Fix The Formula by Mike Kohler and Utah Dairyman's Association

Consider a few questions?
 Why are farm gate prices still extremely low when processors are asking for more milk?
 Why have raw milk prices moved so much in the last couple of years in spite of consistent, steady growth in supply and demand?
 Why, in 2008-9, when our industry killed 350,000 cows (CWT), did the price not recover?
ANSWER: Traditional supply and demand rules are not being used to set farm gate milk prices.
Contrary to popular belief, supply vs. demand is no longer the driver of commodity price changes on boards of exchange and hasn’t been since 1995. Traders on these boards are now using billions of dollars of speculators capital to move the price instead of taking the price in the market. They make money based on the price moving. It is not the hedge market that it was set up to be. To illustrate the point, let’s look at farm-gate prices over the past 22 months:
 (June ’08 to June ’09) DOWN $10.28/cwt
 (June ’09 to Dec ’09) UP $ 5.01/cwt
 (Dec ’09 to Apr ’10) DOWN $ 2.20/cwt
(Cheese Reporter, 4/16/10)
During this same time total US production was unchanged.
2008 189.9 Billion lbs
2009 189.5 Billion lbs
We even killed 350,000 cows and it didn’t make a difference. It’s obvious that something besides supply and demand are at work here. SUPPLY and DEMAND are in balance. Consumer demand is on a strong and steady rise and has been for 25 years. Supply has followed the same steady rise as demand. Here are a few more facts:
 Domestic demand has increased to 610 lbs/person/year of fluid milk
equivalent.
 Total cheese in cold storage has steadily increased to maintain a 32-34 day supply for a population that has more than doubled its cheese consumption since 1985. (17 lbs per person to 34.5 lbs per person)
 Supply of milk has climbed on a steady slope to match demand.
 155 Billion lbs in 1995 to 189.5 Billion lbs in 2009.

Our check off marketing efforts have worked. Consumption is keeping up with our production.
Meanwhile, since 1995, prices to farmers have been recklessly volatile. Dairy farmers have lost over $11 billion equity in 2009 alone. This is ownership equity that they’ve handed over to banks so that they can continue to provide a delicious, nutritious, wholesome product. This is not capital of some big corporation. This is hard earned capital family farmers have scraped together over 20-30 years!

EXPORTS
Consider the period from August 2008 - February 2009. During this time dairy exports declined 1.805 billion lbs (average of 258 million lbs per month). This made every dairy newsletter and hundreds of other publications. Everybody was talking about it.
The reason exports declined is because the economic decline in countries like China and Indonesia diminished their ability to pay for US dairy proteins which were priced at an alltime high. ($21.00 milk) And, the only export enhancement/support program in place at the time, CWT, was suspended.

PRODUCTION: TOO MUCH OR NOT?
With historically low prices, plans were devised to kill cows to control the supply. The mindset of many in the industry was that if the price is so low, we must be producing too much milk. But, during this same period (Aug ’08 – Feb ’09) milk production actually DECLINED an average of 332 million lbs per month, totaling 2.324 billion lbs. Net change in supply: a DECREASE of 519 million lbs. In addition, 2009 was the 4th best year for dairy exports ever. Since the decline during fall of ‘08, world economies are stabilizing and/or in recovery. Our foreign consumers are able to buy our product again.
So what should we do?
Supply management plans being pushed all rely on the premise that changes in supply dictate changes in price. Clearly NOT true since 1995. Since there is momentum to do something to correct the problem, we must make sure we are curing the right aliment. The problem is not production, it’s the pricing formula. A solution will require more than just one “fix.”
Here are some suggestions that ought to be contained in any plan to stabilize farm-gate prices:
1. Use an Input Index - Stability for the industry is critical. The FMMO should incorporate an index which assures that returns to the farmer stay above the costs of inputs.
2. Volatility Modifier - Apply a weighting ratio to the FMMO calculation to reduce the volatility that comes with the boards of exchange impact to the FMMO. The calculation could be the same as it has been for years, with the simple application of the weighting ratio. For example:
Current Price = current price calculated as before X 33.3% (weighting current month) + price of each of the past 4 months times 16.7% = Modified Current Price
3. Market Clearing Mechanism - Periodically there will be excess product. Provided that processors are required to package dairy products in a form that meets the preferences of our consumers, both foreign and domestic, excess product can be “cleared off the market” through existing Nutrition Programs. Historically, over 70% of the cost of each Farm Bill actually funds Nutrition Programs like food stamps, WIC, school lunch, etc. These programs should be used to feed our fellow Americans with safe, nutritious foods produced by Americans.
We may only have one chance to solve this. We need to get it right.
For more information, Mike can be reached at mikekohler2009@gmail.com or call any Utah
Dairyman’s Association board member.
Special thanks to Utah Dairy Commission and Ray Buttars for providing data for this article.