Interest rates greatly influence the efficiency and effectiveness of productivity for farmers, especially smallholder farmers that rely on capital they have to obtain against their collateral.
The capital determines how they finance the acquisition of farming equipment, supplies, land costs, refinancing of older loans, marketing campaigns and advertising, farm repairs and improvements, operational costs, and growth investment.
According to the One Acre Fund, 50% of the region’s workforce in SubSaharan Africa is involved in farming, directly accounting for at least 20% of the region’s GDP. The region’s 33 million smallholder farmers, and the larger more established farmers, are dependent on funding from financial institutions.
Generally, when farmers have more income, their demand for agricultural loans decline, as they are able to finance their operations with money they have on hand. In contrast, when farmers are cash-constrained, they tend to rely on debt to finance production. Lending rates are regulated by a nation’s central bank, which has under its jurisdiction changing the refinancing facilities it provides to banks and monitoring the accessibility of credit for both the public and private sector.
The central bank, through an assessment of the supply of money and demand for money within an economy, determine the value of the interest rates. The need to spend and invest determines the demand for money, whereas the supply of money depends on savings and the disposition of consumers, firms, and governments to hesitate spending.
Benson (2022) states that the top five SSA countries with the highest interest rates are Zimbabwe with a benchmark interest rate of 45,5%; Madagascar with a benchmark interest rate of 43,3%; Malawi at 24,2%; the Democratic Republic of Congo with 23,1% and Ghana with 22%. The countries with the highest interest rates are also the countries with a large percentage of smallholder farmers. This status quo means that the growth of the agricultural sectors of these countries will be slow, and their economies may need sterner measures to grow and perform optimally. Agricultural markets are affected by interest rates as they influence the costs of holding inventory, investment decisions and the overall farm business risk.
According to Alberta (2022) the cost of holding inventory is either the interest paid if the business has debt, or the interest that would have been collected on savings, usually called opportunity cost, if the inventory had been sold. When it comes to investment decisions, how much to invest and when to invest in a project depends on the comparison of the expected rate of return on the investment and the interest rate. Unexpected and adverse movement of interest rates is a source of operating risk for farms and agri-businesses.
A sudden increase in interest rates may result in higher than planned interest expenses if a business is holding a variable rate loan. Higher interest expenses reduce profitability of farms and agri businesses, discourage investment and decrease farmland values. Central banks can reduce interest rates by intervening directly in the open market through open market operations (OMO), buying or selling treasury securities to influence short-term rates.
The change in money supply and demand works as an increase in the supply of credit reduces interest rates while a decrease in the supply of credit will increase them. It is important to also note if rates become too low, they can promote excessive growth and subsequent inflation, reducing purchasing power and undermining the sustainability of the economic expansion. If farming enterprises present working capital or liquidity challenges, their loan applications will be analysed more. The analysis will usually require that they give updated cash flow information, are subject to midyear inventory inspections, will have to submit crop marketing plans (both old and new crops), and may involve the credit monitoring for use of other credit sources, including retail suppliers and credit cards.
A farm’s current financial situation is mostly about cash flow and liquidity, and not creditworthiness. There is more benefit for farm enterprises to better manage their long-term interest rates than their short-term interest rates for long term sustainability and long-term loan accessing opportunities. Credibility with banks through repayment of loans gives debtors the opportunity to get more capital and at improved tenures, which permits the business to prosper and grow more.
Skolrud, T. (2019) The Impact of Rising Interest Rates on Agriculture AgriService BC Webinar Series. Available at https://www2.gov. bc.ca/assets/gov/farming-naturalresources-and-industry/agriculture-and-seafood/agriservicebc/ webinars/the_impact_of_rising_interest_rates_on_agriculture.pdf
Johnson, S. (2017) Higher interest rates will impact farming. Available at https://www.farmprogress.com/ farm-operations/higher-interestrates-will-impact-farming
Scott, F. (2022) Increased Loan Demand and Higher Interest Rates May Benefit Ag Banks. Available at https://www.kansascityfed. org/research/economic-bulletin/ increased-loan-demand-and-higherinterest-rates-may-benefit-agbanks/
How interest rates affect agricultural markets. Available at: https:// www.alberta.ca/how-interest-ratesaffect-agricultural-markets.aspx
Smallholder Farming – at the Centre of our Food Systems. Available at: https://oneacrefund.org/blog/ smallholder-farming-centre-ourfood-systems/
Benson, E. (2022) 20 African countries with the highest benchmark interest rates, according to latest stats. Available at: https:// africa.businessinsider.com/local/ markets/20-african-countries-withthe-highest-benchmark-interestrates/1cd44kk