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0909 PD: The time for consensus is now, and the industry shouldn't let it pass by

Rob Vandenheuvel Published on 05 June 2009

Editor’s note: The following opinion was submitted for publication by the Milk Producers Council in response to Progressive Dairyman Editor Walt Cooley’s editorial “When we can’t borrow our way out?” in the April 13, 2009 issue.

Dairying in the 21st century involves a lot more than just feeding and milking cows. Quite frankly, the industry is under assault. Environmental extremists have labeled our cows as egregious polluters and are fighting us on every front. Both federal and state governments continue to view our labor force with a skeptical eye, and legislators seem unwilling to do anything to secure a reliable agricultural workforce. Animal rights extremists are successfully passing ridiculous ballot initiatives outlawing basic modern farming practices. And the FDA has implemented strict rules for dead animal rendering based on an overblown fear of mad cow disease that has never been found in a U.S.-born cow.

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Yet, with all these attacks and threats to our industry, they pale in comparison to the single-largest threat: the devastating boom/bust nature of our milk price that threatens to wipe out a substantial chunk of our industry this year.

If this volatility was isolated to 2009, I would be the first to argue that we should let it run its course and not make any fundamental changes to the industry. But we all know that this wreck is not an isolated case. The boom/bust nature of our milk price has become increasingly violent in recent years. Six years ago, many dairymen would have told you that the economic conditions for a dairy in 2003 were the worst they’d ever seen. Of course, we came to find out that 2003 was mild compared to the wreck we saw in 2006. And just as farmers were starting to recover from that wreck, we ran into this year, which is by far the worst wreck ever seen by the current generation of dairy farmers.

So what does the future hold for the dairy industry? If you listen to dairy economists like those at Cornell University’s Program on Dairy Markets and Policy, they would tell you that more of this volatility is in our future. These wrecks are very predictable. In fact, in an economic analysis published by Cornell University in 2007, their economic model predicted that 2009 would be a devastating year for the dairy industry, longer and more devastating than the 2006 wreck. Unfortunately, they were right.

Addressing the volatility
Why do we have such a volatile milk price? In short, it’s a direct result of our industry’s ability to increase production faster than the market’s ability to absorb it. As soon as we see profitable times, our industry has perfected the art of ramping up production to a level that we quickly flood the market with an oversupply of milk, resulting in a collapse of the milk price.

So how do you adjust the industry to keep supply and demand in balance? Canada and Europe have addressed this very problem by implementing strict quotas on their producers. Interested in dairying in Canada? You’d better be ready to spend nearly $30,000 per cow to buy the “right” to produce that milk – and that’s before you’ve even bought the cow. This type of supply management is not a concept that has been widely accepted in the U.S. dairy industry.

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Instead, we need to examine the incentives that exist in the dairy industry. Incentives are what drive individuals to do the things they do, and dairymen are like any other businessman – they respond to incentives. You have the incentive to grow your business to avoid paying more taxes. When you sell your property for development, there are tax incentives that encourage you to build a larger dairy somewhere else. And the kicker is that we have a system of milk pooling that blends all the milk in your “pool” and pays you and your fellow dairymen the same milk price, regardless of how much you produce or how much the market can actually absorb.

Economics 101 would tell you that the price of any commodity is determined by the balance of supply and demand. In the dairy industry, that supply is the collective result of 60,000 individual dairymen’s decisions, all of whom have the individual incentive to maximize their production. And from a strictly individual perspective, that decision to maximize production makes perfect sense; but as a collective industry, those decisions are exactly the reason that producers are currently losing decades of built-up equity over the course of a few months. The harsh reality is that unless we do something to correct the perverse incentives that drive this chronic overproduction, we are destined for increasingly volatile boom/bust cycles in our industry. Wrecks like we’ve seen in 2006 and 2009 are not the exception – they have become the new rule.

It doesn’t have to be this way
In 2007, Milk Producers Council (MPC) – a non-profit trade association of California dairy families – teamed up with Dr. Mark Stephenson and Dr. Chuck Nicholson from Cornell University’s Program on Dairy Markets and Policy. MPC asked Stephenson and Nicholson to analyze a plan that would create a financial incentive for dairymen to actually pay attention to how much milk they are producing and manage that supply based on those incentives. MPC believed that if individual dairies had even a modest financial incentive to manage their production on a day-to-day basis, it would have an immensely positive effect on the overall balance of supply and demand.

The program MPC presented to Cornell University to be analyzed – which we now call the Growth Management Plan – was very simple. Dairies that want to expand their production by more than an allowable 2 to 3 percent annual growth would have to pay a modest “market access fee.” Those fees would be pooled and redistributed to the dairies that held their production below that 2 to 3 percent “allowable growth.”

Nothing in the program stops any producer from growing. Nothing in the program allows the government to tell you how much you can produce. In one sentence, the program simply creates a producer-funded, producer-received financial incentive to manage how much milk you are producing. Dairies that wish to grow will simply have to pay their fellow dairymen to hold their production in line, allowing for the market to absorb the additional milk.

In a normal year, milk consumption grows at a modest pace – increasing with the population. Therefore, our goal is not to eliminate all growth in the industry. Rather, we need to be smarter and more strategic in how we grow.

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Promoting the plan
After analyzing the Growth Management Plan in the spring of 2007, Stephenson and Nicholson concluded that the program would, in fact, be enough of an incentive to keep the supply and demand in balance. So MPC hit the road to present the plan to trade associations and co-ops throughout the country. If you recall, timing couldn’t have been worse. By the spring of 2007, our industry was on the verge of coming out of the 2006 wreck and was on its way to $20-plus per hundredweight milk. At a time of prosperity like that, no one in the industry wants to hear about any changes, no matter how necessary.

Well, fast-forward to 2009, and as the Cornell University economic model suggested, we are right back in the doldrums of another massive wreck. A lot has happened since the Growth Management Plan was first modeled in 2007, so we asked Stephenson and Nicholson to once again model the program, this time accounting for higher feed costs like we saw in 2007/08 and a sudden rise in export demand followed by a sudden loss, like we saw in 2007-2009. The results came in and confirmed once again that if implemented, the Growth Management Plan would be able to greatly reduce milk price volatility, even in the face of higher feed costs and changes in export demand.

So for the past several months, MPC has once again been meeting with the boards of various cooperatives and trade associations to build support for the Growth Management Plan. The response has been phenomenal. While producers in these meetings understandably have questions about how exactly the program would work, there is near universal support for the concept among those producers.

The time to act is now. There are some who despise government regulations, and I can understand this argument. But we are not operating in a “free-market” vacuum. The U.S. dairy industry is highly regulated, so this is not a choice of having a “regulated” or “unregulated” industry. The truth is that our choice is to do nothing – which will inevitably result in continued booms and busts going forward – or put a policy in place that sends a tangible financial signal back to individual farms telling them to pay attention to how much milk is being produced.

An editorial published in this magazine recently stated that perhaps we had missed our opportunity to implement positive changes for our industry. I strongly challenge that assumption. Milk Producers Council has been presenting the Growth Management Plan to cooperatives and trade associations throughout the country, with interest from producers in every meeting we have. As I’m writing this article, the Holstein Association USA, with their 30,000 members nationwide, has just unveiled the “Dairy Price Stabilization Program,” a program virtually identical to the Growth Management Plan.

There is nothing as powerful as an idea that has reached its time. We have the attention of dairymen throughout the country right now, and we would be foolish to let this opportunity pass. PD

Rob Vandenheuvel
General Manager
Milk Producers Council

What do you think?

Progressive Dairyman invited industry trade groups and organizations to submit brief comments in support or against the submitted opinion on the previous page. The following responses were received. Submit your own response in favor or in opposition by e-mailing or sending your comments to P.O. Box 585, Jerome, Idaho 83338.

Chuck Nicholson & Mark Stephenson
Cornell University

It is appropriate to convey the idea that the analyses we have done to date are a “proof of concept.” We have tried to do this in our presentations and writings about the Growth Management Plan (GMP) program, but this has not been received quite that way in some – perhaps many – cases. What “proof of concept” means from our perspective is that the initial analyses support the idea that a program like GMP could influence market outcomes in the types of ways we have presented. The GMP can make prices more stable under many circumstances. It would also increase the average all-milk price.

However, we have not analyzed a variety of other impacts that would be helpful in considering whether a program like this should be implemented. (Impacts on trade flows are one example, regional impacts are another.) We believe that our analyses represent the likely market dynamics under the GMP, but additional information on other impacts and consideration of how to administer the program would be useful complements to what we have done.

We welcome alternative analyses of the GMP using similar or different methods that both revisit the impacts on dairy product markets and explore these other factors. This is consistent with our view that our role is not to be advocates for particular types of programs, but to use our analytical tools and industry knowledge to help assess the likely impacts of different proposals. More discussion of the GMP and its impacts can be found in our report at www.dairy.cornell.edu

Nicholson
Senior Research Associate
Stephenson
Senior Extension Associate

Thinking and acting regionally instead of nationally has hindered the U.S. dairy industry as a whole for decades. It is great to now have a program developed by producers for producers that treats all dairies the same, regardless of location or size of operation.

We are optimistic the Dairy Price Stabilization Program will stabilize the peaks and valleys of milk prices. Obviously, producers and the organizations they belong to, like Dairy Farmers Working Together, Holstein Association USA, Milk Producers Council and others, see the benefits of working together and going forward with one program to bolster the dairy industry.

John M. Meyer
Chief Executive Officer
Holstein Association USA

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