How might rising interest rates impact Iowa farmland values?

Inflation has punctured the U.S. economy over the past year. In response, interest rates have steadily crept up — and those may impact farmland values in Iowa in the long run.

The Federal Reserve hiked its benchmark interest rate — the federal funds rate — seven times last year from 0.25 percent to 4.50 percent. This February, the rate rose to 4.75 percent. It’s projected to peak above 5 percent by mid-2023 and start gradually falling by the end of the year.

Even after interest rates decrease, the past year’s rate hikes will likely put downward pressure on Iowa’s farmland values for the next decade, said Wendong Zhang, an assistant professor in Cornell University’s Dyson School of Applied Economics and Management.

Until recently, he was the leading researcher of Iowa State University’s Iowa Land Value, Iowa Lakes and Iowa Farmland Ownership and Tenure Surveys since 2015.

The effects of the downward pressure will take time to make impact, and they could disproportionately burden some landowners more than others. But interest rates won’t be the only factor at play — making the future of Iowa’s farmland values somewhat uncertain for now.

How interest rates factor in

A simple way to calculate land value is to divide net income by interest rate, Zhang said.

This year’s farm income still is strong compared to, for example, 2019 levels. But it’s trending down as COVID-19 assistance programs are being phased out. The U.S. Department of Agriculture forecasts net farm income to decrease by about 16 percent from 2022 to 2023.

So, as farm incomes are projected to fall and interest rates continue to rise, farmland values could be expected to decrease as a result — if that were the only factor at play. But even if it were, it would take time to dent the farm sector.

Unlike the housing market, which responds to interest rate changes quickly, rate hikes may not be fully realized in the farmland market for a decade, according to a 2021 study Zhang collaborated on.

There’s often less debt involved in farmland purchases since larger down payments are required. Eighty-one percent of Iowa farmland is owned debt-free, according to the 2017 Iowa Farmland Ownership and Tenure Survey. Less need for farm ownership loans means less contact with higher interest rates.

Even so, the recent, big and swift changes in rates could stretch their talons into the farmland market for the foreseeable future, despite expected rate decreases to come.

“All the cumulative interest rate hikes in 2022 have impacts not just in 2022,” Zhang said. “It essentially takes over a decade to be fully capitalized in the market.” The biggest impacts typically occur in 12 to 18 months, he added.

Uneven impacts for landowners

Interest rate hikes won’t affect all Iowa landowners the same. For instance, higher-quality lands will likely hold onto their value more than lower-quality lands, Zhang said.

Higher interest rates make buying farmland a less desirable investment compared to bonds. Iowa farmland doesn’t change hands much, anyway: In 2017, 76 percent of land in the state had the same owner for 10 or more years. And on average, less than 1 percent of land in the state gets put on the market per year.

However, rate hikes will increase financing costs for those who do decide to buy farmland, especially at currently high land values — placing more burden on beginning landowners. And even for landowners without debt on their land, they will still feel the burn of higher interest rates for their annual operating loans.

As farmland values increase, cash rents tend to increase, too. Inversely, if the growth of farmland values is stunted, increases in asking cash rents could lessen as well.

Historically, cash rents don’t drop as much as decreasing land values since there’s typically ample competition between tenants in Iowa. But still, any decrease or halt in growth could pose problems for farmers who heavily rely on more rented acres and thus have to pay higher cash rents, along with potentially higher interest payments.

“We do see that this could potentially create more challenges for people with less resources and for people who are relying on rental grounds a lot,” Zhang said.

“You could even see cases of financial stress and even potentially bankruptcy for some of those farms,” he said. “But that should be … relatively small in terms of the occurrence.”

Farmland values already affected

Growth momentum has already started to shift for Iowa farmland values, according to surveys from the Federal Reserve Bank of Chicago. While the values saw a 6 percent increase from July to October 2022, they declined 2 percent from October 2022 to January 2023.

This will slow the trajectory of growth seen in 2021 and 2022, when Iowa farmland values grew 29 percent and 17 percent respectively.

“Arguably, 8 to 9 percent of those growths are probably inflation driven, but still, these are really high numbers,” Zhang said. “We're likely to not necessarily see that in part because of the interest rate changes.”

Farm crisis averted

The downward pressure from interest rates alone won’t guarantee a total land market decline, Zhang said. Factors like limited land supply and increased agricultural trade could bolster farmland values.

Even if there is a decline, it shouldn’t drop farmland values to catastrophic levels as they are currently at historical highs. The average nominal value of Iowa farmland reached $11,411 per acre in 2022.

Most forecasts included in the 2022 Iowa State University Land Value Survey expected Iowa farmland values to stay the same or grow by 2023.

“In the year 2022, we saw all 99 counties in Iowa have a gross in land market,” Zhang said. “In 2023, we will likely see a mix … Overall, probably no change or a modest increase will be the key story.”

Since the 2000s, farmers have earned more due to increasing trade and demand for agricultural products and higher commodity prices. That, plus improved regulations for the financial sector, will help protect the farm sector from the sudden collapse of the 1980s farm crisis — even with higher interest rates.

“I think that for the overall sector, the financial soundness is probably still financially sound,” Zhang said. “We are not anticipating a collapse of the market by any sort.”

Brittney J. Miller is the Energy & Environment Reporter for The Gazette and a corps member with Report for America, a national service program that places journalists in local newsrooms to report on under-covered issues.

Comments: (319) 398-8370; brittney.miller@thegazette.com