Some bumps along the way, but outlook still good for coming year
David S. Dahl - Regional Economist
Jason Schmidt - Financial Economist
Edward Lotterman - Agricultural Economist
Published January 1, 1999 | January 1999 issue
Despite gyrations in the financial markets and turmoil in the international economy, the Ninth District economy continued to expand in 1998. Both nationally and regionally, growth was strong, unemployment low and price increases modest. Nevertheless, international economic problems hurt the district's agricultural, mining and manufacturing sectors. Looking ahead to 1999, the Minneapolis Fed's regional forecasting models are predicting another good year, but district business leaders are not quite as optimistic about the outlook as they were a year ago.
International developments started taking their toll on the regional economy in 1998. Slumping international demand for U.S. agricultural products has depressed district farm income, and increasing imports have curtailed district mining. Moreover, in 1998 manufacturing exports declined across the region, except for North Dakota. (See graph.) Concurrently, year-to-year gains in district manufacturing employment slowed to 1.1 percent in the third quarter from 2.3 percent in the fourth quarter of 1997.
Notwithstanding adverse international developments, employment expanded in 1998. In the fourth quarter district employment was estimated to be up 2.1 percent from a year earlier, which essentially matches growth in the prior three years. A year ago, however, the models forecast a 3.1 percent employment increase for the region.
Slower than expected growth stems in large part from tight labor availability, which continues to be a major restraining force on employment growth. In November, the district's unemployment rate, seasonally adjusted, averaged 3.1 percent, well below the nation's 4.4 percent rate. In fact securing workers is the number one concern of district business leaders; 26 percent of respondents to the Minneapolis Fed's latest business conditions poll indicated that securing workers was expected to present a serious challenge to their organization in 1999.
Looking ahead to 1999, the district economy is expected to continue to advance. The Minneapolis Fed's regional forecast predicts district nonfarm employment to rise 3.0 percent between the fourth quarters of 1998 and 1999, and growth in 1999 is forecast being above its historic average in all areas, except South Dakota.
However, considerable uncertainty surrounds these employment forecasts, and they may be on the high side given the unsettled international economic situation, persistent tightness in the region's labor markets and district business leaders' reduced optimism. Seventy percent of respondents to the business conditions poll are somewhat or very optimistic about their communities' prospects for the coming year, compared to 86 percent a year ago. Moreover, they see smaller gains in investment spending, housing, consumer spending and employment than they did a year ago.
Dairy is hot, hogs are not
1999 opens with a sharp contrast between two of the Ninth District's most important agricultural sectors. Dairy producers enjoy some of the highest milk prices in years at a time when supplies of high-quality hay are plentiful and the cost of corn and other feed concentrates are low. Many dairy producers say they are in the most profitable situation they have ever known. Dairy economists and futures prices for milk and milk products point to somewhat lower prices as 1999 progresses. But even with these anticipated declines, 1999 should be one of the best three or four in history for dairy producers, according to University of Wisconsin agricultural economist Bob Cropp.
Hog producers in contrast face some of the lowest prices in 30 years even without any consideration of inflation. Adjusted for inflation, recent hog prices are the lowest since 16th century settlers brought the domesticated pig to North America. While market analysts had predicted somewhat lower hog prices for late 1998, no one anticipated the utter collapse of prices that took place in October and November. By Christmas it literally was possible to buy a 40-pound feeder pig for less than the cost of a stuffed "Babe" pig in toy stores. And one could find large hams in Minneapolis supermarkets that were more expensive than a live 230-pound butcher hog in southwest Minnesota.
Extension economists and other market analysts expect some improvement in hog prices by mid-1999, but it is clear that some highly leveraged producers may be forced to liquidate. The low prices have also raised public policy issues, such as the role of confidential contracts between packers and producers on the transparency and efficiency of price discovery in public livestock markets. The U.S. Congress and various state legislators are likely to hold hearings during 1999 on structural change in the hog industry.
Beef and grain producers do not face the dramatic extremes experienced by their dairy and hog counterparts. As was true for much of 1998, the slaughter price for cows and the prices of virtually all grains remain depressed and are likely to remain so in the foreseeable future given the information currently available. While adverse weather in the United States or in other major grain-producing countries could lift prices out of the doldrums, the progress of crops in such Southern Hemisphere nations as Australia, Argentina and Brazil all points to good, if not bumper, crops. Similarly, while some concerns have been raised about the condition of the U.S. winter wheat crop, no such news has been sufficient to raise prices. It is clear that the ex-Soviet Union had a very poor crop in 1998 and is likely to have another in 1999. But with the Russian and other ex-U.S.S.R. economies in tatters, a poor crop does not translate into major grain imports.
After hog farmers, the most financially buffeted group in the broader agricultural sector has to be machinery dealers. Sales of new and used tractors, combines and other implements are the most depressed in more than a decade. Growing urbanization in some areas helps. "If it wasn't for the lawn tractors we sold last summer, we would have to close the doors," remarked on North Dakota dealer. "The shop has been pretty busy with repairs on customers existing equipment, but we have not sold a new tractor or combine all fall."
Good times continue for banks
Overall, Ninth District banks are entering 1999 in sound condition. Profitability remains very strong at 1.87 percent, declining slightly from earlier in the year. The decrease in net interest margins, or the spread between the interest rates at which banks borrow and lend, reflects the intense competition for loans in the Ninth District. Loan growth was up a healthy 10 percent, building on last year's strong increase of over 15 percent.
Loan quality also remained strong as nonperforming loans were relatively unchanged and loan losses declined from last year. Losses from defaulted loans, which reached their highest level in the past five years during the fourth quarter of 1997, declined over 30 percent from that figure during 1998. While nonperforming loans were almost unchanged from 1997 levels, they were up 39 percent from the national average for third quarter 1998.
One ongoing threat for banking performance is the downturn in several types of agricultural production. On a profitability basis the district's agricultural banks continued to keep pace with the commercial banks as whole. However, in a sign of potential weakness, the loan quality of these banks showed some signs of deterioration during the year. Agricultural loan losses more than doubled in Minnesota and North Dakota agricultural banks in 1998, while noncurrent agricultural loans were up sharply during the third quarter.
Another trend worthy of additional focus in the new year is the increasing spread in profitability between the smallest banks in the district,those with under $25 million in assets,and larger banks. These smaller banks make up about a quarter of all the banks in the district and have seen nearly a 20 percent decline in average profitability over the last year. All other banks in the district averaged a 3 percent drop.