Trends in General Inflation and Farm Input Prices • farmdoc daily
Much of the recent discussion of input price changes in US production agriculture has focused on fertilizer prices. For example, a recent daily farmdoc article (Schnitkey et al., 2022) discussed high fertilizer prices in the context of the Ukraine-Russia conflict. Many factors are responsible for the spike in fertilizer prices. Each input used in production agriculture and other industries has its own set of supply and demand fundamentals. However, input prices can also be affected by changes in general inflation. This article compares and contrasts trends in general inflation with changes in input prices in US production agriculture.
Long term relationships
Before discussing the long-term relationship between general inflation and agricultural input prices, it is important to define key terms. Inflation represents the decline in purchasing power of a currency over time (Investopedia, 2022). Quantitative estimates of the rate of inflation are usually made by looking at the increase or decrease in price levels of a basket of selected goods. Measures of inflation include the consumer price index and implicit price deflators. Although calculated using different methodologies, inflation measures are highly correlated over time. Most economists would agree that an increase in the money supply causes inflation. Inflation mechanisms can be categorized into three types: demand-driven inflation, cost-driven inflation, and embedded inflation (Investopedia, 2022). When an increase in the money supply increases aggregate demand more than the productive capacity of an economy, we have demand-pull inflation. When production costs increase prices, we have cost inflation. Quality improvements and technological changes are often factored into cost inflation. Quality improvements would increase prices while technological change would tend to reduce prices. Finally, when people expect current inflation rates to continue in the future, we have built-in inflation. In general, the longer above-average inflation rates persist, the more important intrinsic inflation becomes. These three types of inflation mechanisms contribute to the recent surge in inflation. It is important to note that inflation has been particularly high in the United States compared to other countries. A recent publication from the Federal Reserve Bank of San Francisco explains why this is the case (Jorda et al., 2022). According to the authors of the article, recent increases in inflation in the United States are due to problems with global supply chains and changes in spending patterns due to COVID-19 as well as fiscal support measures designed to counter the economic effect of the pandemic (i.e., demand pull inflation).
As noted above, changes in input prices in productive agriculture and other industries are driven by general inflation and its mechanisms as well as by a specific supply and demand fundamentals. particular input. That said, some inputs are more closely aligned or correlated with general inflation than other inputs.
Using information for the period 1973 to 2021 from the Federal Reserve Bank of St. Louis on inflation rates and USDA-NASS agricultural input price indices, we examined the correlation between the implicit deflator of prices for personal consumption expenditure and items of agricultural production (i.e., the general price index of inputs for production agriculture), animal feed, seeds, fertilizers, fuels, labor and machinery. The correlation coefficient between the implicit price deflator and the elements of agricultural production was 0.594. The average annual rate of change over the period was similar for the implicit price deflator and the agricultural output components (around 3.5%). The average annual price changes for labor (4.4%) and machinery (5.1%) were well above the average increase in the implicit price deflator. For the six specific input categories examined, the only correlation between the implicit price deflator and input price change that was not significantly different from zero was the correlation between the implicit price deflator and prices animal feed. The correlations between the implicit price deflator and labor and machinery were relatively higher than the correlation between the implicit price deflator and the general agricultural price index (i.e. the components of agricultural production). This is an important result because it suggests that input prices for labor and machinery track general inflation trends more closely than input prices for items such as food. for animals, seeds, fertilizers and fuels.
Relative variability can be measured using the coefficient of variation which is calculated by dividing the standard deviation by the mean. The coefficient of variation of the rate of change of the elements of agricultural production was almost twice the coefficient of variation of the implicit price deflator. The coefficients of variation for animal feed, fertilizers and fuels were higher than the coefficient of variation for the more general price index of agricultural inputs (ie the elements of agricultural production). The labor input price index was lower than the coefficient of variation of general inflation.
Historical trends in general inflation and agricultural input prices
This section will compare and contrast the 1-year, 5-year, and 10-year averages of the implicit price deflator for personal consumption expenditure and farm input prices. Data for the implicit price deflator was obtained from the Federal Reserve Bank of St. Louis. Data for all agricultural inputs, except fertilizer and diesel, were obtained from USDA-NASS. Fertilizer and diesel price data were obtained from USDA-AMS.
Table 1 shows the average changes in inflation and agricultural input prices for the period of 2012 to 2021, for the period of 2017 to 2021 and for 2021. The first thing that becomes immediately apparent is how much inflation was higher in 2021 compared to the 5-year and 10-year averages. The 10-year average inflation rate was just 1.6%.
Let us now compare the general inflation rate to the annual variations in the prices of agricultural inputs. For the annual change from 2020 to 2021 (labeled 2021 in Table 1), input price changes for all agricultural inputs except seeds and agricultural chemicals were greater than the annual change in the implicit deflator prices for personal consumption expenditure. Year-to-year variations in energy and fertilizer prices have been particularly large. The annual change in the price of diesel was 47%. Annual variations in fertilizer prices ranged from 57% for potash to 70% for anhydrous ammonia. With respect to 10-year averages, the only agricultural inputs whose price changes exceeded those of the implicit price deflator were those corresponding to anhydrous ammonia, diammonium phosphate, supplies and repairs, machinery, building materials and wages. With the exception of the 10-year average price changes for building materials (3.5%) and wages (4.0%), none of the 10-year average price changes exceeded 3%. The results in Table 1 illustrate how outliers price changes in 2021 were relative to long-term averages.
Recent trends in general inflation and agricultural input prices
Due to the surge in prices over the past few months, the 2021 averages in the previous section underestimate recent phenomena. To compensate for this fact, we calculated average price changes using the last 12 months of data available for inflation and agricultural inputs discussed in the previous section. The results are shown in Figure 1. All price changes shown in Figure 1 were calculated using February 2021 and February 2022 data. The percentage change in the implicit price deflator was 6.4% . We haven’t had this level of inflation in the United States since 1981. Seed and wage price changes were less than the annual price change for the implicit price deflator. Price changes for other agricultural inputs displayed in Figure 1 were more than 10%, with anhydrous ammonia leading with a year-over-year increase of 179%. A 100% increase represents a doubling of the price, thus anhydrous ammonia and potash prices have more than doubled over the past 12 months. The results in Figure 1 can be used to help explain why equilibrium corn and soybean prices are expected to increase by about 25 and 15 percent, respectively, from 2021 to 2022.
This article discusses trends in general inflation and agricultural input prices. Over long periods, agricultural input prices are strongly correlated with general inflation. However, agricultural input prices are by no means perfectly correlated with general inflation. Each input has its own supply and demand fundamentals. Farm input price indices for machinery and labor were more correlated to general inflation than feed, seed, fertilizer and fuel.
Of the input prices examined, only seeds and wages have experienced a rate of change over the past 12 months that is less than the rate of change of general inflation. The Elements of Agricultural Output, a general index of farm input prices, rose 15.6%, more than double the rate of general inflation. Changes in input prices for energy products and fertilizers were particularly large. Over the past 12 months, diesel prices have increased by 47%. Fertilizer price increases ranged from 51% for diammonium phosphate to 179% for anhydrous ammonia.
Federal Reserve Bank of St. Louis. FRED economic data, consulted on April 15, 2022. https://fred.stlouisfed.org/
Fernando, J., MJ Boyle and P. Rathburn. “Inflation.” InvestopediaUpdated January 12, 2022. https://www.investopedia.com/terms/i/inflation.asp
Jorda, O., C. Liu, F. Nechio and F. Rivera-Reyes. “Why is inflation in the United States higher than in other countries? Federal Reserve Bank of San Francisco, Economic Letter, 2022-07, March 28, 2022.
Schnitkey, G., N. Paulson, C. Zulauf, K. Swanson, J. Colussi, and J. Baltz. “Pricing and Supply of Nitrogen Fertilizers in Light of the Ukraine-Russia Conflict.” daily farmdoc (12):45, Department of Agricultural and Consumer Economics, University of Illinois at Urbana-Champaign, 5 Apr 2022.
USDA-AMS. Illinois Production Reports, accessed April 15, 2022. https://fred.stlouisfed.org/
USDA-NASS. Quick Stats, accessed April 15, 2022. https://quickstats.nass.usda.gov/