Financial Reform Impacts the Farm

From the Wall Street Journal :

Finance Overhaul Casts Long Shadow on the Plains

“Farmer Jim Kreutz uses derivatives to soften the blow should the price of feed corn drop before harvest. His brother-in-law, feedlot owner Jon Reeson, turns to them to hedge the price of his steer. The local farmers' co-op uses derivatives to finance fixed-price diesel for truckers who carry cattle to slaughter.… The question for these farmers is whether such rules will make hedging more expensive. Some say new requirements on big players will create higher costs for small players, including the cash dealers will have to put aside to enter into private derivatives transactions. Some brokers think restrictions on big-money banks and investors will drain the amount of money available to the everyday deals farmers favor… Mr. Gengenbach estimates that one quarter of his farm clients use derivatives." LINK

One thing is, the financial reform bill does little to address the causes of the financial crisis (see the Posner and Becker blog for Five Major Defects of the Financial Reform Bill- LINK) and as the above points out, could have a negative impact on farms.Some bloggers and others have already attacked the Wall Street Journal article as being hack journalism, for example see:

WSJ Tries to Tie Farmers to Bank Reform, Fails By Ryan Chittum

'The paper wants you to get the impression that yeoman farmers are getting crushed under the wheel of the new bill. Or that they are afraid they will.' (link)

USDA research indicates that across the board as many as 25% of farmers utilize futures markets or hedges to manage their risk. The report indicated that it’s not just the wealthiest farmers using these tools either. Data presented in that report indicated that in 1996 almost 20% of farmers earning below $50,000 utilized futures hedges. That's not everyone, but we are still talking about thousands of farms. Now not all of these are using products that may directly be affected by the legislation, but as the Journal points out, there are concerns that 'restrictions on big-money banks and investors' could reduce capital and increase the costs of the products that every day farmers use. (or at least the 25% that currently may be utilizing these risk management tools). Besides the Wall Street Journal, as reported on AgWeb.com, agricultural economist Scot Irwin explains the number of ways that this legislation could impact farmers that don’t directly use the kind of products specifically addressed by this legislation. Again, as many politicians and journalists ( like those critical of the WSJ article) fall prey to the fallacy of concentrating only on what is seen (vs. unseen) Irwin points out the “law of unintended consequences may make it much more likely that a commercial enterprise will get caught up in these limits."

Some are critical that the Journal only pointed out 'potential worries' but never in fact talked to real farmers that had real concerns or (I guess they forgot about the farmer showcased in the article that hedges 70% of his crop). But the truth is, and the lesson we learned from the Great Depression is that it is worry and uncertainty that in fact prevent a market rebound and encourage prolonged stagnation as much as real direct impacts can.

"Businessmen came to ask themselves whether Roosevelt really understood a system where the hope of profit sparks expansion and investment. Or did he believe simply in centralizing decision and authority in boards and "planners" along the Patomac?"-John

ChamberlainChamberlain goes on to explain how many businesses during the great depression were developing the products that would fuel the economic growth we saw in the decades that followed. Only, during the depression, Roosevelt's reforms and policies created uncertainty that kept them from taking any action until after WWII.

"the magnitude of the response of U.S. business to the war is in itself refutation of the thesis that in the thirties businessmen simply sat on their hands..it simply would not have been able to produce the new type of goods when the war button was pressed"

The financial reform bill certainly has the potential to prolong the recession and have a negative impact on many sectors of the economy. As quoted in the AgWeb story:

“Scott Irwin, ag economist at the University of Illinois, says the impact on agriculture is a guessing game. Irwin, who has studied market players for many years, notes that the impacts on farmers and those with whom they do business will very much depend upon how the law is interpreted and enforced.”

And that is an awful truth. When it comes to comprehensive reforms like these, (over 2,000 pages) it isn’t what the bill says, it’s not what your elected representative says it means, it’s what some lawyer, bureaucrat, or judge interprets it to mean after it has passed. That isn’t the kind of government our founders intended, but it does create the uncertainty that is dragging out this recession. Great reporting by the WSJ and AgWeb.

References:

The Enterprising Americans:A Business History ofthe United StatesBY JOHN CHAMBERLAIN
Finance Overhaul Casts Long Shadow on the Plains. Wall Street Journal. Michael M. Phillips. July 13,2010.

WSJ Tries to Tie Farmers to Bank Reform, Fails. Columbia Journalism Review. Ryan Chittum. July 14,2010.

Five Major Defects of the Financial Reform Bill. Posner and Becker Blog. http://www.becker-posner-blog.com/2010/07/five-major-defects-of-the-financial-reform-bill-becker.html

Derivatives Impact on Agriculture Still in Question. AgWeb.com. Linda H. Smith. July 15, 2010.

Managing Risk in Farming: Concepts, Research, and Analysis. Joy Harwood, Richard Heifner, Keith Coble, Janet Perry, and Agapi Somwaru. Agricultural Economics Report No. (AER774) 136 pp, March 1999 (link)