the us commodity loan programs

Commodity loan programs in the United States

are one of the major domestic support programs, and

have been in existence in various forms since the

1930s — primarily covering major field crops.

Different versions of these programs, over time, have

been designed to provide different benefits to

producers, and have addressed different policy goals.

The policy goals and program benefits have included

price support, income support, price stability, and

short-term liquidity. The future direction of

commodity loan programs will depend, in part, on the

combination of policy goals that are to be achieved by

the programs.

Commodity Loan Programs — Price Supports

and Marketing Loans

Commodity loan programs have operated in two

major ways. Commodity loan programs supported

market prices over most of their history, starting in

1933. In the past 15 years, however, marketing loan

provisions have been added to commodity loan

programs for major field crops. Marketing loans

The U.S. Commodity Loan Program

Paul C. Westcott, Economic Research Service, USDA

A.L. (Roy) Frederick, University of Nebraska

provide income support to farmers, but do not support

market prices.

Loan Program Operation

Commodity loan programs allow producers of

designated crops to receive a loan from the

government at a crop-specific loan rate per unit of

production by pledging production as loan collateral.

A farmer may obtain a loan for all or part of a new

crop at any time following harvest through the

following March or the following May, depending on

the crop. However, most loan placements occur

shortly after harvest, when prices tend to be

seasonally low, providing short-term financing to

farmers.

Before marketing loans were introduced

(discussed later), to repay the loan, the farmer would

return the loan principal plus accrued interest

charges. Alternatively, the farmer could choose to

settle the loan at the end of the loan period by keeping

the loan proceeds and forfeiting ownership of the loan

collateral (the crop) to the government. If market

prices were below the loan rate, the farmer would

benefit from settling the loan this way and keeping the

higher loan rate.

Additionally, if market prices were above the loan

rate but below the loan rate plus interest, keeping the

Introduction

loan proceeds and forfeiting the crop would make

economic sense because the alternative of repaying

the loan plus interest would cost more than the

market value of the crop. Price support to the sector

was provided by the acquisition of crops by the

government through loan program forfeitures

combined with restrictions on CCC sales, essentially

removed crops from the marketplace when prices

were low.

The addition of marketing loan provisions

changed the operation of commodity loan programs.

Marketing loans were implemented for rice and

upland cotton in 1986 under the provisions of the 1985

Farm Act. Starting in 1991, subsequent legislation

made marketing loans available for soybeans and

other oilseeds. Marketing loans for wheat and feed

grains were implemented starting with 1993 crops,

under the GATT trigger provisions of the Omnibus

Budget Reconciliation Act of 1990. The 1996 Farm

Act continued marketing loans for all of these crops.

With marketing loans, loan placements may occur

as described earlier under nonrecourse loan

provisions. However, as implemented, marketing loan

provisions allow farmers to repay commodity loans at

less than the original loan rate (plus interest) when

market prices are lower. This feature decreases the

loan program’s potential effect on supporting prices

by reducing governmental stock accumulation through

forfeitures. Instead, farmers are provided economic

incentives to retain ownership of crops and sell them

(hence the term “marketing loan”) rather than forfeit

ownership of crops to the government to settle loans.

Producers can receive marketing loan benefits in

two different ways: through the loan program and

through direct loan deficiency payments. Under the

loan program, farmers place their crop under loan, as

described earlier, by pledging and storing some of

their production as collateral for the loan, and

receiving a per-unit loan rate for the crop. Rather

than repaying the full loan, farmers are allowed to

repay at a lower loan repayment rate when market

prices are below the loan rate (plus interest).

Marketing loan repayment rates are based on

local, posted county prices (PCPs) for wheat, feed

grains, and soybeans, or the prevailing world market

price for rice and upland cotton. When a farmer

repays the loan at a lower posted county price or

prevailing world market price, the difference between

the loan rate and the loan repayment rate (the

marketing loan gain) represents a program benefit to

producers. In addition, any accrued interest on the

loan is waived.

Alternatively, farmers of crops covered by the

loan programs (except extra-long staple cotton) may

choose to receive marketing loan benefits through

direct loan deficiency payments (LDPs) when market

prices are lower than commodity loan rates. The

LDP option allows the producer to receive the

benefits of marketing loans without having to take out,

and subsequently repay, a commodity loan. The LDP

rate is the amount by which the loan rate exceeds the

posted county price or prevailing world market price

and, thus, is equivalent to the marketing loan gain that

farmers could obtain for crops under loan. If an LDP

is paid on a portion of the crop, that portion cannot

subsequently go under loan.

Comparison of Marketing Loans vs. Price-

Supporting Loan Programs

The switch in the way that commodity loan

programs have been operated, moving from price-

supporting programs to marketing loans, results in

important differences in effects on commodity

markets. While both alternatives provide support to

farmers’ revenues, this is accomplished through

significantly different policy mechanisms.

Price-supporting Loans

With price-supporting loans, market prices are

directly supported at the loan rates because the

government accumulates stocks through loan

forfeitures when market prices are below the loan

rate, effectively removing supplies from the

marketplace. Program costs reflect the full loan rate

being paid to farmers on a portion of the crop. Costs

associated with acquisition and storage of these

stocks also add to the agricultural program budget.

Production is increased as farmers base planting

decisions on program-supported prices (equal to the

loan rate). Overall economic efficiency is reduced

because of this misallocation of resources. Although

there is an increase in production, prices are not free

to respond because excess production goes into

stocks with the government’s effective purchase of

supplies at the loan rate. Thus, market demand faces

prices that are held higher than they would otherwise

be. This not only means that domestic market

demands see higher prices, such as higher market

prices for feed that increase production costs to

livestock producers, but that U.S. exports to

international markets are at higher prices, thereby

reducing U.S. competitiveness in global trade and

encouraging increases in foreign production.

In subsequent years, the government sells or

releases stocks when prices are higher, keeping

prices from rising further, but also extending market

impacts over a longer time period. Although this

imposes further distortions to the marketplace, effects

are in the opposite direction to those that occur in the

lower-price years when the government accumulates

stocks. As a result, government stock accumulation

in low price years and stock release in higher price

years may contribute to some reduction in multi-year

price variability. Also, while effects of price

supporting loan programs may extend over a longer

period of years, multi-year cumulative impacts on

total supply may be largely offsetting.

Marketing Loans

In contrast, program benefits under marketing

loans are provided through an income transfer rather

than through a price support. Per-unit revenues to

producers are supported but market prices are not.

Government budgetary costs are largely through

direct payments to farmers and costs of net loan

activity (including marketing loan gains), but there are

not significant governmental stockholding costs. In

contrast to price-supporting loans with costs reflecting

the full loan rate paid on part of the crop, marketing

loan costs reflect a portion of per-unit revenues (the

gap between the loan rate and the market price)

potentially paid on the full production of the crop.

As for price-supporting loans, production is

increased as farmers base planting decisions on net

returns that reflect program benefits. However, for

marketing loans, net returns reflect part of the

revenues coming from the marketplace and part from

the government in the form of the marketing loan

benefit (either a marketing loan gain or a loan

deficiency payment). Again, economic efficiency is

lowered because of the resulting misallocation of land

and other resources. With marketing loans, the

government does not remove production from the

marketplace through stock accumulation, so the

increase in production results in prices in the

marketplace being allowed to decline.

Impacts on equilibrium levels of quantities

demanded largely reflect market adjustments to the

higher production and lower prices. In domestic

markets, lower market prices for feeds, for example,

benefit livestock producers by reducing their

production costs. Foreign demand is influenced by

factors such as income, prices, and exchange rates.

Thus, the reduction in prices due to marketing loans’

impact on production pushes U.S. exports higher,

reflecting increased competitiveness in global trade.

In contrast to price-supporting loans, effects of

marketing loans occur mostly in years when

marketing loan benefits exist. While there may be

small dynamic carryover effects to subsequent years

through marginally higher private-sector stockholding,

there is no substantial release of government-held

stocks as can occur with price-supporting loans. As

a consequence, production impacts in low price years

are not offset in later periods. Thus, while marketing

loan distortions are more focussed in years of

marketing loan benefits, multi-year impacts on supply

are likely larger than for price-supporting loans.

Market prices are more variable than with a price-

supporting loan program, but per-unit revenues to

producers are increased.

Looking Towards the Future: Operating

Provisions Important

Other provisions are also important for the

operation of commodity loan programs, whether

implemented as price-supporting loans or as

marketing loans. For example, there is a wide range

of potential procedures for setting loan rates. Rates

could be pre-determined in agricultural legislation or

they could be allowed to vary across years, based on

formulas that use historical market prices, for

example. If set by formulas, they could be subject to

caps, as in the 1996 Farm Act. Additionally, the

Secretary of Agriculture could be given varying

amounts of discretionary authority for rate setting.

Commodity loans could apply to all or part of a

crop. For several decades, loans generally have been

available on all production from land enrolled in

programs. If loan programs cover less than full

production, any of several qualifying factors could be

used to determine eligibility, such as program yields or

other historical measures of production or acreage.

Other issues relative to commodity loans also

could be addressed in the forthcoming farm bill

discussion. Are current relative loan rates among

commodities, such as corn and soybeans,

appropriate? Equally important to some producers,

can loan-rate differences between counties,

especially adjacent counties in different states, be

made more equitable? To what extent do WTO

obligations impose limits on loan rates and commodity

loan programs?

A number of policy options are possible with

respect to commodity loans. In general, the options

are to: 1) retain marketing loans (within the structure

of nonrecourse loans), 2) revert back to a system of

strictly nonrecourse loans, or 3) eliminate all loan

programs.

However, two other possibilities deserve brief

mention. First, recourse loans (sometimes called

advance recourse loans) could be authorized.

Recourse loans require repayment of the full cash

value of a loan plus interest. Such loans cannot be

satisfied by forfeiting collateral (a stored commodity)

to the government. In most situations, recourse loans

would not be expected to have much of an impact on

commodity prices or farm income, and government

costs would be minimal. Farmers might have an

interest in recourse loans if interest rates or other loan

terms were more favorable than could be obtained in

the private sector. This assumes, of course, that

neither marketing loans nor nonrecourse loans were

available.

Another possibility is to reimplement a multi-year

loan program, perhaps along the lines of the old

Farmer Owned Reserve program. This option is

discussed in depth in another paper in this series. At

least some impacts of such a program, such as

reducing price variability, would be expected to be

similar to nonrecourse loans. An important

difference, however, is that impacts under a multi-

year loan program would be spread over a longer

time period.

Consequences of the general loan program

policy options are discussed for 1) farmers and

ranchers, 2) agribusinesses, 3) consumers, 4)

taxpayers, 5) the environment and 6) rural

communities. The time frame for consideration of

consequences is an “intermediate” period, perhaps

one or two years into the future.

Consequences for Farmers and Ranchers

Marketing loans support farm incomes, not

commodity prices. As a result, marketing loans are

associated with greater price variability than would be

expected with nonrecourse loans. Moreover, to the

extent that marketing loans encourage production

even when prices are low, price variability under this

option may be greater than if loan programs were

eliminated.

Elimination of loan programs probably would

result in a more efficient allocation of resources.

Both nonrecourse loans and marketing loans

encourage capital and other resources to be

committed to production, even when supply-demand

conditions are unfavorable. The higher the loan rate,

the greater the tendency for inefficient allocation of

resources to occur. Moreover, because some

agricultural resources (land and equipment) have few

alternative uses, resources tend to stay in agriculture

for long periods of time, even if used inefficiently.

Resource distortions also occur because

producers may be inclined to plant crops offering

loans rather than other crops. Moreover, even among

program crops, relative differences in loan rates can

distort normal market forces. For example, in recent

years, soybean loan rates appeared to have been high

Policy Options

and

Consequences

enough relative to corn loan rates and market prices

to encourage additional soybean production.

Compared to nonrecourse loans, marketing loans

put a greater premium on producer marketing skills,

especially when commodity prices are below loan

rates. The fact that many producers opt to take loan

deficiency payments (LDPs) rather than placing

crops under loan and do so shortly after harvest adds

to the marketing skills needed later in the season.

(Early acceptance of an LDP ends government loan

program involvement with that portion of a farmer’s

production and may be problematic if cash prices

drop before commodities are marketed.) However,

an advantage of both marketing loans and LDPs

compared to nonrecourse loans is that producers are

not required to keep a commodity in storage for 9-10

months during low-price periods to receive full

benefits of the program. If loan programs were

eliminated, producers might seek out additional

opportunities in the private sector to reduce risk.

Both marketing loans and nonrecourse loans may

impact the structure of the production sector. On one

hand, the income or price safety net provided by loans

could help keep smaller farms in business.

Alternatively, loans could encourage larger farmers to

expand. Marketing loans, in particular, have too short

a history to draw any structural conclusions.

Consequences for Agribusinesses

Input suppliers should be relatively indifferent as

to whether nonrecourse loans or marketing loans are

used. Either way, producers of eligible crops receive

cash-flow protection, an important factor for those

who sell inputs. On the other hand, input suppliers

might worry if no loan programs were offered — the

extent of this concern would vary depending on the

availability of other public and private income

stabilization programs.

Other things equal, agribusinesses that store and

process commodities want to purchase these

commodities at the lowest possible price. At first, this

might seem to favor marketing loans or the

elimination of loan programs over nonrecourse loans.

However, either of the first two options also leaves

commodities more vulnerable to upward price spikes.

In the end, many processors value steady commodity

supplies at moderate prices. Because they operate

value-added businesses, a steady-as-you-go approach

often works best. In short, nonrecourse loans may be

favored over either of the other alternatives.

Consequences for Consumers

First buyers of crops supported by commodity

loans may have different preferences with respect to

the two types of loans. For example, foreign buyers

may respond favorably to lower prices offered under

marketing loans, especially if the price makes U.S.

supplies more competitive with those offered

elsewhere in the world. In the United States,

livestock feeders typically want the lowest possible

feed prices.

In contrast, a domestic flour miller (a first-buyer

consumer and an agribusiness, as in the discussion

above) may be mostly interested in obtaining a steady

supply of a certain class of wheat. Purchases at the

lowest possible price may be less important and, in

fact, generally stable prices may be preferred.

Consumer preferences at the retail level with

respect to marketing or nonrecourse loans could go

either way. If commodities were expected to be

plentiful much of the time, it would be logical for

consumers to prefer marketing loans over

nonrecourse loans. After all, marketing loans allow

commodity prices to dip below loan rates in periods of

ample supplies. In contrast, greater stability offered

by nonrecourse loans may be preferable if commodity

prices were otherwise expected to vary widely.

Consequences for Taxpayers

One of the advantages traditionally identified for

marketing loans is that they eliminate much of the

government’s potential carrying costs (interest,

storage, risk of the commodity going out of condition)

associated with nonrecourse loans. However, when

nonrecourse loans are replaced by marketing loans,

some loan program costs shift from consumers to

taxpayers because market prices are not supported.

Consequences for the Environment

Beginning with the 1985 Farm Act, marketing

loans and nonrecourse loans generally have been

available only to producers who engage in good

conservation practices. Additionally, over a longer

history ending in 1995, eligibility for loans often

depended on taking a certain percentage of land out

of production and devoting it to conserving uses.

Typically, this would be the poorest land on a farm.

Thus, both marketing loans and nonrecourse loans

tend to be associated with enhanced conservation of

natural resources. Elimination of loans could have a

negative impact on the environment.

Consequences for Rural Communities

Many rural communities depend heavily on

farmers and related agribusinesses for their economic

sustenance. To the extent that marketing and

nonrecourse loans enhance farm incomes, rural

communities benefit as well. Farm leaders typically

base a significant part of their requests for

government support on the desirability of maintaining

rural communities.

Nonrecourse and marketing loans have been

perhaps the single most-used provision of agricultural

commodity programs, dating back to farm legislation

in the 1930s. Thus, the alternative of eliminating loan

programs would be a significant departure from the

commodity policy setting of the past century. The

alternatives of nonrecourse loans alone or augmented

with marketing loans have some similarities but also

significant differences, with impacts over a wide

spectrum of parties and for an extended period of

time.

Concluding

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