The Education of an American Grain Merchant
Probably because I knew very little about wheat, I learned more quickly and more lastingly than would have been possible close to home.
I emerged from college in 1971, entering the grain business as a budding merchant with a large, international grain trading firm. My initial assignment was to a grain-buying office in the “breadbasket” state of Kansas. My alma mater was in Illinois where the main cash crops were corn and soybeans rather than wheat. Probably my employer’s aim was that my immersion in the business would be best achieved by testing me with unfamiliar crops and markets. An Illinois farm boy might be not so open to primary lessons in grain buying if his attention was narrowly focused on familiar corn and soybeans. Trading hard red winter wheat in the Great Plains was just such an educational experience. Looking back, that firm knew how to challenge and stimulate its beginning grain merchants.
Buying and selling Great Plains wheat required comprehensive knowledge of two divergent markets: flour milling and grain exporting. Flour milling demanded exact parameters for protein content and other grain grading factors. Export dealings typically placed less emphasis on wheat quality beyond a low base level of protein content. Competition for bushels was keen because so many railroads crossed Kansas in one direction or another. Some rail carriers went south to ports along the Gulf coast. Other rail lines went directly to Kansas City. Wheat was being sent in each direction every week from the Great Plains: milling wheat toward the east and export wheat to the south.
Transportation always has a bearing on the marketing of our crops
Railroads in the Great Plains moved very nearly the entire wheat crop. Hundreds of towns had been spawned by the railroads as they were laid out but only a few of these communities had multiple-line rail junctions. Wheat receiving, storing and shipping facilities were concentrated at these points. Hutchinson had the largest number of rail lines. Consequently, it had the largest number of wheat warehouses. Wichita and Salina also had multiple rail lines, but not as many. There were fewer wheat warehouses concentrated in those towns.
Sorting and organizing each crop during and after harvest is a monumental task.
Massive storage silos – “Kansas castles” – were actively utilized to unload and then sort through the various lots of wheat that were constantly arriving from country elevators farther west. Wheat most suitable for milling commanded a premium when shipped to flour mills in Kansas City or beyond. Less valuable wheat lots – “plain vanilla” in trader jargon for low-protein wheat -- were forwarded to ship-loading ports at the Texas coast. But, all the wheat first had to be graded and then assembled into larger lots before final rail hauling.
Sorting and forwarding was facilitated at these rail junction towns through the use of a billing switch – an arrangement that the railroads ended in the early 1980s. That was a scheme of matching inbound “paid in” rail freight ladings to advantageous outbound rail routing. It was a transit tonnage privilege. For any final destination the wheat would be sent to -- domestic flour mills or export facilities on the Gulf – the rail line with the lowest forwarding freight cost would be applied from the transit tonnage file on its outbound bill of lading. If the qualities of all wheat were the same, there would have been nothing to gain from this. However, when wheat of better milling quality originated from rail lines that had more favorable rail rates to the Gulf, the billing switch could be applied. Wheat better suited for export, but originating from shipping points nearer Kansas City, would have its billing swapped, as well. Ultimate destinations for individual inbound lots of wheat were at times very different from the origin of the inbound ladings. We would switch them to our cost advantage utilizing the transit tonnage on file.
We "harvested" rail freight differentials back then
For example, in Hutchinson we purchased wheat from all over Kansas on different rail lines and brought the lots to our warehouse to be unloaded. We sorted and stored wheat of varying qualities separately. We also stored the “paid in” bills of lading from the rail lines that brought each carload to town. Then, when we sent wheat on to the Gulf for export, bills of lading with the most favorable rates to the south were matched to outbound billings. When forwarding milling wheat to Kansas City, bills of lading with the most favorable eastbound rates were applied. We “harvested” rate differentials in Hutchinson.
During the next year and a half, I put this knowledge to use every workday. Little did I know that an even weightier, longer lasting grain trading experience would soon come over the horizon.
The Nixon Administration brought about a huge change in our monetary policy, changing commodity values radically.
As I began my career the US dollar’s value had been held steady at one-thirty fifth of an ounce of gold ($35 per ounce). That ended in August 1971. The Nixon Administration abrogated the Bretton-Woods Agreement that had pegged the dollar’s exchange rate in the wake of WWII at a fixed ratio to gold. Official statements in the late summer of 1971 said the dollar was to “float” against other hard currencies. It sank instead, triggering monetary inflation.
Prices of raw materials such as wheat and corn inflate in those circumstances. When a currency loses exchange value, it takes more and more units of that currency to pay for commodities. As a young merchant-in-training, the more seasoned merchants next to me took it upon themselves to explain to me that grain prices would be moving substantially higher as this policy took effect. At times during the past forty-six years this has seemed a considerable understatement.
The Great Grain Robbery was really all about the erosion in the value of the dollar
It was my experience that the first “price boom” stemming from the new monetary policy occurred only a few months later. In the spring of 1972 my employer and other big international grain trading firms were invited to sell hundreds of millions of wheat bushels to the Soviet Union. Although the surface reason for these transactions was said to be a crop failure on Soviet collective farms, I think their real motivation was the eroding exchange value of the dollar. Network news reports sensationalized the event by dubbing it, “The Great Grain Robbery.” Little did they understand what truly happened.
After making gargantuan wheat sales, the export firms then had to go out and buy enough bushels to cover them.
The transactions were kept secret for almost half a year. By Labor Day of 1972, however, enough of the details had leaked to stampede the markets. Our task in Hutchinson was to buy all of the wheat we could possibly buy to fill the sale our executives had transacted. My memories of those days are vivid. Telephones rang constantly as country grain elevators we regularly bought from called up with huge wheat offers during the explosive market rally. All of a sudden, we were buying ten to twenty times more wheat than usual. One of our senior merchants transacted a single wheat purchase agreement from the Commodity Credit Corporation (a USDA department) for millions of surplus bushels that had been previously accumulated by the government and stored all over the Great Plains in commercial warehouses, mainly in multiple-line junction towns.
Our shipping and handling system was totally swamped by the logistics of the Soviet wheat deal.
It took about a year and a half to forward all these bushels out of the Great Plains to port facilities for loading onto Soviet ships. The effort tied up every rail car in America for months on end. Country elevators ordered more rail cars so they could ship out their wheat, but a railcar shortage ensued. The cars were being monopolized by the grain firms in rail junction towns to move stored government wheat out of the warehouses concentrated there.
The Soviets evidently felt the US dollar was merely a fiat currency of questionable stability.
The Soviet Union’s buying spree in the spring of 1972 did not end with that single set of wheat transactions. They came back for more, ultimately buying even larger quantities of corn, too. In my opinion, this exposed the weakening dollar as the real motivation for all their buying. It was re-alignment of the dollar over a period of 2 or 3 years rather than a single crop failure. The Soviets thought inflationary pressures would persist, buying US grains throughout the 1970s.
Commodity prices are generally inversely correlated with the value of the dollar
Markets for agricultural commodities were not the only part of the US economy disrupted by the sinking value of the dollar. Petroleum values were shaken up, too. Despite price controls for oil produced in the US, import oil prices were quickly marked up as the dollar went down. Looking back, $10 per barrel in 1974 doesn’t look like much compared to crude oil prices today, but that was effectively a quadrupling of prices back then. It would be like today’s price of $56 per barrel skyrocketing to $224 in a few months.
Prices for precious metals, lumber and other commodities had similar patterns. The common denominator was the changing value of the dollar. It was a paradigm shift for US commodity marketing. Not every grain trading firm caught on and that triggered a consolidation within the industry. It also ushered in a big wave of consolidation among American grain and livestock farms. The motto became, “get bigger or get out.” It ruled the 1970s.
The reckless expansion of the 1970s came to an abrupt halt
Planting “fence-row to fence-row” was an exhortation back then, but it was not sustainable. However, it did dramatize our ability to expand food production given strong price signals. High prices also stimulated farmers in other countries. Grain production was ballooning globally by the end of the 1970s.
Then it came to an abrupt halt. In a dramatic confrontation at the very beginning of the 1980s, our government canceled US participation in the Olympic Games and embargoed very large grain sales and also scuttled a large-scale equipment contract previously made with the Soviet Union. This act reversed the price trends of the previous decade. However, the embargoes were just catalysts for a general collapse in the farm economy.
The farm economy collapsed in the early 1980s because exports failed in the strong dollar era
“Runaway inflation” of the 1970s had to be extinguished. Reversing our monetary policy to fight inflation had severe repercussions for American agriculture, along with every other segment of the US economy. The Federal Reserve Board halted expansion of the dollar stock and let interest rates rise and rise to ration out limited supplies of our fiat currency. After 5 years of this wringing out, the dollar’s exchange value rose more than 70 index points to a top near 160. Grain exports fizzled. It was no coincidence that 1985 also ushered in a bottom to the depression in the farm economy.
At opposite ends of currency value pendulum swings cheap dollars spur grain exports, but strong dollars constipate exports. Wheat produced in the USA must be exported or we’ll choke on it. We can only consume about half as much as we typically produce.
Other crops have varying degrees of dependence on exports, too, so rising dollar trends have negative impacts on them as well, to one degree or another. Land values retraced significantly, farm loans were foreclosed and farm families moved to town in droves between 1980 and 1986. It was a desperate time for farm families and a morbid era for grain merchants and exporters.
From feast to famine and back again
American agricultural commodity stockpiles were re-established within two years of the fateful embargo catalyst. Warehouses were jammed with piles of surplus grain. Market prices hovered near national support price boundaries and government-coerced acreage controls were trotted out. As Washington’s policy-makers groped for ways to ease the harsh impacts of the collapse for American farm families, export sales of wheat were selectively subsidized. Naturally, this ignited a global trade war in wheat and other agricultural commodities. I think this prolonged the misery and spread it around to other countries.
We eventually got a grip on galloping inflation, then recovered from the recession that followed in the early 1980s. Agricultural prices rebounded to sustainable levels in the late 1980s, the price of farm land surged higher and the farm economy regained its financial footing. Farm families that survived the 1980s were producing crops more efficiently and yields continued to rise. By the mid-1990s we found ourselves in another export boom. China was just beginning to emerge as a large-scale importer of grains they could not raise for themselves. But another bust would soon be coming over the horizon again.
The 1995 farm bill re-arranged how we handled surpluses so that they would disappear fast and do so more constructively.
The dollar was resurgent in the late 1990s. Grain exports dwindled. In 1997, for the first time ever, batches of soybeans were imported into the USA from South America, shocking agricultural markets throughout the country. Farm price support policies, however, had been redesigned in the 1995 farm bill. Instead of lifting prices high, creating an “umbrella” effect for competing countries to expand under, a surplus flushing mechanism was set up. It drew on the lessons learned with the Payment-In-Kind certificates of the mid-1980s.
Instead of tolerating costly-to-maintain, unsold surpluses, extra bushels from bumper crops would be flushed through the market via the marketing loan and its streamlined option, the Loan Deficiency Payment. For letting their crops go to markets at prices below the cost of production, farmers could opt to have the apparent price deficit made up to them. No farmers were enriched by this program. They merely broke even with high cost crop inputs. The arrangement passed bushels along at a substantially discounted cost to the end users of wheat, corn, grain sorghum, soybeans, cotton and other crops that would otherwise accumulate in the previous government stockpile schemes. So, indirectly the beneficiaries were consumers.
Grain price policies appear to be better attuned with US monetary policies these days
I think the program worked very well. More than 90% of US corn crops in 1999, 2000 and 2001 were sold by farmers with the assistance of either the Marketing Loan or the Loan Deficiency Payment. For soybean crops during those three seasons, the proportion put through the price compensation sequence was more than 98%. Nearly 80% of the wheat crops in 1999 and 2000 were put through before dropping to 45% for the 2001 crop. Afterward, the flow of bushels aided by the program fell off sharply. Demand was stimulated domestically and exports were reviving. A price equilibrium soon materialized above the cost of production for each crop.
Furthermore, the dollar topped out during those three years. The trend reversed and it lost 50 index points over the next 7 years, re-inflating commodity prices. The next export boom was fully underway as the dollar hit its all-time low index value in the spring of 2008. That is also when crude oil prices topped out at a new record high price -- above $140 per barrel.
The track of US grain prices looks like a roller-coaster. As mentioned previously, there is a pendulum swing at work in the value of things. We go from too little to too much and back again. An equilibrium value shows up from time to time, but it has not been stable for long periods, in my experience. I was schooled in the dynamic changes in value that our market system embraces. As hectic as that may have been at times, my impression is that it remains a profoundly successful economic system.