Saturday, June 18, 2011

Two dots...

I would never had connected: the Trib and colonial farmland speculation.

At issue is language regarding the legal rights of creditors vis-à-vis debtors. The United States has long had a body of law regarding this issue. A few years ago, for instance, the real estate speculator Sam Zell bought the Chicago Tribune in a debt-leveraged buyout. The newspaper soon went broke, wiping out the employees’ stock ownership plan (ESOP). They sued under the fraudulent conveyance law, which says that if a creditor makes a loan without knowing how the debtor can pay in the normal course of business, the loan is assumed to have been made with the intent of foreclosing on property, and is deemed fraudulent.This law dates from colonial times, when British speculators eyed rich New York farmland. Their ploy was to extend loans to farmers, and then call in the loans when the farmer’s ability to pay was low, before the crop was harvested. This was indeed a liquidity problem – which financial opportunists turned into an asset grab. Some lenders, to be sure, created a genuine insolvency problem by making loans beyond the ability of the farmers to pay, and then would foreclose on their land. The colonies nullified such loans. Fraudulent conveyance laws have been kept on the books since the United States won its independence from Britain. [More]
The difference between illiquidity and insolvency will continue to be hotly debated as the Greek financial crisis proceeds. Farmers may have a hard time intuitively following this debate as with our asset prices soaring, solvency is not the first concern.
In general, as finance is scrutinized more intensely, I think due diligence of lenders will be stressed more. And as bailouts have proven politically damning (especially on the right), that well of relief may have gone dry.


Anonymous said...

Purchase to much soil with unsustainable capitalization rates in place. Detail your cash flows with your bank; mutually establish your line of credit. Sell your commodities on the CBOT to service the debt. When prices skyrocket, your liabilities exceed your credit line. I think farmers intuitively do understand illiquidity. What I think is interesting is that most do not include the bank on their counterparty risk exposure list. We tend to look at the facts from only our perspective and it is obvious the margin calls are a timing problem (illiquidity). As the entire finance sector struggles, sometimes the illiquidity becomes insolvency because the banks are pressured by regulators, driven by ever changing mores and circumstances.

John Phipps said...


Very helpful comments - I hadn't thought of that scenario. I no longer use the CBOT, choosing to let Cargill stand between me and margin calls with forward contracts.

It's a less exciting marketing scheme, but it does limit my exposure to the possibility you outline.

(It's also much easier for me to grasp.)

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