Futile forecasts and perplexed producers
July 31, 2009
I attended the annual conference of the American Agricultural Economics Association this past week. One aspect of that conference every year is that those agricultural economists who follow commodity prices make forecasts for prices for the next year and then there are presentations made on the outlook for grain and livestock prices. Each year, the past year’s forecasts are reviewed and the economists who made the “best” forecasts are recognized.
This past year there were no winners. No blue ribbons were handed out, only red and white ones.
All forecasters were overly optimistic a year ago with where they thought prices would be at the present time. To give you an idea of how badly they missed the markets, the forecaster who was the closest on corn was still more than $2.50 per bushel too high. Fed cattle and feeder cattle price forecasts were generally $10-15 per cwt higher than current price levels. Forecasts for hog prices and milk prices were also far higher than current prices. The “best” forecast for crude oil prices only missed the current prices by $60 per barrel.
Is this typical for the so called experts to all miss the markets so badly? In most years, many price forecasts may miss the actual price levels, but there tends to be about an equal number who forecast prices to be higher than they actually end up as those who forecast prices to be lower than they end up. It is also more likely that the consensus price forecast for one commodity may be too high and for another commodity the consensus price forecast is too low. So what was different this past year?
There were market experts who were anticipating a correction in the U.S. markets in general. There were concerns that the financial markets had some problems that needed fixed. However, other than a very few “radicals,” no one predicted the severity of the market correction and certainly no one predicted all of the ramifications across world economies and markets. It would take much more space than I have for this short article, and more brains than I have, to document all of the changes in the past year. However, let me just briefly mention a few that have had major ramifications for commodity prices in the U.S.
First of all, U.S. consumers do not have as much disposable income to spend on beef steaks, bacon, ice cream, or boneless, skinless chicken breasts. As consumers saw there 401K plans lose 40 percent of their value, as many saw the value of their homes decrease, and as some suddenly found themselves in the unemployment lines, they cut back on their purchases. Demand for many products has been reduced. Similarly, consumers have reduced their driving, which reduced demand for gasoline and therefore crude oil and ethanol. Hence the drop in crude oil prices and the unexpected decrease in corn prices.
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Another major factor that has impacted U.S. agricultural prices is the loss of export markets. By loss of markets I don’t mean to say that we no longer have the markets; we just have seen a reduction in the growth in those markets and/or an actual decrease in the volume of products into those markets. This has resulted from two factors. The economies of many of our export market countries are not any better than our economy. Therefore, consumers in those countries are also tightening their belts and cutting back on spending. Hence demand has been reduced. To further compound our export problem, the U.S. dollar has gained strength against many of the currencies of our trading partners. That has increased the cost of our products to them, further weakening their demand for our products.
The final major factor I would mention is uncertainty. More uncertainty in markets tends to lower prices. Retailers are unsure of what consumers will buy, and so they tend to reduce their purchases from wholesalers. Processors do not want to be stuck with large inventories that they might not be able to sell, so they tend to cut back on purchases of commodities. This uncertainty in the marketing channel furthers reduces demand for most commodities.
I was somewhat dismayed to hear some of my agricultural economics colleagues making comments along the lines of “I sure can’t understand why producers aren’t killing more sows” or “You would think dairy producers would be culling more cows than they are.” If producers actually listened to these same “experts” a year ago, the message was prices would be higher, much higher, than what we are presently experiencing. The futures market has also tended to be a false upward slope of hope. Deferred contracts have tended to be higher priced than nearby contract (after accounting for seasonality in some markets) and as time has gone by those deferred contracts have retreated back to cash rather than cash being pulled higher.
What does this all mean? The reality is that the dairy industry, swine industry, and cattle feeding sector of the beef industry have lost a tremendous amount of equity in the last year. Domestic demand and export demand probably are going to remain week for much of this year and maybe most of 2010. Uncertainty is not likely to be reduced either. Therefore, all of the factors that got us in the present condition are still with us. Without some fairly significant reductions in supply (number of sows, number of milk cows, number and weight of fed steers) the losses will continue and equity will continue to dissipate. We may be reaching a time when many lenders will cease to finance these struggling operations and they will be forced to liquidate.
That is not a pretty picture I just painted. It is how I see the markets. But, my forecasts may be as futile as the next guys.