Farm debt has come down thanks to higher commodity prices. Photo / Supplied
Farm debt has come down thanks to higher commodity prices. Photo / Supplied
High commodity prices and a clampdown on interest-only loans have seen farm debt decline from problematic levels over the last few years.
Farm debt, particularly dairy farm debt, has in the past been cited by the Reserve Bank as a possible threat to the financial system.
However in its mostrecent Financial Stability Statement - issued in May - the central bank left it to page 22 to canvas the issue.
It said then that banks have continued to diversify their loan portfolios away from dairy in favour of sheep and beef farming and horticulture, lessening the financial system's exposure to sector-specific risks.
Nathan Penny, Westpac's senior agri economist, said farm debt had improved "massively" - mostly driven by strong milk prices.
Fonterra's milk price came to $7.14 a kg in 2019/20, $7.85/kg in 2020/21 and is forecast to be in a range of $7.25 to $8.75/kg in the current season.
Dairy farmers see a milk price of $6.00 per kg of milk solids as a benchmark for profitability.
"Farmers have decided that rather than reinvest in more farms or expand, they have opted to pay off debt, so it has been a conscious choice – their first priority has been to lower their debt levels," Penny said.
Uncertainty surrounding government policy and compliance may have been a factor in farmers becoming less willing to take on more debt but Penny said the key factor had been a change in policy from the banks by largely doing away with interest-only loans.
"In general, dairy farms were able to take out interest-only loans," Penny said.
"That was quite peculiar to agri and in particular to dairy," he said.
"It was not something that banks did for commercial loans or corporate loans, per se.
"That change in policy has meant that repayment of some principal has been the norm," he said.
Penny says debt reduction has been an ongoing theme for the last three or four years, partially in response to concerns from the Reserve Bank but also in response to some of the volatility in dairy returns and tougher capital requirements for banks.
Banks have also become more conservative in their lending policies.
"Essentially the banks have been aligning agri with the rest of their commercial clients, so that the same rules apply to all.
"It has helped remove a little bit of the speculative element from farm expansion and it has brought back the focus to cash returns.
"It's been a more disciplined from the banks, and farmers by and large have gotten on board with this new approach."
Penny said many farmers had experienced some "hard conversations" with the banks while the sector's loans went on to a more normal footing.
"There has been a change in the mindset for many, but it is now fairly well embedded."
In horticulture, returns have been so strong that growers have been able to expand using their own cash.
That's in stark contrast to dairy's expansion, which was largely funded by debt.
Federated Farmers president Andrew Hoggard. Photo / File
Federated Farmers president Andrew Hoggard said a big shift came when banks started to clamp down on farm debt late in 2019.
The onset of Covid-19 may have been a factor in farmers taking more manageable debt.
"It's not a bad place to be, particularly in the crazy world that we are in at the moment," he said.
"Everyone now is doing principal as well as interest," Hoggard said.
"They [banks] are certainly a lot more rigorous around how they lend, who they are lending to, and what they are lending for," he said.
"And the ability to pay down debt is much greater at a higher payout."
Hoggard said the concern now was the banks' attitude to the new group coming in - sharemilkers - who "struggle" to get a foot in the door with the banks.
Farmers had in the past made the mistake of taking on too much debt in the boom years.
"People had taken on too much, thinking that it was all going to be sunshine and rainbows all the way and with the banks being a bit lackadaisical in terms of who they were vetting through from the early 2000s through to 2014, when the milk price crashed," he said.
DairyNZ's data suggests dairy debt fell by 6 per cent over the past two years.
Chief executive Tim Mackle said high milk prices enabled farmers to pay off loans and take advantage of low interest rates.
Covid-19 had also driven greater motivation to reduce debt and ensure better resilience for unforeseen changes.
A positive milk price forecast for the coming season augured well for further debt reduction.
"An above-average milk price has continued, enabling farm maintenance and debt repayment, and investment in environmental improvement," he said.
Over 2019-20, the average dairy farm operating profit was up 28 per cent, at $2750/ha.
Milk solids per cow and hectare were at their highest levels too, he said.
However operating expenses had increased to $5.31/kg MS in 2019-20.
