STATEMENT of the NATIONAL GRAIN AND FEED ASSOCIATION

before the

SENATE COMMITTEE ON AGRICULTURE, NUTRITION AND FORESTRY

July 29, 1997

Mr. Chairman and members of the committee, I am Duane Fischer, president of The Scoular Company, a company headquartered in Omaha, Nebraska that is involved in the handling and merchandising of grain and feed ingredients throughout the United States. I also serve as chairman of the National Grain and Feed Association, which I represent here today.

The NGFA is the national nonprofit trade association of about 1,000 grain, feed and processing firms comprising 5,000 facilities that store, handle, merchandise, mill, process and export more than two-thirds of all U.S. grains and oilseeds utilized in domestic and export markets. Founded in 1896, the NGFA's members include country, terminal, and export elevators; feed mills; cash grain and feed merchandisers; commodity futures brokers and commission merchants; processors; millers; and allied industries.

Market volatility: increasing, decreasing, or too early to tell?

Price movements in U.S. and global grain and oilseed markets have tended to be more volatile in the last two years than recent experience. Some attribute this change to the “FAIR” Act which gave the marketplace expanded freedom to produce and market in an unfettered way. Our conclusion is that it is, as yet, too early to accurately assess how markets will respond, and what the net effect of less government control and involvement in markets will be. Even if we are in a new era of higher market volatility, it may prove to be the best business opportunity the market or the government could offer the American farmer. On balance, we believe the policy approach taken in the “FAIR” Act is proving to be a sound one and one which will contribute the most to a profitable and successful agricultural industry. There are, however, some positive actions that could be taken by government to assist agricultural markets in achieving a higher level of performance.

There are two primary market factors that, taken alone, suggest we may be confronting a period of higher price volatility than we have recently experienced. First, as shown in Figure 1, global grain reserves have generally been trending down since the mid-1980s. Obviously, this downward trend cannot continue indefinitely. In fact, the stocks-to-use ratio has grown slightly in the last two years, from a low of 14 percent in 1995-96, USDA now forecasts a 16 percent stocks-to-use ratio in 1997-98. Relatively low stocks tend to create more variable markets as buyers and sellers focus increased attention on weather, and the immediate production and supply outlook.

Figure 1.

The slow response of global production and supplies to overtake a steadily rising demand have raised some questions about global food productivity. While we are confident that price responses can ration supplies and encourage greater output to “balance” food supplies, we remain concerned that the implementation of the Conservation Reserve Program may be keeping some non-environmentally sensitive, productive soils out of production for another 10 years at precisely the wrong time. The current expansion in world demand presents the United States with an opportunity to capture growing markets, but only if our policies permit economic expansion to take place. Current market growth certainly suggests it would be wise for USDA to proceed with caution in CRP enrollments, and take great care in how the implementation of that program may affect U.S. agriculture productivity.

The low level of global grain and oilseed stocks creates a situation that can lead to greater market volatility, but actual or perceived shocks in current supply and demand fundamentals are the triggering mechanism which create the roller coaster price moves. When the Soviet Union made its massive purchases in the 1970s, demand shocks were common. Today, such shocks in demand are rare. The good news is that demand tends to be rather predictable and is growing at an encouraging rate, both domestically and globally. In fact, demand tends to be a “shock absorber” in today’s markets, repeatedly demonstrating the market’s ability to make self-corrections to unexpected changes in supplies.

The second and biggest shock factor in today’s markets is the uncertainty of supply. Many point to the variability in U.S. corn yields to illustrate this risk. The U.S. corn yield and anticipated U.S. corn crop are carefully watched, throughout the world, because U.S. corn represents about 13 percent of global grain output. The U.S. Corn Belt tends to be a steady performer, but yields may have tended to become more variable in recent years as shown in Figure 2. Yields 10 percent above or below trend are not abnormal. In fact, for two years in the 1980s yields and resulting output were 20 percent or more below normal. This translates into potential global supply “shocks” of 1 to 2 percent in any given year. This may not seem like a huge amount, but when expected ending stocks-to-use ratios are at a six-to-eight-week supply, it is understandable to see all grain prices being bid up when adverse cropping conditions persist in the U.S. Corn Belt.

Figure 2.

There are other important growing regions of the world where crop conditions can have similar effects on markets -- China for corn, South America for oilseeds, Australia and Canada for wheat. However, there also is a tendency for “good” and “poor” weather conditions to balance each other globally. When one major global supplier has a poor year, most other producers generally have normal or better than normal years. Still, the concentrated production areas in the world -- the U.S. Corn Belt in particular -- will continue to occasionally shock the marketplace and create strong, aggressive price movements, both up and down.

Markets Self-Correct Quickly With the Correct Form of Government Policy

While lower stocks may contribute to somewhat greater volatility, there is strong evidence that markets are increasingly capable of responding quickly to shocks, which we expect will lead to much briefer price cycles than experienced in the past. This is encouraging, because it means we are unlikely to experience extended periods of either very low prices or extremely high prices.

There are several reasons for this:

1) The “FAIR” Act enhances U.S. supply elasticity by making planting much more responsive to markets. When U.S. farm programs were built around base acreage, and the foremost thought in the farmer’s mind was how to protect their base, the U.S. market had little natural ability to make needed adjustments in supply. Contrast those “old” farm programs with what we have seen just this year in soybeans. Soybean acreage increased by 10 percent in 1997, reflecting a need to fill expanding demand for oilseeds. This expansion also demonstrates how farmers, under current programs, can increasingly take advantage of profit opportunities; they can make more money in the marketplace by gearing planting to market signals and capturing profit opportunities. In early Spring 1997, farmers had an opportunity to forward contract soybeans in the range of $7 dollars -- representing a healthy profit for most growers. Unfortunately, many producers in our primary gathering areas did not take advantage of this pricing opportunity. This represents an area where government may be able to offer the market some assistance by supporting better information to farmers on pricing and risk management tools.

Market demand responds rapidly to supply swings. Figure 3 shows how swings in U.S. supplies of grains and soybeans are correlated to utilization in the 1990s. While the swings in supply are causing most of the fluctuations, it is clear that demand is moving in a responsive way to both downturns and expansions in production. The 1994 and 1995 marketing years show how elastic demand can be. In 1994, USDA’s early season estimates projected total demand for grains and oilseeds at 10.5 billion bushels. As the season progressed, the huge corn and soybean crops had some people wondering where we would put all of our excess supplies. Ultimately, the domestic market grew by 6 percent. Exports also expanded, and in the final outcome, not all that much grain was added to carryover supplies. In the 1996 and 1997 marketing years, we are again witnessing a growing demand absorbing increasing levels of supplies to keep stock levels well under control.

Figure 3.

In 1995, the reverse occurred. In the early season, USDA projected 10.9 billion bushels of domestic grain and soybean usage. But then the serious supply problems started surfacing. USDA made a serious policy mistake (explained further in point 3 below), by ignoring the rapidly expanding demand and requiring a 7.5 percent ARP (acreage reduction program) for corn, which was only further aggravated by adverse growing conditions. Supplies shrank precipitously. Domestic demand ultimately shrank to 9.75 billion bushels, roughly a 1.1 billion bushel (10%) reduction in anticipated demand in one year. The 1995 forced shrinkage in demand by the severely short supplies is not conducive to long-term growth as it forced shrinkage in base livestock numbers. It is clearly not in agriculture’s interest to repeat such events. But it is encouraging to see a marketplace so responsive to shifts in supply. Contrast the responsiveness of markets in the 1990s, when government interference has been relatively small, to the 1980s, when both government costs and involvement in markets were excessive. While the goal of those programs in the 1980s--- to stabilize and support farm income---were laudable, the policy instruments tended to have a very short-term focus. And they nearly always backfired in the end by keeping prices low for extended periods (requiring more government expenditures to make up the difference in target prices and markets) and, most importantly, halting the natural adjustment process of markets to bring supply and demand back into balance. In the early 1980s (see Figure 4) the U.S. began increasing loan rates for both wheat and feed grains in a well-intentioned, but counterproductive, effort to support farm prices. In 1981, farm prices initially fell below loan levels, and with the government continuing to ratchet loan levels even higher, prices remained at or below the loan level for several years.

Figure 4.

The painful “long tail” of this policy stung U.S. agriculture. By 1985, U.S. wheat exports reached their modern-era depths -- a paltry 909 million bushels -- a 49 percent drop in four short years. A parallel drop occurred in U.S. feed grain exports. Figure 5 shows how wheat prices related to loan levels in the late 1970s, early 1980s and late 1980s. In the early 1980s, when loan rates were raised to excessive levels, the government not only put a “floor” on prices, it also put a “ceiling” on prices. The market could not adjust either way, up or down. By isolating stocks in loan and reserve programs, prices could not “bottom out” to encourage demand or discourage supply; and, therefore, could not clear the market. By preventing the natural market-clearing process to occur as quickly as possible, farm prices never had a chance to move up to make farming more profitable through regular market channels.

Wheat Prices Relative to Loan Rates WHEAT Multi-Year Price as Averages a % of Loan

1976-80 126% 1981-85 101 1986-89 142

Figure 5.

3) Market volatility induced by government policy is less. While government has tried to design its policies to be generally stabilizing, government itself has also been a risk factor that has shocked the marketplace on occasion. The 1995 corn ARP was the most recent example, and one for which the economic “ripples” are still being felt. On January 19, 1995, several agribusiness companies submitted a detailed analysis demonstrating the huge risks USDA was taking in the face of growing demand by not taking the opportunity to reverse the corn ARP decision made in late 1994. Despite the evidence, USDA failed to change course in February and March of 1995. By May, the United States was deep in trouble. Weather shrunk the 1995 crop extensively. But the idled acreage compounded the damage and ultimately reduced the U.S. corn crop in 1995 by an additional 300 to 500 million bushels. Had USDA not made that critical policy mistake, corn prices would not have been forced to the $5 plus level which caused a severe ratcheting back of demand and shrinkage in livestock herds. Consequently, the low prices we are experiencing today would probably not be quite so low, as both U.S. and global supplies have responded aggressively to that tight supply situation. Limiting government involvement in such decision making permits the U.S. farmer the freedom to be more responsive to late-season planting developments, very likely contributing to more stability in markets over time.

Freer trade permits stocks to be shifted, thereby reducing the need to maintain large domestic stocks. As global trade barriers recede, some interesting patterns in trade flows are developing. This year soybeans from South America were imported to keep U.S. soy mills operating at or near capacity. In the fall, we expect to see U.S. new-crop beans being imported by our South American competitors to keep their plants running. This kind of trade may be politically challenging to explain to some groups, but it nonetheless demonstrates a significant benefit of free trade agreements, and the need to expand them and support their market impacts. Such trade allows the market to work more effectively and efficiently with lower global stocks. We need to support open trade for our own domestic benefit. While imports of soybeans may be an aberration, imports are not so unusual when it comes to other familiar U.S.-produced bulk commodities. The United States is expected in 1997 to import 36 percent of its oats and 10 percent of its barley used domestically (see Figure 6). While the U.S. is a net importer of oats, it remains a net exporter of wheat. However, wheat imports are rising. USDA estimates wheat imports at 100 million bushels for 1997/98 which would be 8 percent of domestic consumption. While this may seem small, USDA is also forecasting that hard red spring wheat imports will rise to 20 percent of domestic utilization and durum imports will be some 35 percent of domestic utilization.

U.S. Grain Imports Relative to Domestic Consumption, 1997/98

Imports: % of Domestic Use Oats 36% ` Barley 10% Wheat 8% Hard Red Spring Wheat 20% Durum Wheat 35%

Figure 6.

Often times when such imports are experienced, there is a tendency to raise a political ruckus, saying such imports are “excessive.” What is “excessive?” Is it when U.S. processing plants shut down and U.S. workers are laid off because of a lack of raw commodities?

Today, capacity in virtually every grain processing category -- from flour mills to soy mills to corn mills -- is expanding because companies are somewhat optimistic about the future of U.S. agriculture. This new capacity represents additional demand for U.S. farm output. That’s good for farmers, good for agribusiness and good for communities where capacity is being built or expanded. The U.S. government needs to be supportive of this commercial investment process. When imports are temporarily needed to keep production levels up, we need the understanding of our elected and appointed officials that it is the function of the marketplace to redistribute commodities in a timely manner where they are needed most. To be successful in moving toward greater market orientation to the ultimate benefit of the farmer, we need consistent public support from policymakers recognizing that trade must be allowed to go both directions or it will not work. Allowing trade to work both ways will enhance efficiency, but will also tend to stabilize markets globally as seasonal stocks are permitted to shift in response to temporary, local shortages.

Trade patterns are affected by a number of factors -- comparative advantage, temporary weather patterns, etc. They can also be influenced by significant differences in domestic policies. In a recent study by PROMAR International which estimated the benefits of NAFTA, the authors pointed out that “(The future of Canadian-U.S. trade) will also depend on how the Conservation Reserve Program is implemented. The recent CRP sign-up announced by USDA on May 22, 1997, for example, increased the amount of land enrolled in the CRP in North Dakota by nearly 525,000 acres. This state produces the same types of wheat imported from Canada -- hard red spring and durum.” This study suggests is that the U.S., by continuing to idle some significant areas of non-environmentally sensitive productive acres in North Dakota, South Dakota and Montana, forces the U.S. into a politically embarrassing position -- one where markets are telling the U.S. to import commodities for which we have a highly competitive advantage. What other choice do we have but to import grain to fill domestic supply gaps? Do we import flour? Do we import bread? Or simply consume fewer wheat-based products?

Farmers Can Prosper in Volatile Markets

Whether price volatility is increasing or decreasing is uncertain. But regardless, both farmers and agribusiness should be prepared to manage a higher level of risk. If market volatility is not high every year, it certainly will be in some years. When volatile markets hit, both farmers and agribusiness need to understand how to manage both opportunities and risk exposure.

When I addressed the NGFA membership at our 1997 annual convention, part of my message was on how the “FAIR” Act would work for our industry. In that talk, I stated, “If markets cannot compensate farmers adequately---if farmers cannot make a profit ---the bushels that we perceive are “needed” by the market will not be grown, at least not in this country. Economic efficiency, high performance and profitability for each industry segment have become even more critical to our industry success.” Farmers’ business success though is linked not only to their business managerial skills and agronomic skills, but increasingly to their skills as risk managers. Important to the success of the farmer is not just whether the market offers price levels that are profitable. The market will not consistently offer prices that are profitable -- ups and downs should be expected. The challenge is to recognize when the market is providing an attractive pricing opportunity and to take positive action in a timely way to capture the opportunity.

Today, probably 10 percent or less of commercial grain farmers use futures or options on a regular basis for marketing. Our industry -- the cash grain business -- is trying to develop useful risk management tools so farmers can benefit from their new market freedoms to both grow the crops they choose and market them in a less restricted environment. Modern crop insurance products such as crop revenue coverage have an important place in this risk management tool kit. But other tools are needed.

The CFTC is currently considering lifting the ban on agricultural trade options. We urge you to consider supporting that action. Allowing trade options will open the door to developing additional risk management tools to permit more efficient management of farmers’ complete risk portfolio. We also urge Congress to support risk management education. NGFA has, through the drafting of its 1996 white paper on hybrid cash contracts and seminars on the subject, taken some important steps toward standardizing educational information on existing cash contracts. We intend to add to those educational efforts, in particular if trade options are permitted by the CFTC.

The Conservation Reserve Program---Economic Costs: Impact on Long Term Productivity in the United States

While this hearing is not about the Conservation Reserve Program, we would like to raise some concerns with this committee because we believe the future successful administration of this program has much to do with U.S. agriculture’s ability to make the overall “FAIR” Act successful. As stated previously in this testimony, the CRP program may well be affecting the U.S. industry’s ability to be competitive in certain crops. The CRP program is cutting heavily into productive acreage in the Dakotas and Minnesota. Figure 7 shows how the expected level of imports for 1997/98 compare to the amount of productive acreage in the United States that is being effectively replaced. Imports are essentially replacing the equivalent of 5.75 million acres of prime U.S. farmland.

U.S. Grain Imports of Wheat, Oats and Barley: Equivalent Acres

Forecast Equivalent U.S. Imports, 1997/98 Planted Acres Replaced

Wheat 100 mil. bu. 3,000,000 acres Oats 100 mil. bu. 2,000,000 acres Barley 40 mil. bu. 750,000 acres TOTAL 240 mil. bu. 5,750,000 acres

Figure 7.

USDA’s first enrollment under the “new” Conservation Reserve Program signed up 16.1 million acres for another 10-year period. This signup included an expansion of CRP acreage in areas that grow products now being actively imported. If the land that is being idled is truly environmentally sensitive, and cannot be farmed on a continuous basis (even with modern tillage techniques), then it is proper that this land be considered for the CRP. If, however, some of this land is highly productive land and excessive amounts are being withdrawn for a 10-year period, we urge Congress and the USDA to carefully consider the ramifications. There are costs to rural economies of lost production, lost fertilizer and seed sales, lost implement sales, lost marketing opportunities, and lost jobs in virtually every agribusiness sector.

Our Association has been attempting to study the limited data on the recent CRP sign-up that have been publicly released by USDA. These data are difficult, at best, to analyze because they are mostly “average” data from states. We were able, just last week, to finally obtain county data in tabular form (a form that can be readily analyzed), but those data are also in the form of averages. We have yet to analyze those data.

We would like to present some preliminary findings on the state data that give us cause for concern about how this program is being implemented, and its impact on the productivity of agriculture.

Issue 1: What kind of land is really being drawn into the CRP? Is it really highly erodible? USDA’s summary booklet on the Conservation Reserve Program states, “Over 13,532,155 acres or 84 percent of land (in CRP) is highly erodible.” This statement is inaccurate, and we believe it grossly exaggerates the number of highly erodible acres in the program. On page 59 of the USDA document, a table is presented that labels this 13.532 million acres again as “highly erodible cropland.” After querying USDA employees on this point, we have received confirmation from two sources that this figure only refers to the total cropland contained in all the accepted CRP offers that qualified under the HEL (highly erodible cropland) criteria. This definition includes farms that had as little as one-third of the land with an Erodibility Index (EI) of 8 or more. (Thus a farm that had 1/3 of its acreage with an EI of 8, and 2/3 with an EI of 2 would be classified as 100 percent highly erodible.) While we seriously question USDA’s definition of “highly erodible” as land with an EI of 8 or more, the assertion that there is anything near to 84 percent of CRP land that is highly erodible should be corrected for the public record, and a more accurate assessment given. We believe that because erosion control is such an important goal of this program, USDA, prior to the next signup, should be required to publicly release data reflecting accurate estimates (not just broad averages) of land newly enrolled in the CRP that exceeded both an EI of 8 and an EI of 15. The remainder of the land enrolled should reflect those CRP lands with an EI less than 8.

Issue 2: Are some states being affected more adversely than others? There are two relevant costs to the CRP program. First, and most obvious is the cost to the government. This is supposedly being controlled by a reduction in allowable rental rates. (USDA capped rental rates at levels somewhat lower than the original levels. However, USDA states that over 60 percent of the offers submitted in the sign-up were below the “maximum.” This may suggest the rental caps may yet be reduced, and still be relatively attractive to many landowners relative to market rental rates.)

A second cost of the program, and one not so obvious in Washington, but certainly obvious in the communities where CRP enrollment is heavy, is the economic toll on rural communities. USDA recently released a report with the CRP that touted the many benefits of the program -- wildlife, small game hunting, timber production, etc. It failed to mention any “economic costs” of the program. USDA’s own Economic Research Service (ERS) studied the CRP in 1991 and concluded , “The CRP will reduce economic activity significantly in the agricultural production and agricultural input sectors.” In a study done by Abel, Daft and Earley for the National Grain and Feed Foundation in 1994, it was estimated that for each $1 million dollars of lost grain and oilseed output, the U.S. economy loses 23 to 38 jobs, depending on the type of grain. In a thesis by Evert Van der Slius, completed at the University of Minnesota, idling acreage through government programs was shown to shrink economic activity and push people out of rural areas.

It is very challenging to analyze the USDA data to draw any firm conclusions about the amount of non-environmentally sensitive, but highly productive, acres are being inadvertently drawn into the program. Figure 8 may provide some insight. The table compares Class I, II and III farmland from the old CRP (1995 version, which contained 36.4 million acres) to newly enrolled acreage with an EI of less than 15. While the classification of EI less than 15 does not reflect all productivity factors (like Class I, II and III farmland), it does provide an indication of field slopes and certain soil types which certainly influence productivity.

The table indicates how these proxy measures of land productivity compare for the United States and seven major grain-producing states that have average EI scores of 12 or less (a level which indicates substantial CRP enrollment of non-sensitive acres). On average, the old CRP had 54 percent (19.4 million acres) of its acreage in Class I, II and III lands. USDA reports that 59 percent of newly enrolled CRP acres have an EI less than 15, so these data appear roughly comparable. These particular data from USDA are based upon weighted averages of EI scores by individual fields. Compare these average scores to North Dakota. Previously, North Dakota had 56 percent of the CRP in Class I, II and III. Now North Dakota has 96 percent of its acreage enrolled in the program with an Erodibility Index of less than 15. The average EI score for the state is 8 which assures that approximately 50 percent of the 2 million acres enrolled in North Dakota are not highly erodible, even by USDA’s own narrow definition. Comparable conclusions can be drawn for South Dakota, Idaho and Minnesota sign-up results, although on a smaller amount of acreage. Even the state of Kansas has new enrollment of 1.6 million acres, with 79 percent of the acres having an EI less than 15. These data strongly suggest, but do not necessarily confirm, that the CRP is continuing to attract a number of fields that are highly productive, non-environmentally sensitive lands.

However, through questioning some informed sources within USDA, we understand that there are some unpublished comparisons of average productivity measures of soils in the old CRP program and those in the newly enrolled CRP acres. Under the old program the overall estimate of the productivity of CRP land relative to “average U.S. farmland productivity” was 82 to 83 percent. Under the newly enrolled acres, USDA officially reports CRP land to be 80 percent as productive as average soils. If these data are accurate, we seriously question whether adequate -- or even reasonable -- progress is

Figure 8.

being made in targeting the CRP away from productive lands and toward more environmentally sensitive areas. If USDA continues to enroll the maximum 36 million acres with lands of these productivity levels, how can we not acknowledge that this is the same old supply control tool we have had in place for the last 10 years?

We urge that, before another CRP signup, that USDA be directed to publicly supply information on accurate productivity values for the farmland being bid for another 10 years into this program. By having productivity measures and comparing those results to average EBI (Environmental Benefits Index) scores, it will be possible to measure how much environmental benefit the United States is receiving relative to the lost productivity of the soils being idled. This is an important comparison in assessing the true costs of the CRP program, including both government direct costs as well as cost of lost economic activity when productive cropland is idled. Figure 9 shows what has happened to U.S. wheat exports in the last 17 years, and compares it to planted acres. The last bar on the graph depicts how much highly productive traditional wheat land is still locked up in the CRP. Unless and until the United States gets serious about reforming its CRP policies to permit the farming of tillable acreage, it is only reasonable to expect wheat imports to continue having a significant impact on our marketplace and the U.S.’s own net wheat exports to continue a steady, long-term decline.

Figure 9.

CONCLUSION

We may be confronting increasing price volatility in the future, but there are factors to support arguments for either increasing or decreasing volatility.

Volatility is not intrinsically bad for U.S. farmers. More volatile prices may well, in our view, provide higher average returns for farmers. Fluctuations in returns, too, can be managed if the producer is willing to spend time developing his/her marketing and risk management expertise.

In supporting U.S. agriculture in a new era of less government involvement, the NGFA urges Congress’ support in several key areas:

1) We request continued support for the expansion of free trade zones and reductions in barriers. Some 95 percent of consumption growth in food will occur outside the U.S. borders. Nothing is more important to our future in this business of agriculture than having as much open access as possible to those global consumers.

2) The CFTC is considering adopting regulations to lift the ban on trade options. We urge you to seriously consider supporting this change. Crop insurance, existing cash contracts, and futures markets provide some risk management tools but further progress in this arena is extremely important. The United States leads the world in risk management -- it is a distinct advantage for us today in competing globally. But we can do better and keep that advantage working for us.

We also ask both Congress and USDA to review closely how the CRP program is being implemented and make data publicly available. If productive acres continue to be enrolled, U.S. agriculture will be extremely disappointed in its future trade performance and there will be continued economic stagnation in traditional agricultural areas.

Mr. Chairman, the NGFA appreciates this opportunity to present our views, and would be pleased to respond to any questions you or other members of the committee may have.