Farmers have to make a lot of decisions throughout the year. One of the most important decisions is when to get a farm loan and what farm interest loan rate to accept. Farm loan interest rates can significantly affect farmers, so it’s essential to understand how they work.
What are Interest Rates?
Interest rates are one of the most critical factors in determining how much money you can borrow and at what cost. They’re also crucial in deciding whether now is a good time to buy a home or refinance your mortgage. Here’s what you need to know about interest rates and how they work.
When you hear about interest rates, it’s usually about the annual percentage rate (APR). The APR is the interest you’ll pay on your loan annually, plus any additional fees your lender charges. Your interest rate will be determined by many factors, including your credit score, income, and the type of loan you’re seeking.
The lower your interest rate, the less money you’ll have to pay over the life of your loan.
Factors That Affect Interest Rates
The supply and demand for money in an economy are the primary factors affecting interest rates. People’s desire to take advantage of current spending and investment possibilities drives the need for money in the economy. The primary contributors to the availability of funds are individuals, businesses, and governments willing to defer expenditure indefinitely. The monetary policy of a country’s central bank, which in Canada is the Bank of Canada, is another way to regulate the demand for and supply of money. In the United States, monetary policy is set by the Federal Reserve System.
The primary objective of monetary policy is to maintain a low and steady level of inflation.
How Do Interest Rates Affect Farmers?
There are three primary ways in which interest rates influence agricultural markets:
Expenses Associated with Keeping an Inventory
The cost of interest incurred when retaining inventory may considerably influence the profitability of farms and the agribusinesses affiliated with them. The cost of keeping a list could be calculated as either the interest paid on debt by the company or the interest that would have been received on savings if the inventory had been sold instead. This type of cost is more commonly referred to as opportunity cost.
In actuality, the interest rate on bank operating loans can range anywhere from Bank Prime to Bank Prime + 4%, while the interest rate on short-term loans from agricultural firms can range anywhere from 12% to 24%. A typical additional financial burden for farming firms is the result of high loan rates.
When calculating the total manufacturing cost, interest expenses are a necessary component to include. For instance, the cost of interest incurred during the purchase of the calves needs to be factored into the study to calculate the breakeven point for feeder cattle. Even if the calves come from within the operation, the interest lost from selling the calves should still be factored into the cost calculation. This is because the cost of the process will increase.
Influence on Choices Made Regarding Investments
Increasing interest rates, particularly the real interest rate, have a chilling effect on the amount of capital invested in businesses. Spending money on land, buildings, machinery, equipment, and inventory to use in future output is an investment. A comparison between the anticipated rate of return on the acquisition and the current interest rate should be made before deciding whether or not to invest, how much to invest, or when to engage in a project.
If investors believe the rate of return on a project will be higher than the interest rate, then the project will be carried out using the investors’ money. Consequently, when financing rates are low, agricultural enterprises and farmers will have a more significant number of reasons to invest. On the other hand, interest rates that are too high may discourage investment because the cost of investment would increase along with the real interest rate. The rate of investment in a given industry might also be slowed down if interest rates rose.
Interest rates are an essential factor that plays a role in determining the value of agricultural land. The correlations between anticipated earnings and interest rates are the primary factors that, in most circumstances, decide the pricing of farms. A rise in interest rates will decrease predicted earnings since borrowing money and covering production costs will be more expensive. Because farmland and buildings make up more than half of all farm assets, interest rates are essential when analyzing agriculture’s wealth base.
Interest Rate Risk
A source of operational risk for farms and agribusinesses is the possibility of an unanticipated and unfavorable change in interest rates. If a company has a loan with a variable interest rate, a sudden increase in interest rates may result in larger interest expenses than those that were budgeted. The higher the cost of interest, the lower the profitability of farms and agribusinesses, discouraging investment and bringing down the value of farmland.
Locking in a loan with a fixed rate when interest rates are lower could minimize financial damage that could be incurred due to an anticipated increase in the interest rate.
The Impact of Rising Interest Rates on Farmers
American farmers are bracing for higher interest rates on their loans. According to the U.S. Department of Agriculture, the average rate for a 30-year farm loan has increased from 4.5 percent in 2016 to 5.2 percent in 2017. The increases come as the Federal Reserve is expected to raise interest rates three times this year.
The higher rates will add to the financial pressure on farmers struggling with low crop prices and rising input costs. According to the USDA’s Economic Research Service, the average farmer’s net income is expected to decline by 12 percent this year.
The impact of rising interest rates will be felt most acutely by farmers with variable-rate loans, which make up about a third of all outstanding farm loans. For these farmers, the monthly payments on their loans will increase as interest rates rise.
The Impact of Falling Interest Rates on Farmers
When it comes to farm loans, falling interest rates can have a major impact. Lower rates can mean significant savings for farmers looking to take out loans.
At the same time, lower rates can also lead to less income for farmers who rely on interest from their loans to help make ends meet. For these farmers, falling interest rates can be a real financial challenge.
Ultimately, the impact of falling interest rates on farmers will vary depending on each situation. However, there is no doubt that lower rates can have a significant effect on the financial well-being of farmers across the country.
Conclusion
In conclusion, interest rates have a significant impact on farmers. When interest rates are high, it becomes more difficult for farmers to borrow money to invest in their operations. This can lead to a decline in production, resulting in higher food prices. While many factors affect farmers, it is clear that interest rates are one of the most important.