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Credit Risk Models for Managing Bank’s Agricultural Loan Portfolio

The structure and conduct of agricultural lending have been changing rather dramatically over the past two decades. Some forces causing change have been occurring at the farm level, where farmers and ranchers are changing the way they do business. Other changes have been occurring in global markets for agricultural and value-added food and fiber products. Rapidly changing dynamics are occurring in technology embodied in inputs and management of resources and the environment. Finally, evolution is occurring in the credit market serving agriculture and the regulations that govern institutional behavior.

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With this changing face of agricultural lending, the agricultural lending decision-making process is becoming much more complex as a result of contractual and ownership arrangement issues, locational issues, and management quality and risk management issues. The Farm Credit System, with its unique structure, faces a number of issues as it attempts to maintain its competitive position in light of the evolving farm customer base and activities of competitors providing loans and services in this market. The degree of competition in agricultural lending will influence the quantity and quality of loans made.

There are a number of forces that will drive further change in agricultural lending in the next few years. These drivers in turn will influence credit analyses and portfolio management decisions at agricultural lending institutions. Banks will likely see several changes that will affect agricultural lending. This includes the potential de-emphasize of commodity safety nets (loan deficiency payments and countercyclical payments) as well as direct payments and increased emphasis on revenue insurance for a broad range of crop and livestock commodities. Continued programs may involve payment limitations and need testing. Other policy-related drivers include issues related to water rights, zoning, and other regulations dealing with odor, dust, chemicals, and noise in agricultural production. Finally, macroeconomic policies affecting the general economic health of the domestic and global economies will also affect farm profit margins and debt repayment capacity.

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