes against C, C will be the law that passes by majority rule (again because 2/3 of the voters have preference C > A).

So when voting on these policies, the process becomes arbitrary. The outcome depends on the order of the vote, so a cycling of choices ensues. According to public choice economist Gordon Tullock, any outcome can be obtained in majority voting by at least one voting method. There is nothing magical and there is no ‘truth’ in the outcome just because it was reached by majority rule. Majorities can be irrational and dangerous. The exception to this is if preferences are single peaked. I will present this in a separate entry, because it presents problems of its own.

Thursday, August 09, 2007


Often times, when it comes to environmental protection or any other issue of social interest, government intervention is justified on the basis that markets are dominated by businesses and wealthy individuals that are motivated by profit and greed. As a result, their incentives are perverse, and their actions will not be in the best interest to society. Laws and regulations must therefore be implemented to curb their behavior, and achieve a responsible outcome.

The problem with this logic is that for probably close to 30 years now the area of economics known as Public Choice has demonstrated that government decisions can be viewed as rational choices made by individuals to maximize their well being. They may not focus on profits or share prices, but people in government do focus on budget maximization, personal benefits, and power. As the power of the federal government has expanded, the role of big business in influencing government through these channels has been magnified. ( this is referred to as ‘rent seeking’ )

Public Choice Theory allows us to be more precise in evaluating public policy alternatives by looking at the incentives of government and big business and the institutions that influence their behavior.

Public Choice

There are a lot of interesting things going on in Agriculture. Alternative fuels, the farm bill, animal waste,organic agriculture, biotechnology, global warming, concerns about sustainability etc. Many of my posts focus on how markets deal with these issues.

However, we make choices and markets function in an environment heavily influenced by government. I have briefly touched on governmental issues in some of my posts. Those dealing with type two errors and the tragedy of the commons were two examples. It is my goal to address governmental affairs more formally in some of the posts that will follow labeled 'public choice'. I will still throw in updates related to energy and natural resource issues, but it will be useful to have the public choice context because the analytical framework it provides is necessary for effective government policy in these areas.

Monday, August 06, 2007


You may have heard the headlines about the resulting increase in food prices from demand for ethanol. There is actually much more to the story.

It is true that in this country, we eat corn, wheat, and soybeans. We may not directly consume them, but they are our staples. We used to devote about 60% of our corn crop to animal feed ( meat & milk consumption), 20% to exports, 15% to food byproducts and direct consumption, and the remainder for industrial uses and ethanol. Now almost 18% of our corn crop is being devoted to ethanol production. Of course this will put upward pressure on the price of corn. And as people divert acres away from wheat and soybeans it will put upward pressure on the prices of those commodities too. So it would seem palpable that food prices would follow the trend. They have to some degree.

According to a recent study :

“Increasing petroleum prices have about twice the impact on consumer food prices as equivalent increases in corn prices”

Compared to energy, even corn prices impact a much smaller segment of the food market. Advancements in genetics and technology are allowing producers to continue to meet our demands for both food and fuel with minimal impacts on price. This year the markets have responded via producers planting the largest corn crop since WWII. There are projections of a record crop of 11 billion bushels this fall.

I admit that much of this demand and the response to it stems partly from a 51-cents per gallon tax credit, and a 54-cents-a-gallon tariff on imported ethanol, and ethanol based oxygenate reqquirements for all gasoline. As I mentioned in a previous post, gasoline demand and production is based largeley on governent subsidies and regulations as well. The point is that the market is responding given the circumstances and the crisis is not what many are making it out to be.