Dairy Excel: Markets: Just how low can we go?

Hello from Columbus.

As I was preparing this column I reviewed what I was writing about at this time last summer. The topics included “markets – how long will cheese and butter prices hold,” along with an update on pool riding in the Mideast Federal Order.

My, how the times have changed!

First, let me tackle the counter-cyclical payment program in the new farm bill.

Price support. By now we are all familiar with the provisions in the 2002 Farm Security and Rural Investment Act that deal directly with dairy and dairy prices.

A counter-cyclical payment program mechanism is included in National Dairy Market Loss Payment Program, although if you are in the dark about how to sign up and become eligible for these payments, get in line.

Information coming out of the USDA or the Farm Service Agency on these critical details is sparse, to say the least.

As for the actual payment calculation, this is easy. The program requires that each eligible dairy producer be paid 45 percent of the difference between a fixed $16.94 and the announced Class I milk price for the Boston Class I market.

This amount is to be calculated each month beginning December 2001. Currently, the average value of these monthly calculations through July 2002 is 99.5 cents on each hundredweight of eligible milk shipped Dec. 2001-July 2002.

Milk shipments up to 24,000 hundredweight per program year qualify for these monthly payments.

A program year is not the typical calendar year as we in dairy are used to using but the federal fiscal year, October through September. That is why the program could be started in December 2001, if you were wondering, as I was, when the program was initially announced.

There are many questions about this program to which I wish I had the answers. For many of these we all will have to wait for the Farm Service Agency, the agency that will administer this program, to provide the appropriate information.

There is one aspect of this program that I would like to bring to your attention. Many producers in Ohio and the rest of the Mideast Federal Order produce far more milk than the 2.4-million-pound cap placed on the program. The question that I am repeatedly asked by dairy farmers, small and large alike, deals with the impact of this program on effective support price available to each producer.

Put another way, has the National Dairy Market Loss Program had any impact on the current support price program, which was also extended by the 2002 FSRIA. The answer to this question is “absolutely!”

First, we all know, or should know, that the federal Dairy Price Support Program keeps in place a minimum floor price for Class III milk at $9.90 for milk testing 3.67 percent fat.

This is a voluntary program in that the Commodity Credit Corporation makes available to the cheese, butter and nonfat dry milk industry, the option of selling these products to the corporation at purchase prices that will allow the cheese, butter and powder plants to pay their dairy shippers the $9.90 floor price.

It is voluntary (and this is a generally misunderstood point) in that those who own and hold these products do not have to sell to the Commodity Credit Corporation at these prices. For a variety of reasons (good ones, I might add), our recent experience is that the industry is reluctant, with the exception of the nonfat dry milk industry, to sell at the announced support prices.

The effect of this reluctance is that we have observed the announced Class III milk price (the price that receives the support floor) far below the official support price. The Class III price dropped to $8.57 in November 2000 on weak cheese prices and relatively modest butter prices.

Just this past couple of weeks we were treated to cheese prices a nickel or more below the official support price with little cheese product moving to the Commodity Credit Corporation.

When the July Class III price is announced we could again see a Class III price below the official $9.90.

We know that the Commodity Credit Corporation prices are not hard and fast prices, we also know that there is some low level of cheese, butter and nonfat dry milk prices that would move these products to the corporation for price support purposes.

I have selected these to be $1.02 per pound for cheese, 80 cents per pound for butter, and 90 cents per pound for nonfat dry milk.

If the markets were really weak and stayed that way for an extended period of time, the product would have to move to the corporation. If we use these prices as the effective floor for the purpose of determining where the bottom to the milk price resides, we come up with approximately $8.60 per hundredweight for Class III milk at 3.5 percent fat.

Question. If milk prices were to sink to this level, what would the counter-cyclical payment be under the National Dairy Loss Payment Program?

This too can be calculated and it is $3.18 per hundredweight.

So, for the dairy producer meeting the minimum of 2.4 million pounds milk shipped per fiscal year, the effective support price under the program is no longer the official $9.90 but an effective $11.78 for the Class III part of the milk check.

There is, of course, additional dollars from the federal order revenue pool if the milk is pooled on a federal order.

Now the question becomes what happens to this effective support price as the level of milk production increases beyond the 2.4 million pounds?

Clearly, the counter-cyclical payment applies only to this first 24,000 hundredweight and the remainder must receive support at the effective rate of $8.60.

The effective support price declines rather sharply from the base herd size of 100 cows.

As the percent of milk shipped not covered by the program increases, the effective support price declines to the $8.60 level.

The National Dairy Market Loss Payment program has achieved a diminishing support level for the nation’s dairy producers based on production level. The more milk a producer ships to the market the lower the overall level of price support protection available to that producer!

Now you can see why many of our larger producers are concerned about the overall production impact of this payment program. If, over the life of the program, there is enough of a production stimulus to expand milk production and depress market prices toward the effective support level, the larger producer receives less assistance.

Is this bad? Not necessarily.

It can be argued that taxpayer-funded help programs should be targeted more directly toward the smaller producer and that the larger producer achieves a level of self-help indirectly through scale economies, which result in lower production costs, and size economies, which result from greater market bargaining power in purchasing inputs or negotiating volume or quality premiums.

They do not need a higher level of program support.

One last point about the potential long-term impact of the counter-cyclical payment program. Does the program, in some subtle manner, lower the support provided to the larger producer over the life of the program?

Absolutely not at all.

The effective support price floor is about $8.60 for these producers without the program. With the program in place, this effective floor is raised for all but the very largest producers.

The smaller producer, the ones who will see their effective support floor increase in the event of excess production and low market prices, are the ones who could be hurt the most financially when the program expires in 2005.

If, at that time we have rebuilt Commodity Credit Corporation stocks of cheese, butter and nonfat dry milk, and prices are at the effective support level, the counter-cyclical payment will end and the market price to the smaller producer will decline by the amount of the payment or $3.18 per hundredweight.

I have read a number of analyses of the long-term impact of these payments and the conclusions range from no significant production increase to the opposite.

If these additional funds are used to reduce debt and increase capital expenditures that improve the quality of milk on our dairy farms, then I would not be concerned about the production impacts.

If instead, these dollars are used to expand the milking herd and milk production to take advantage of receiving full program payments, then this could create long-term price problems.

We will all have to wait to see what happens over the next couple of years.

(The author is a dairy marketing and policy state specialist with Ohio State University Extension. Questions or comments can be sent in care of Farm and Dairy, P.O. Box 38, Salem, OH 44460.)