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Nebraska Economic Forums - 1997
Few Clouds over Nebraska
Russell L. Lamb
Economist
Federal Reserve Bank of Kansas City
October 1997
I. Introduction
II. An overview of the Nebraska Economy
III. Where is the growth coming from?
IV. A good year on the farm
V. Nebraska Banking
VI. Summary and Outlook
I. Introduction
I have decided to title my remarks this evening "Few Clouds over Nebraska," because I believe that there really are almost no clouds in the sky over the Nebraska economy. Total employment growth has been robust in Nebraska, with large gains in both the manufacturing and service sectors. The farm economy has likely turned the corner in Nebraska and the Banking sector -- which I know is of particular interest to many of you -- is healthy. Looking ahead, the recent strong performance by nearly all sectors of the Nebraska economy suggests that the outlook for both the farm and Main Street is bright.
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II. An overview of the Nebraska Economy
With that brief summary, let me first turn to the macroeconomic data available on the Nebraska economy. I'll then discuss of some key sectors in the nonfarm economy which have been important in boosting growth. No discussion of the Nebraska economy would be complete without a discussion of the situation in agriculture. I'll look at performance of the Banking sector in the state, and conclude with a look at what's ahead for the Nebraska economy.
To set the stage, I'd like to briefly highlight the health of the national economy. For the past two years the U.S. has been experiencing a period of almost unparalleled growth coupled with low inflation. Real Gross Domestic Product grew about 4 - 1/4 percent over the four quarters of 1996, and grew at an annual rate of about 4 percent during the first half of this year. At the same time, price inflation has remained subdued, and the consumer price index for all items rose only 2.2 percent over the twelve months ended in August of this year. Workers have benefited from growth, with the unemployment rate dropping nationally to its lowest level since 1973. Moreover, real wages have shown some signs of increasing more substantially than they have in a long time.
Nebraska has shared in the nation's robust growth. 1996 and 1997 have seen a moderate slowdown in the Nebraska economy, after some years of robust economic growth. As shown in the first chart, employment grew at a 2 percent annual rate in Nebraska through 1996 and the first half of 1997, roughly the same rate of growth seen in the U.S. In spite of the slowdown in employment growth, labor markets in Nebraska remain tight, and the state average unemployment rate in Nebraska was down to 2.3 percent as of July. This represents not only the lowest unemployment rate in the Tenth Federal Reserve District, but in fact the lowest rate of any state in the nation.
Another broad measure of economic activity is the total personal income accruing to Nebraska residents. As shown in the next chart, real Nebraska personal income shot up almost 6 percent in 1996, and has risen about 4 percent (year over year) during the first half of this year. The somewhat stronger income growth in Nebraska last year -- compared with both the U.S. and with this year's performance -- reflects the impact of the robust growth in the Nebraska economy. What is most encouraging is that Nebraska's people are now capturing the effects of strong economic growth in higher incomes.
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III. Where is the growth coming from?
The healthy growth in the Nebraska economy begs the question: Where is growth coming from? I'd like to highlight some key sectors of the Nebraska economy.
A. Manufacturing
Manufacturing is one area in which Nebraska has done particularly well at generating new jobs. While the U.S. has seen anemic growth or downright declines in manufacturing jobs throughout much of the current recovery, Nebraska has been adding manufacturing jobs at a healthy clip. In 1996 and during the first half of 1997 manufacturing employment rose at about a 1 percent annual rate in Nebraska, compared with essentially no change in the country as a whole. As shown in the next chart, manufacturing growth has been spread over both the durable and nondurable sectors in Nebraska, but durables have shown the most robust growth over the past several years and so far in 1997.
While I don't want to go into too much detail here, I do want to point out particular areas of strength in Nebraska. In durables manufacturing, much of the activity has been located in industrial machinery. Manufacturers of electronic components have also been doing very well in recent years, and this bodes well for the future, given the outlook for the dissemination of technology to more parts of our lives.
In nondurables manufacturing, Nebraska has been particularly effective at exploiting its comparative advantage in food processing. While job growth in food-processing industries has stagnated in the rest of the country, in Nebraska it is booming. Food-processing employment has grown between 2 - 4 percent per year over the current recovery. Much of the growth is export driven -- and further-processed food items account for over half of Nebraska's manufactured exports. Among the top 20 manufacturers in Omaha, for example, 8 firms are involved in the food industry. The very strong performance of the food-processing industry reflects Nebraska's comparative advantage owing to its location in the Heartland. With world demand for food likely to continue to grow robustly, the rest of the world will turn increasingly to the U.S. to meet its demand.
Looking ahead, the recent strong performance suggests to me that the outlook is bright for manufacturing in Nebraska. Manufacturing growth in the state is concentrated in sectors which are likely to experience robust growth in the years ahead. And Nebraska has tapped into its comparative advantage as a food processor.
B. Services
The service sector has been another area of strength in Nebraska in recent years. Service sector employment in Nebraska has grown between 4 and 5 percent per year on average throughout the current recovery, about the same rate of growth as in the U.S. Much of the job growth has been in Business services, activities like information processing and database management. The number of computer service firms in the state jumped from just under 240 in 1992 to over 300 by 1994, the last year of available data. Nebraska has been adept at exploiting some comparative advantages, even turning its lack of a distinct regional accent into a plus in attracting telemarketers!
Although not part of the narrow definition of the service sector, two related areas are the Communications sector and the Finance-Insurance-Real estate sector. Both of these sectors have also been growing robustly in Nebraska. In fact growth in the FIRE has exceeded growth in the nation during most of the past 3 years. Employers like Mutual of Omaha, for example, have been hugely successful at tapping into the dynamic service sector of the economy.
Nebraska's ability to tap into the robust growth in services will likely serve it well going into the future. The service sector is likely to continue to be a source of growth both nationally and in Nebraska. Moreover, the diversification of the state's economy will help insulate it from the impact of isolated problems such as those which arise from time to time in the farm sector.
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IV. A good year on the farm
While Main street has been enjoying some sunny weather, how do things look for the farm economy? In brief, the farm economy has done pretty well this year. Prices for crops have slipped from the highs posted last year, but remain at levels that are profitable for most farmers. Cattle ranchers are getting good prices for calves, and are likely earning their first profits in two or three years. Cattle feeders should be cautious, since a runup in corn prices in 1998 could erode profits. A boom in U.S. farm exports has helped farmers in Nebraska. This good news in the farm sector is reflected in prices for Nebraska farmland, which have risen, although they remain below the highs of the early 1980s.
Turning now to the specifics, the next chart summarizes prices for corn, wheat and soybeans. As you know, short crop supplies after 1995's disappointing harvest led to a period of sharply rising prices last year. Monthly average corn prices (in central Illinois) reached $4.89 and wheat prices averaged close to $7.00 (Kansas City) last May. Since then prices for both crops have drifted downward, and are now more in line with the prices seen early in the 1990s. The situation in the soybean markets has been a little different. Soybean prices shot up earlier this year as world inventories looked lean in advance of the southern hemisphere's harvest. Cash soybean prices in central Illinois averaged over $8.50 this May.
Of course, I know you are all much more interested in where prices are heading than where they've been. The dashed extensions to the solid lines in the chart show the prices for these crops implied by futures market data as of [October 1]. Futures markets are looking for prices of corn, wheat, and soybeans to rise in coming months.
Some caveats about markets for crops should be borne in mind. As shown here, USDA currently expects world stocks of corn (relative to use) at the end of the 1997/1998 crop marketing year to be lower than this year and, more importantly, to be below the levels of 1996. Moreover, a lot can happen in a year. A shortfall in southern hemisphere production could have an important impact on world prices. Moreover, we don't have an accurate picture of corn production or demand this year in China, potentially a major player in world markets.
While I've focused on the corn market here, the fundamental message applies to markets for wheat and soybeans, albeit to a much lesser degree currently. The 1996 farm bill coupled with years of declining world stocks of grains and oilseeds has left world markets more susceptible to short-term price fluctuations when production problems develop. While greater planting freedom and less government involvement is good for farmers, it may mean greater volatility in commodity prices for some years to come.
Movements in crop prices are likely to have a big impact on the cattle sector, and cattle prices are summarized in the following chart. Prices for both feeder cattle and fat cattle declined from 1994 through the middle of last year. Most of the blame for falling prices lies with the inherent dynamics of the cattle cycle, but last year's drought in the Southwest played a part in pushing down prices for fat cattle. Five-dollar corn drained the profits out of cattle feeding and prices for feeder calves plunged early last year.
The cattle sector began to turn around in mid-1996, and prices for both feeders and fat cattle have risen. Prices shown in the chart are for feeder cattle and fat cattle in Oklahoma City. Ranchers are enjoying healthy profits on this year's crop, which of course they need, after two years of losses. Feeder cattle have been selling for well over $80 a hundred-weight (Texas-Oklahoma) during most of 1997, reflecting the impact of both cheaper corn and a smaller calf crop this year. While fat cattle prices have dropped back a bit in the past couple of months, they are still about $65/cwt (Texas-Oklahoma), and feeders are likely breaking even, at least.
The outlook for the cattle sector is good. The dashed lines on the chart indicate the outlook suggested by futures market prices. Ranchers should be in good shape in 1998, with a smaller calf crop this year likely to support feeder cattle prices through 1998. The futures markets are expecting prices for fat cattle to rise, but some caution is in order for cattle feeders. First, there are a lot of cattle on feed, which could depress prices somewhat this fall. Over the longer term, profitability for feeders depends crucially on corn prices. Feeders have payed a lot for calves, and they need relatively cheap corn and high cattle to make money. A sharp runup in corn prices next year could be troublesome.
One factor which could play a big role in supporting prices for both livestock and crops is the surge in U.S. exports of agricultural products. As shown in this chart, exports soared in 1995 and 1996 (in value terms). Although exports have dropped back a bit, in part reflecting the fall in crop prices, they remain high. The dashed line in the picture shows the USDA's baseline forecast for agricultural exports in coming years, and it is bullish for U.S. agriculture. Indeed, many analysts believe that exports of agricultural products will soar in coming years, leading to a fundamentally new era in U.S. agriculture, an era in which the world comes to feed at the U.S. table.
All the good news in the farm sector is reflected in values for Nebraska farmland. As shown here, farmland values have risen about 6 percent over the past year for all types of farmland. The largest increase has come in values of irrigated farmland which jumped 7 - « percent in Nebraska from mid-1996 to mid-1997, the most recent data we have available.
Looking forward, the farm sector is poised to enjoy some good years in Nebraska. First, crop prices are likely to remain quite healthy, since world stocks remain relatively low. Prices for livestock are likely to be generally strong, although high corn prices could have an adverse effect on cattle feeders. The boom in U.S. farm exports -- which seems likely to continue -- will help support prices for farm products, and farm income will probably remain healthy in Nebraska. The market for farmland tends to support this rosy outlook, since prices are rising, perhaps in anticipation of strong earnings.
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V. Nebraska Banking
I've painted a bright picture of the Nebraska economy, so it is not surprising to find that the banking sector here is in good shape as well. The next chart shows the return on assets earned by Nebraska banks under $1 billion. I exclude the largest banks from the analysis to avoid problems related to the impact of interstate mergers among large banks as well as to avoid the possibly distorting effect of megabanks on measured performance. As you can see, the rate of return for banks in Nebraska has been stable in the past couple of years. While Nebraska banks outperformed banks in the rest of the U.S. (on average) in the early 1990s, U.S. banks have been catching up with Nebraska banks in the past couple of years.
The health of the banking sector is reflected in loan portfolios. First, growth in business loans by Nebraska banks has been steady over the past year and a half, after dropping back from the very rapid pace of growth seen in the period from 1992 through 1995. The slowdown in the rate of growth likely reflects the general slowdown in the Nebraska economy. However, I would point out that the rate of growth, while slower, remains healthy.
In addition to healthy growth, there has been very little change in the rate of delinquency in bank loans, as shown in the next chart. While Nebraska banks fared much better than the rest of the country during the early 1990s, loan delinquencies in the U.S. have been dropping, while Nebraska delinquencies have been stable, with the result that U.S. banks have caught up to Nebraska banks in terms of loan performance.
I would note that the overall stability in loan performance masks divergent trends in loan performance across types of loans. The delinquency rate on business loans has been rising. On the other hand, the delinquency rate for commercial real estate loans has been dropping for the past several years, reflecting the steady increase in property values in the state. Last year saw a jump in the delinquency rate on farm real-estate loans and farm-operating loans, but this was likely related to the stress that most cattle producers have been operating under. With the upturn in cattle markets that is already underway, farm loan delinquencies have come down this year and are likely to dissipate further in coming months.
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VI. Summary and Outlook
In summary, the Nebraska economy is in good shape. The economy is growing -- employment is rising, income is up, and most sectors of the macroeconomy are in good shape. The farm economy has had some problems in the past couple of years, especially in the cattle industry, but the farm economy has likely turned the corner. The banking sector is in good health: the return on assets is stable, loan growth is still good and loan delinquencies remain subdued.
Will the skies stay sunny over Nebraska? I think so. While manufacturing is a source of strong growth in the economy, the state has diversified into providing services as well. Farmers and ranchers can probably expect at least a couple of years of profitability if -- and of course every farmer knows this -- if mother nature cooperates. Nebraska is also adding value to its farm products by exploiting its comparative advantage in food processing, which is good for the state's economy.
I've tried to suggest that the skies are clear, but I do want to mention what I think are two challenges for the Nebraska economy over the next couple of years. First, the sharp employment growth and falling unemployment rate have left Nebraska short of workers. While the state has reversed the pattern of out-migration seen in the 1980s, it is not adding workers fast enough to keep up with job growth. Generally, we would expect workers to relocate on their own if jobs are available. Nonetheless, the state should do all it can to encourage workers to relocate to Nebraska.
Secondly, rural areas are lagging the cities in growth, and Omaha and Lincoln added jobs at a much faster pace than the rest of the state in 1995 and 1996. While rural area in the state may be catching up a bit in 1997, there remain concerns about the distribution of growth. Making sure that all of Nebraska's citizens have the opportunity to share in the progress represents, I think, a challenge in some cases.
In spite of these relatively minor qualifications, let me close by saying that Nebraska has performed very well in the past couple of years, and it is driving into sunshine as it goes forward.