Nothing beats a widely accepted economic theory getting trampled by a herd of unruly facts. One economic theory is that everyone (including farmers and livestock producers) tries to maximize net profit. Everyone knows that theory doesn’t hold water on the individual basis. Sometimes, the next dollar of income just isn’t worth it to the person chasing it. Probably, the better theory is that everyone wants to maximize income with the least amount of effort, however, they see things in their own little world view.
A good example of different strokes for different folks comes in the shape of farming versus livestock. In today’s world, much of the crop sector is seasonal and highly automated. While it takes big dollars to play, you can do most of it from the seat of your climate-controlled equipment. The joke in North Dakota is that it’s AAA farming — April to August and then to Arizona. The reality is that farming involves a lot more pain and struggle than the AAA jibe implies, but the reality is that the percentage of producers who used to do both crop and livestock has dropped significantly. Specialization of knowledge and intensity of capital expenditure have played their roles, but desired lifestyle matters too. Livestock production ties an operator up 365 days a year, and it involves the continual worry of your livestock dying. Crop producers just haven’t seen the economic benefit to keeping animals on the farm, and there has not been enough profit incentive to result in the vertical integration of their operations. They no longer “walk the feed” off the farm, like in the old days.
What’s interesting is that the ratio of crop versus livestock revenue isn’t a constant either. The USDA has crop and livestock revenue estimates going back to 1910. As the following graph shows, sometimes it pays to keep livestock, and other times it doesn’t. Since the USDA doesn’t show farm income broken out between the two sectors, I can’t look at long-term income ratios, but the revenue ratio has very interesting story to tell on its own.
From 1925, during the great depression era, livestock revenue exceeded crop revenue by 20% up until the early 1970s. The trigger event of the early 1970s that changed the world was the first oil embargo and the quadrupling of oil prices. This allowed the Soviet Union, one of the largest oil producers in the world, to enter into the international grain market and to barter for grains on an unprecedented scale. Being long on grains to livestock was an excellent situation for U.S. farmers. Livestock and meat prices were forced to adjust to the higher cost of feed relative to the consumer price. From 1973 until 2004, crop and livestock values seesawed around a revenue ratio of one to one as grain/oilseed values matched protein values.
The next market shock came in the early 2000s in the form of the U.S. biofuels policy. 2009 saw the value of crops exceed the value of livestock by 43%, an unmatched high water mark. Even with the parity of 2014 and 2015, the ten-year average has just started to peak and decline. Once again, it paid to be long on crops and short on livestock through this adjustment process. However, it appears that this adjustment phase is coming to an end with grain/oilseed supply per capita having adjusted to the new demand from biofuels.
One of the things that keeps agricultural economists employed is the hodge-podge of archaic measures used in agriculture. The U.S. produced approximately 373 million barrels of ethanol over the last 52 weeks. So how much corn was that? At 42 gallons per barrel, and 2.8 gallons per bushel, and 56 pounds per bushel. Basically, we used 434 kilograms of corn per person in the U.S. to produce ethanol over the last 52 weeks.
It is important to remember that the ethanol process also creates a valuable coproduct called distiller’s grain which is an excellent animal feed. About 30% of the corn that goes into the ethanol mill comes out as distiller’s grain, creating 131 kilograms per capita in the U.S. So, net of dried distiller’s grain, we are using about 300 kilograms of corn per capita in the U.S for ethanol.
The recent growth in the supply of grains/oilseeds net of the ethanol usage puts the U.S. back to where we were prior to the biofuels mandate of the early 2000s. With future U.S. yield gains surpassing ethanol demand growth, this supply per capita should be relatively stable. So, what will be the next best economic usage for the growing per capita supply? Livestock production will be the best value-added usage for the grain supply. The U.S. is well positioned to take its surplus grains/oilseeds and create ready-to-eat proteins for the growing middle class markets around the world. This will make the U.S. meat sectors even more export intensive and sensitive to currency and trade disputes, but the only other reasonable usage is bulk grain/oilseed exports which don’t generate nearly as much value-added usage for the U.S. economy.
The chart above shows that U.S. meat production, having been on an uninterrupted growth trend for several decades, took a pause due to the biofuels policy. U.S. meat production peaked in 2008, and did not reach a new high until 2015. The industry seems determined to make up for lost time as it takes advantage of lower corn and soybean prices. With U.S. population growth at 0.7% annually, most of the 3.1% annual growth over the last 3 years will be headed to the international market. This influx of foreign supported spending will make keeping livestock production more economically appealing. Thanks to the farmers and livestock operators looking for better profits, we will be seeing more interest in the “old school” approach of integrating crops and livestock where possible.