The drought of 2012 is etching its name deeper into the history books. According to a report by the National Climatic Data Center (NCDC), more than 55% of the U.S. is in a state of moderate to extreme drought the largest swath of the country that's been this dry since 1956. Only 31% of the nation's corn crop is currently rated good or excellent, according to the U.S. Department of Agriculture (USDA) and that's lower than the 38% rated as poor or very poor. Fears of a shriveled harvest have helped push the price of corn to an all-time high of $8.24 a bushel on the Chicago exchange. In the words of the NCDC report, "crops, pastures and rangeland have deteriorated at a rate rarely seen in the last 18 years."
It may be mostly in the American Midwest that crops are wilting, but the effects of the drought will be felt across the country and around the world. Experts predicted that 2012 would be a bumper year for American agriculture, corn in particular, with U.S. corn farmers sowing 96.4 million acres, the most since 1937. But the USDA has already lowered its projected national average corn yield to 146 bushels per acre, down from 166 in the spring and the number seems likely to fall further if the weather remains dry. U.S. corn buyers, including the hard-hit livestock sector, have already begun to import corn from Brazil to make up for the domestic shortfall. Activists worry that a weak harvest in the U.S. by far the largest producer of corn in the world could lead to a global food crisis as prices rise for everything from beef to pork to ethanol, further stunting the struggling global economy and possibly even leading to a repeat of the food riots of 2008. "I get on my knees every day," USDA Secretary Tom Vilsack told reporters last week in a briefing on the drought. "If I had a rain prayer or a rain dance I could do, I would do it."
But while everyone from restaurateurs struggling with higher prices to the global poor paying more for their daily bread will absorb a hit from the drought, the Midwestern farmers whose crops are wilting in the fields will likely weather the weather far better than you might expect. That's because price increases from dwindling yields boost farmers' per-bushel income, perhaps significantly. The price of corn in the spring when farmers would have begun planting was close to $5 a bushel, so there's plenty of room for profit if prices remain above $8.
Of course, high prices at the market will help farmers only if they have any crop to harvest and plenty of farmers in the hardest-hit states, like Indiana and Illinois, have been all but wiped out. But that's where crop insurance comes in. This year, 85% of all planted acres in the U.S. up from 75% a decade ago are covered by some form of insurance policies that pay farmers in the event that a portion of their crops can't be harvested because of bad weather or if prices for cash crops fall precipitously between the spring and the fall. If those farmers took out insurance plans with a harvest price option, they'll be paid for the crops destroyed by drought at the price they would have fetched at the market prices that are much higher than they would otherwise have been thanks to that same drought. And because the government subsidizes the cost of crop insurance, the U.S. public could be on the hook for billions of dollars in addition to the pain of higher food prices. "Taxpayers are going to be the ones who will come to the rescue of Midwestern farmers," said Bruce Babcock, an agricultural economist at Iowa State University, at a recent media briefing. "Crop insurance companies are not going to be able to take on these loans."
Just how big that bill is going to be depends on the severity and duration of the drought of 2012. Already, insurance indemnities for all crops have reached $446 million, according to data crunched by Thomson Reuters Lanworth, compared with $230 million at this time last year a year when drought hit Texas and the Southwest and total indemnified losses to agriculture passed $10.7 billion. Given how extensive and unrelenting this summer's drought has been, $10.7 billion could be just a starting point.
The price tag for insurance will also depend on how farmers respond to the drought and the near ubiquity of subsidized crop insurance could influence that behavior in ways that actually worsen the damage. Here's how Babcock explained it in his presentation: in the spring, corn was going for about $5 a bushel. A farmer who planted corn thinking he would get 180 bushels an acre a healthy yield in a good growing season was essentially expecting to earn about $900 an acre. Let's assume that he, like most other farmers in the region, also has 80% insurance coverage on his crop. The drought wipes him out altogether, but it also raises the price of corn to $8 a bushel and that's the price at which his insurance policy reimburses him. In that case, he actually earns $1,152 an acre based only on insurance more than he would have earned if there had been no drought, even though he hasn't produced a single ear of corn.
In that scenario, it's not hard to see why a farmer armed with good insurance and faced with a faltering crop might prefer simply to plow under and cash in. He'll benefit, but less corn will end up getting to the market, further raising prices which in turn will hurt the rest of the economy. "If you want to focus attention, you should focus attention on that," said Babcock.
Of course, it's important to remember that most farmers still try to maximize their crop in a drought year even if they have insurance. American farmers rightly take great pride in feeding the country and the world and of course, if their production is low year after year, it will hurt them financially over the long term. The ubiquity of crop insurance and the fact that the government helps subsidize it will prevent this drought from obliterating the agricultural sector in the way the Dust Bowl droughts of the 1930s turned rural America inside out. (That the American economy is much less dependent on agriculture than it was 80 years ago also helps soften the blow.) Still, the farming industry has used the drought to call on Congress for even stronger protections. "The drought and the uncertainty it is causing farmers and ranchers and other segments of our industry underscores the importance of completing action on the 2012 farm bill," said Bob Stallman, president of the American Farm Bureau Federation, in a recent statement.
Still, given the fact that taxpayers cover an average of 60% of premiums for crop insurance even as the government reimburses private crop-insurance companies for administrative and operating costs that can range from 22% to 24% of total premiums it's worth asking how fair it is that one sector of the economy gets a bailout while everyone else just has to live with more expensive food. (Nor does it help that subsidized crop insurance can encourage farmers to plant on land that had been considered unsuitable for agriculture because they know they'll be paid back regardless.) The public cost of crop insurance keeps going up from $2 billion in 2002 to $9 billion last year and last year taxpayers took on over $1 billion in insurance losses from the Texas drought, more than twice what insurance companies themselves paid. The taxpayer bill this year will certainly be higher. It might be time to share the pain a little more fairly.