Another Take on Dairy Reform
Apr 09, 2012
Apart from the dairy stabilization (aka supply management) component of the dairy reform package, the most hotly debated issue is whether the program would actually save or cost dairy farmers money.
Back in December, we dutifully reported
an analysis by Chuck Nicholson and Mark Stephenson. Chuck Nicholson is a dairy economist at Cal Poly; Stephenson is a dairy economist at the University of Wisconsin.
Their economic model shows that the Dairy Security Act of 2011 (DSA) could significantly reduce milk price volatility, but that reduction would come at a price of nearly $1/cwt. reduction in the all-milk price. The Stephenson/Nicholson model also suggests the dairy stabilization program would be in effect 40% to 45% of the time, and net farm operating income would be reduced by 32% to 48%.
Opponents of DSA immediately grabbed onto those numbers. And frankly, who wouldn’t? These are some unsettling outcomes, to say the least.
But proponents of DSA point out, rightly, the Stephenson/Nicholson model does not include any correlation between feed prices and milk prices. In other words, there is no mechanism in the model that says as feed prices rise, less milk is produced, which in turn eventually drives milk prices higher. DSA proponents say this is a critically missing link in any analysis of DSA because the program hinges on the margin between feed and milk prices.
Scott Brown, a dairy economist with the University of Missouri, completed work on the feed-milk correlation this winter. His results confirm there is a fairly strong correlation between feed and milk prices—in the neighborhood of 0.45. (No correlation would be 0.00; a perfect correlation would be 1.00.)
“I was surprised at how strong the correlation is, even in the shorter term,” he says. “But feed is a big driver to milk production costs—65% of production costs are wrapped up in feed.”
And so the correlation between feed costs and milk prices becomes important, especially if you’re receiving government payments based on the marginal difference between the two. “The chances of high feed costs and low milk prices are lower than the chances of low feed costs and low milk prices,” he says.
“As a result, margin payments may not trigger as often as you might think. There certainly is a lower probability,” he says. And if there’s a lower probability of margin payments, there is also a lower probability of the dairy stabilization program kicking in.
Brown’s model suggests all-milk prices would have also been about $2/cwt. better in 2009—not dipping nearly as low as they did, and rebounding more sharply—had the DSA been in place.
Brown ran 500 iterations of his economic model for each year from 2012 through 2020. His results show that there is very little difference in the all-milk price between the current dairy program and the Dairy Security Act of 2011 as originally proposed by U.S. Rep. Collin Peterson, D-Minn., last fall. In fact, there is not a nickel’s worth of difference in any of those years.
If you look at 2015, for example, there’s only a 10% chance of a margin payment at the base program rate of $4/cwt. margin. And even at the $6.50/cwt. supplemental margin, there’s a probability of a payment only a third of the time.
All of this, of course, depends on what the final details of the reform package are, if it passes and how many dairy producers then opt in.
Opponents of DSA will cling to the Nicholson/Stephenson results as to what DSA could bring. Brown acknowledges the Nicholson/Stephenson scenario is a possible outcome even in his model. But it’s only one of 500 possible outcomes.