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Cash flow problem of purchasing land by poor farmers

Literature › Works

W L Nieuwoudt (2003). Cash flow problem of purchasing land by poor farmers. University of Natal.
Type conference paper
Scope Post-1994 South African economy
Method policy analysis
Period studied 1965–2003
Regions South Africa, KwaZulu-Natal, Zimbabwe (comparative)
Themes agriculture land, transition post apartheid, macro fiscal finance debt, comparative theory
Citation key nieuwoudt2003

Argument

Poor farmers cannot buy land with a 100% mortgage because high inflation pushes nominal interest rates (about 15%) far above the roughly 5% rent return on land. This causes a cash-flow problem even though farming is profitable in the long run. The paper argues that LRAD grants, Land Bank coupling, the sugar millers' scheme and commercial bank loans all handle early-year cash flow inadequately. It proposes a declining interest-rate subsidy, phased out over about 11 years, to complement LRAD, requiring no own contribution or collateral. The case rests on a present-value/discount-rate model, worked numerical examples, a critique of Binswanger's model and the 'productivity value' concept, and a comparison with past state support for emerging white farmers.

Evidence and method

Directorate of Agricultural Statistics abstracts (2003, 1991), earlier studies of land rents (Nieuwoudt 1980; Van Schalkwyk 1995), private communications with Land Bank, ABSA and university colleagues, Lyne (2001) and Mashatola and Darroch (2003) on the sugar miller scheme, the LRAD grant scale (Ministry of Agriculture and Land Affairs 2001), and illustrative calculations.

Findings

  • With mortgage rates near 15% and land rent returns near 5%, only about a third of a farm's value can be financed by debt from farm income. (p. 2)

    The interest rate on a mortgage bond in recent years has been close to 15% (nominal rate) while the rent return on agricultural land (land rent divided by market value of land) was about 5%

  • Farming has been a profitable long-run investment in income terms, so the problem is cash flow rather than profitability. (p. 5)

    From 1965/68 to 1999/2002 net farm income in South Africa increased at a compound growth rate of 9.6%

  • Real land values fell sharply, which contradicts the Binswanger expectation of capitalised real gains. (p. 7)

    land values (deflated by CPI) in the South African Agriculture have fallen 77.6% between 1976 and 2001

  • The apartheid-era state gave grain farmers significant drought assistance, which is reflected in land values but not in farm income data. (p. 6)

    The previous government gave summer grain farmers significant drought assistance during the 1980’s and once again in 1992.

  • The proposed subsidy phases interest in as rents inflate, so the farmer's real cost of capital stays constant. (p. 10)

    The phasing in of interest rates keeps the real cost of capital constant to the farmer as a result of inflation.

  • Coupling an LRAD grant with a Land Bank loan lets a farmer with no funds buy a R500 000 farm. (p. 12)

    He purchases a farm for R500 000 by borrowing R400 000 from the Land Bank at 10% interest (he can borrow 80% of market price)

  • Even the coupled scheme leaves interest well above expected rent in the early years. (p. 13)

    The profit (rent) from a farm of R500 000 is estimated at about R25 000 (5% of R500 000) while the interest payment (excluding principal payment) amounts to R40 000 (10% of R400 000).

  • Sugar millers financed an interest subsidy through Ithala Bank, transferring land to small growers. (p. 14)

    The sugar millers gave 18% of the purchase price of farms they sold to previously disadvantaged buyers to Ithala Bank to reduce the then interest rate of 16.5% to 10% in the first year

  • Arrears on the graduated sugar-miller loans are substantial, which the author takes as evidence that the scheme is too ambitious. (p. 15)

    It is not surprising that about 20% of clients are in arrears on their graduated payments, although this figure would have risen to 30% if some loans had not been rescheduled in 2001

  • The earlier white-farmer land settlement support was much more generous than current support for disadvantaged farmers. (p. 16)

    The interest rate on the bond when the farm was purchased was 5% for a period that could be as long as 20 years.

  • Post-1994 redistribution has been slow, with only 3.5% of KwaZulu-Natal farm land redistributed by 2002. (p. 18)

    Only 3.5 % of farm land has been redistributed in KwaZulu-Natal by the end of 2002 since democratic elections in 1994