In the 1980’s when I began authoring the Commstock Report one of my first major reports during the Ag Depression was entitled, “Tale of Two Economies.” The summary was that there were essentially two economies: a producing economy that included the ag sector, energy sector and commodities in general and a consuming economy which were the buyers of the commodities that we produce, representing more urban areas with industrial and public consumers. The consuming economy is larger than the producing economy and has more political clout. The two economies interact with one another with supply and demand fluctuating between growth and decline. In the 1980’s the consuming economy was on top doing well by comparison to the producing economy. Deflation was crushing the producing economy while subsidizing the consuming economy as buying power increased. The producing economy was unwinding a credit bubble while the consuming economy was collecting high interest rate returns.
I am not suggesting that current economic conditions match, but there are some similarities along with some differences. Instead of coming off a credit bubble and inflation, this time the downturn in commodity pricing was buffered by high levels of farm equity. It is the consuming economy that is slowly recovering from a burst credit bubble. Instead of interest rates soaring to 18 percent like they did in the 1980’s pounding nails in the farm balance sheet coffin, this time when U.S. consumers were loaded with debt the fed reduced rates to near zero to help them out. They have been treated a whole lot better with easy monetary interest rate policy today than the Ag sector was in the 1980s. Ironically, while then fed Chairman Paul Volcker set out to drive a stake through the heart of inflation in 1980, today the fed is trying to get the heart of inflation to start beating again. The fed has been surprised at the reluctance of inflation to pick up a pulse given the degree of economic stimulus that was given it.
Inflation is often called wage and price inflation. Neither wages nor prices have yet picked up any great upside dynamic. The Commerce Department says that core prices were up 1.3 percent in September, significantly below the fed 2 percent target. The recent employment report showed little movement toward wage inflation despite 4.1 percent unemployment. Nevertheless, the general economy…the consuming economy, is picking up strength the world over. The easy monetary policy was employed by central bankers everywhere and while the impact of easy money was not as quick to show up in growth as they expected, the trajectory toward growth is still on track. The effort by the President and GOP Congress to add fiscal stimulus to the U.S. economy should move the needle further in the direction of stronger growth if enacted.
I think there is something to the animal spirits argument that the Trump administration being pro-business is boosting consumer and business confidence. Business expects less regulation and lower taxes. They have yet to see costs rise. What is not for business to like here? Consumers are spending more and saving less as they become more optimistic about future employment and income prospects.
The fed has been pursing very cautious measured tightening, transitioning from an easy monetary policy trying to “normalize” interest rates without slowing the economy and growth in the process. Trump is on board with this plan, nominating Jerome Powell to replace Janet Yellen as fed chairman whose stance on monetary policy differs little from Yellen’s. Trump did not want the fed getting out in front of a growing economy accelerating interest rate hikes restraining the growth that he is trying to produce. They do not want the U.S. fed to get out in front of other central banks, the ECB or BOJ, so that our dollar gets too strong.
The producing economy is still coming off of an economic boom and is struggling with getting balance sheets back into a shape that will support prices again. The retrenchment in the ag economy has not gone so deep as to impact lenders as it did in the 1980’s. Ag banks are healthy today. Supply from the boom is still burdensome relative to demand. Commodity productivity, whether fracking shale oil or growing record corn and soybean yields with nominal weather, complicate efforts to flatten burdensome supply. In all these instances, the cure for lower prices is lower prices and the financial incentive to produce is being removed while the financial incentive to consume is being stimulated.
As to trade, I think that again, Trump policies will heavily favor the consuming over the producing economy so they are not done kicking us when we are down yet. The producing and consuming economies often track opposite of one another. They did during the recent financial crisis, which hammered the consuming economy while the growth of the producing economy continued. There are some things such as asset values that are shared. Farmland values have held up better than many expected because they are not unlike a stock in how they are impacted by interest rates.
The producing economy is not participating in this transition from recovery to growth being experienced by the consuming economy. In fact, they are still feeding off the liability of consumers being able to buy cheap commodities, often below the cost of production. I fear they will use trade policy to keep it that way.
David Kruse is president of CommStock Investments Inc., author and producer of The CommStock Report, an ag commentary and market analysis available daily by radio and by subscription on DTN/FarmDayta and the Internet.
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