CoBank Quarterly: Sticky Inflation Puts Federal Reserve on the Horns of a Dilemma

Lower interest rates are coming, but the Fed will err on the side of caution

DENVER (April 11, 2024)—Strong labor and consumer spending metrics have led most market participants to dismiss earlier recession concerns, but there are still some worrying signs for the U.S. economy. While inflation rates are trending in the right direction, they remain higher than ideal. The Federal Reserve has assured interest rate cuts are coming this year. However, it also appears to be admitting inflation will take longer to subside than it had hoped for earlier and interest rates will not return to their pre-pandemic lows in the foreseeable future. 

According to a new quarterly report from CoBank’s Knowledge Exchange, the Fed is likely keeping a wary eye on consumer spending, new job growth and wages, but recognizes rate cuts are needed to ensure the economy does not stall out. Given that inflation is still too high and the economy is showing some signs of stress, the report indicates the Fed will wait at least until June before launching the next rate-cutting campaign.

“Inflation is proving to be more difficult to tamp down than expected,” said Rob Fox, director of CoBank’s Knowledge Exchange. “But the Fed doesn’t want to crash land the economy after avoiding a recession for this long. Fed officials reiterated in March that three rate cuts totaling 75 basis points are still likely in 2024, despite the uptick in various inflation measures seen in the first quarter.” 

After the best three-year stretch for farm incomes in history, the coming year will be challenging for row crop producers due to ample domestic stocks and the relentlessly strong U.S. dollar. Even more problematic for American farmers is the loss of global export market share as policy makers have eschewed trade agreements that would improve international market access. U.S. farmers are at an ever-increasing disadvantage to export competitors as a result. 

While commodity markets have steadily trended lower over the past two years, natural gas prices have completely bottomed out and are flirting with all-time lows. Low natural gas prices are problematic for the industry, but a boon for American consumers as well as for businesses that use natural gas to produce basic materials such as steel, concrete and fertilizer. 

The 118th Congress is one of the least productive in history and the farm bill remains in a state of flux amid highly partisan divides. To date, neither the House of Representatives nor the Senate Agriculture committees have released text to reauthorize the farm bill. The shrinking majority in the House makes passing any legislation extremely difficult. In the short term, further Congressional inaction seems a safe bet.

Grains, Farm Supply & Biofuels 

Grain and oilseed prices continued their descent last quarter under the pressure of a strengthening U.S. dollar, the arrival of the South American harvest and ample domestic inventories. USDA’s Prospective Plantings report indicated farmers will be cutting back on planted acreage this spring. Corn, grain sorghum, barley and oats all saw major reductions since last year, while USDA is projecting increases for soybeans, cotton, spring wheat and durum wheat this year. The strong U.S. dollar remains a headwind to U.S. grain and oilseed exports, and low water levels on the Mississippi River could slow shipments ahead.

Ag retailers and distributors could see slightly lower demand for fertilizer and other inputs during the spring agronomy season due to an anticipated decrease in total plantings of principal crops. Tighter farm balance sheets could also limit any increase in spending on inputs in 2024. Farmers trying to get ahead by applying spring fertilizer faced difficulties obtaining supplies. Urea ammonia nitrate inventories started off the year low and remained tight heading into April. Anhydrous ammonia applications in late fall emptied stocks on hand, and the quick start this spring continues to use up limited supplies.

The ethanol outlook for 2024 remains positive as plants capitalize on lower corn prices and improved margins. The EPA will allow eight Midwestern states to use E15 year-round starting in 2025 but will still require waivers this summer. Rising E15 and E85 blending enables the ethanol industry to hold the line in an otherwise declining gasoline market. Renewable diesel continues to provide solid demand for soybean oil and other feedstocks including animal fats and corn oil. 

Animal Protein & Dairy

Strong consumer demand for beef and a dwindling beef cow herd have resulted in record-high prices across the board. Fed cattle futures have jumped into the $180s per cwt. The boxed beef cutout averaged a 7.6% premium year-over-year during the first quarter. And retail beef prices were up 8% in February compared to a year ago. All indications continue to point towards tighter beef supplies for U.S. consumers, not only for 2024, but in the years to come. Producers have welcomed the sharp drop in feed costs, but weak pasture conditions have slowed herd rebuilding. Beef prices should remain sky high.

Pork production has returned to profitability after 17 consecutive months in the red. Margins are improving for wean and farrow-to-finish operations. Iowa State estimates wean-to-finish operations were about $5.50 per head in the black for February after a $39 loss a year earlier. While declining feed costs are a positive for hog producers, domestic and foreign demand has improved as well. U.S. pork exports grew by 7.5% in 2023, and the USDA forecast suggests another 4% in growth for 2024. The bottom line for pork margins is that the trend appears to be headed in the right direction.

After surviving weaker demand and elevated input costs in 2023, the U.S. broiler industry is poised for success in 2024. Input costs are easing, and broiler prices have been appreciating. Foreign demand growth has been sluggish for U.S. chicken, with cumulative export volume down 3% in the most recently reported 6-month period. Highly Pathogenic Avian Influenza continues to threaten access to foreign markets, despite limited instances in domestic broiler flocks. Fortunately, domestic markets are clamoring to value protein, and leg quarter values are up more than 30% year-over-year. 

Futures prices indicate 2024 could be the third-highest milk price year on record. However, sluggish international dairy trade and tepid domestic demand have been slowing growth in dairy product sales. The prospect of new processing plant capacity coming online, and more cheese trying to find a home later this year, has been putting downward pressure on Class III milk prices. On the flip side, strong butter demand has lifted Class IV milk prospects higher. Together, cheese and butter prospects have inverted the Class III to Class IV price relationship. The situation could persist throughout 2024, delivering lower milk prices to farmers in high cheese-production regions such as the Upper Midwest. 

Cotton, Rice, Sugar & Specialty Crops

Cotton prices rose 15% last quarter, fundamentally changing the outlook for planting this spring. USDA projects cotton acreage to expand 4.3% year-over-year. Tight domestic inventories following last year’s small harvest drove the recent price rally. The scarcity of supplies has curbed the U.S. cotton export program. Brazil is now on its way to replace the U.S. as the world’s largest cotton exporter. The prospects of expanded cotton acreage in both the U.S. and Brazil portend a price war later in the year as they compete for global market share.

Rice prices fell 8.4% last quarter, succumbing to the downward trend across the grain complex. Despite the recent drop in prices, rice still holds a historically large price premium over soybeans. U.S. rice inventories totaled 100.5 million cwt. on March 1, rising 31% year-over-year due to last fall’s bigger harvest. The pace of disappearance also jumped 30% thanks to a swift export program that preceded the arrival of the Brazilian harvest. Strong rice exports have underpinned U.S. prices, enticing more planted rice acres this spring. 

El Nino has ravaged sugar production in key growing regions such as Brazil, India and Mexico, causing international sugar prices to continue climbing 8.8% last quarter. The resulting drop in Mexican raw sugar imports into the U.S. has tightened the stocks-to-use ratio for the 2023/24 marketing year. As a result, USDA announced it would expand the tariff rate quota to increase the amount of raw sugar that can be imported under low tariffs. The collapse of the Francis Scott Key bridge in Baltimore may have the greatest impact on sugar compared to other agricultural commodities. In 2023, Baltimore was the top port for handling sugar, accounting for 21% of all U.S. sugar imports.

A poor 2023 cocoa harvest coupled with lower expectations for 2024 continues to hit futures prices, which have nearly doubled since January. Cocoa exports from the Ivory Coast are reportedly down by one-third in recent months. The challenges in pricing come as cocoa grindings in North America have been falling steadily on a quarterly basis for the better part of two years. Smaller chocolate producers have reported incidents of canceled cocoa supply contracts. Meanwhile, chocolate brands including Hershey are featuring more sugar confectionery products. 

Food & Beverage

Inflation has abated for food at home, where prices grew just 1% over the past 12 months, according to the Labor Department's Consumer Price Index. However, inflation for food-away-from-home grew 4.5%, outpacing the overall inflation rate. Consumers are trading down from restaurants to eat at home as a result. They are also pivoting to lower-cost, private label brands at the grocery store. Research from the Private Label Manufacturers Association and market researcher Circana finds private label notched a 4.7% increase in dollar sales across the U.S. in 2023, rising to $236 billion. 

Power, Water & Communications

The exceedingly warm winter has left natural gas inventories brimming, with end-of-March levels sitting at the third highest ever recorded. Average spot gas deliveries at Henry Hub were just $1.49/MMBtu in March, establishing a new end-of-season floor. If the absence of heating demand were not enough to crater prices, the slow deceleration in production also contributed to the market glut. 2024 is charting a course for natural gas prices to hit bargain basement territory, underscoring the sentiment that this is the last hurrah for low-cost shale gas. 

Growth in the data center market, driven largely by investments related to artificial intelligence, continues to exceed expectations. Data centers running AI applications consume a considerable amount of power, and the impact this is having on electricity load growth has the potential to overwhelm the system. Despite the challenging market dynamics, there will be no shortage of capital being deployed over the next several years to acquire land, build new data centers and make grid-related investments to meet the growing power needs of the industry.

Read The Quarterly. Each CoBank Quarterly provides updates and an outlook for the Macro Economy and U.S. Agricultural Markets; Grains, Biofuels and Farm Supply; Animal Protein; Dairy; Cotton and Rice; Specialty Crops; Food & Beverage industries and Rural Infrastructure.

About CoBank

CoBank is a cooperative bank serving vital industries across rural America. The bank provides loans, leases, export financing and other financial services to agribusinesses and rural power, water and communications providers in all 50 states. The bank also provides wholesale loans and other financial services to affiliated Farm Credit associations serving more than 77,000 farmers, ranchers and other rural borrowers in 23 states around the country.

CoBank is a member of the Farm Credit System, a nationwide network of banks and retail lending associations chartered to support the borrowing needs of U.S. agriculture, rural infrastructure and rural communities. Headquartered outside Denver, Colorado, CoBank serves customers from regional banking centers across the U.S. and also maintains an international representative office in Singapore.

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Corporate Social Responsibility

Dave Harding
Knowledge Exchange