Good Times Down on the Farm
Corn, soybean and wheat prices have increased by 50% since mid August. On top of record government support payments to farmers in 2020, these price increases are a huge potential boon for farmers as they plan next year's crops. But, what caused the price increase?
First, some perspective. Prices were much higher in 2011-13 than in the last 5 years. Corn averaged $6.50 per bushel in 2011-13 and just $3.70 in 2015-19, soybeans averaged $14 in 2011-13 and $9.50 in 2015-19, and wheat averaged $7.70 in 2011-13 and $4.60 in 2015-19.
The high prices in 2011-13 produced a boom in real farm income matched only by 1973-74 and the period immediately following the second world war. Farm income since the boom has been closer to normal, although government payments pushed it higher in 2020.
Commodity prices rise because some quantity has been, or is expected to be, removed from the market. It may be removed by bad weather that reduces production or a new buyer who increases purchases. A good rule of thumb for US major grains is that the percentage price change is similar to, or a little larger than, the quantity removed as a percent of production.
More precisely, in a paper I published in 2012 with Mike Adjemian, we estimated how much corn and soybean futures change when the USDA changes its production estimates. We found that a 1% decline in expected corn production raises prices by 1.35% on average, and that a 1% decline in expected soybean production raises prices by 1% on average. The price response is larger when the markets are tight such as when inventories are low or during the ethanol boom and when the quantity decline is expected to be repeated for multiple years.
For example, the 2012 drought in the US midwest reduced corn production by about 27% and increased prices by about 39%. In May of that year, USDA projected a 14.8b bushel harvest, but actual US production was 10.8b, a loss of 27%. During the growing season, as markets became aware of the poor weather, the December futures price rose from $5.39 on May 1 to $7.49 on December 3, an increase of 39%. So, the 39% price increase came from a 27% quantity loss.
To explain the recent 50% increase in prices, we are looking for 50/1.35 = 37% of corn production being removed from the market, or about 5.5b bushels. We're also looking for about 2b bushels of soybeans (50% of production) and about 0.9b bushels of wheat (50% of production). These are huge numbers.
One possibility is the recent surge in exports to China. In September, I wrote about how China had started buying US corn again, but they have only bought 4 million metric tons (mmt) this crop year, or 0.16b bushels, much less than the 5.5b implied by the price rise. We're only a third of the way through the crop year, but we're not going to get anywhere close to 5.5b of corn exported to China.
China has also resumed buying US soybeans in a big way. The purchases started in August, right around when prices started increasing, but are the purchases large enough to explain the 50% price increases?
So far this crop year, the US has exported 26mmt of soybeans to China, which is 10mmt more than a typical pre-trade-war year, and 17mmt more than last year at this time. Soybean exports to all countries are about 13mmt above pre-trade-war levels at this time of year, so China makes up most of the increase.
To explain a 50% soybean price increase, we need about 55mmt (i.e., 2b bushels) to be removed from the market this crop year. Suppose the market was expecting 2020/21 exports to China to track the 2019/20 levels. We're 17mmt ahead of that pace through the first third of the year. If we keep it up, we'd be 51mmt ahead of pace by the end of the crop year for a total of 65mmt of soybean exports to China.
Is that feasible? It seems like a stretch to me. Soybean exports to all countries reached their maximum of 58mmt in 2016/17, of which 36m went to China, so 65mmt would be a big jump.
The required quantity change to cause a 50% price increase would be smaller if inventories (stocks) were low. Put differently, the commodity is less price elastic when stocks are low. Projected corn stocks at the end of the 2020 crop year are about average (11.5%), wheat stocks are high (43%), and soybean stocks are at their lowest in at least 20 years (3.9%). Thus, China's buying binge may have driven prices up by more than it normally would because of the current low stocks.
Another explanation for the price increases could be production losses in the Southern Hemisphere, but I have not seen any such evidence that could explain this increase.
In summary, China's return to buying US soybeans is the proximate cause of the price boom in soybeans. Corn and wheat prices have increased because the market expects farmers to plant more soybeans, and therefore less corn and wheat, next year.
I expect some farmers will be locking in these high prices for next year's crop, and I expect it may be a good time to be in the tractor sales business.
The price and stock graphs in this article were generated using this R code. The net farm income graph was generated using this R code, which I also used in a previous Ag Data News article. The export graphs came from our Export Sales Reports data app.