Saturday, December 02, 2006

Why rising agricultural land prices?

Why do rural land prices continue to grow strongly given the current drought, the secular decline in food prices and the evident difficulties posed by the prospects of global warming?

An interesting article in today’s Australian Financial Review (subscription only) by Brian Toohey sets out some tentative explanations but none fully resolve the issue.

Agricultural outputs relative to input costs have more than halved since 1962. ABARE shows that, since the mid-1970s, broadacre farms have made an average loss of $2000 while the return on capital invested has been only 0.88 per cent.

But since 1980 large grazing properties have increased in price by 7.7% annual going from a median price of $16 per hectare to about $353 in 2006. Capital appreciation has been strongest in the Northern Territory and north and central Queensland.

Part of the explanation lies in increased concentration of ownership. Firms like the Australian Agricultural Company (in my Moneybags share portfolio) own 24 cattle stations in areas unaffected by the drought – AAC own nearly 8 million hectares or about 1.1% of Australia. For most part the prices AAC receive depend on export markets and so are unaffected by local drought conditions – in the past they have trucked cattle from one station to another to deal with regional drought issues. Indeed I noticed in a company statement the other day that AAC is taking advantage of the drought to build up its herd sizes.

Another explanation is that Australian farming is driven by intergenerational issues where wealth accumulation is calibrated purely in terms of agricultural assets. In short families borrow to expand their holdings and do not substitute away towards equities or other forms of wealth. There might be some truth in this. Farmers have told me that they would be better-off selling their farms and using the income to invest in BHP-Billiton. It would be nice to find some way of testing this hypothesis.

If this type of reasoning is rejected and asset substittuability is assumed then it must be the case that farmers see much stronger commodity prices in the future - perhaps driven by development booms in China, India and other parts of the developing world.

The implications of global warming for farm values is only now starting to be analysed. In a CSIRO report Benjamin Preston and Roger Jones see mixed effects from global warming:

Australian crop agriculture and forestry may experience transient benefits from longer growing seasons and a warmer climate, yet such benefits are unlikely to be sustained under the more extreme projections of global warming. Furthermore, changes in precipitation and, subsequently water management, are particularly critical factors affecting the future productivity of the Australian landscape. The declines in precipitation projected over much of Australia will exacerbate existing challenges to water availability and quality for agriculture as well as for commercial and residential uses.

Generally agricultural property should diminish in value with climate change. According to Preston/Jones there will be significant reductions in milk production with even a 1 degree C increase in average temperatures.

Flatulent sheep and cattle account for 12% of Australia’s greenhouse gas emissions – the third biggest after coal-fired power stations and transport fuels. Such emissions would presumably be accounted for in a carbon trading regime and would therefore reduce farm value.

So it remains an intriguing puzzle – indeed a good PhD thesis topic – why do agricultural land values continue to rise so rapidly in Australia.


FXH said...

I tried to sneak a read this arvo in the supermarket, on page 28, but the line moved on too fast. I don't buy the Fin on Weekend as I find it repeats much of Fridays.

I'm interested in the issue though - i might see if i can snaffle one in where I'm working tomorrow.

Would part of the issue be that very broqdlt speaking agribiz / farms can make very good profits when times are good and get cushioned by grants, and other government breaks when times are bad.

So it's like betting on a horse race knowing you can bet for a win at 10/1 but you'll always get your money back even if your horse comes last.

I can still remember paying 17.5% interest on house and business overdraft and having a farming relative tell me they were asking for an interest holiday - on a 2.5% Rural Finance loan.

hc said...

fxh, I think part of the reason is that large operators can do well even though smaller operators are doing it tough. The handouts - drought relief etc - are foolish policy in many cases but there is no denying farmers are not making huge returns on capital invested.

derrida derider said...

One part of the answer, for those who make a profit, is that the tax concessions make the post-tax return on capital better than you'd think by looking at the pre-tax return. Which is another way of saying that the tax rorts and other assistance has been capitalised into farm prices.

But that explains why farm prices are high, not why they're rising. It's a puzzle.

FXH said...

I meant what DD said only s/he said it better.

Anonymous said...

Isn't capital appreciation exactly what micro 101 would predict with efficient capital markets? Presumably the rate of appreciation less the rate of (expected) income loss is why people bothered to buy farms 30 years ago?

Anonymous said...

Great site, I am bookmarking it!Keep it up!
With the best regards!

Anonymous said...

runescape money runescape gold runescape money buy runescape gold buy runescape money runescape money runescape gold wow power leveling wow powerleveling Warcraft Power Leveling Warcraft PowerLeveling buy runescape gold buy runescape money runescape itemsrunescape accounts runescape gp dofus kamas buy dofus kamas Guild Wars Gold buy Guild Wars Gold lotro gold buy lotro gold lotro gold buy lotro gold lotro gold buy lotro gold runescape money runescape power leveling runescape money runescape gold dofus kamas cheap runescape money cheap runescape gold Hellgate Palladium Hellgate London Palladium Hellgate money Tabula Rasa gold tabula rasa money Tabula Rasa Credit Tabula Rasa Credits Hellgate gold Hellgate London gold wow power leveling wow powerleveling Warcraft PowerLeveling Warcraft Power Leveling World of Warcraft PowerLeveling World of Warcraft Power Leveling runescape power leveling runescape powerleveling eve isk eve online isk eve isk eve online isk tibia gold Fiesta Silver Fiesta Gold
Age of Conan Gold
buy Age of Conan Gold
aoc gold

china tour
beijing tour
beijing travel
china tour
tibet tour
tibet travel
computer monitoring software
employee monitoring