Farm Bill Dairy Programs: National Politics and Individual Decisions

Dr. Marin Bozic

Dairy Business Milk Marketing CooperativeMadison, WI, December 2, 2013

OLD POLICY NEW PROBLEM NEW SOLUTION

Focuses on Milk Price • Many dairies buy most of their feed.

• Feed prices very risky.

Focuses on Income over Feed Costs (IOFC) Margin

Countercyclical Payments

• Political Climate Favors Risk Management

Introduces IOFC Margin Insurance

Balances Markets Through Government Purchases

• Insurance without Controls would Lead to Milk Glut (?)

Introduces Dairy Market Stabilization Program (Senate Bill Only)

New Problems – New Solutions?

Farm Bill Dairy Margin

• All-Milk (/cwt)- 1.0728 x Corn (/bu)- 0.00735 x Soybean meal (/ton)- 0.0137 x Alfalfa hay (/ton)

• Feed ration per cwt of milk: • 30 pounds of shell corn, • 106.4 pounds of corn silage, • 14.7 pounds of soybean meal• 27.4 lbs of alfalfa hay

Farm Bill Dairy Margin 2000-2013

Jan-00

Jan-01

Jan-02

Jan-03

Jan-04

Jan-05

Jan-06

Jan-07

Jan-08

Jan-09

Jan-10

Jan-11

Jan-12

Jan-13

$0.00$2.00$4.00$6.00$8.00

$10.00$12.00$14.00$16.00

Farm bill Dairy MarginCoverage Level

Senate House

<4mil 4mil+ <4mil 4mil lbs+

4.00 0.00 0.00 0.00 0.03 4.50 0.01 0.02 0.01 0.045 5.00 0.02 0.04 0.02 0.066 5.50 0.035 0.10 0.035 0.11 6.00 0.045 0.15 0.045 0.185 6.50 0.09 0.29 0.09 0.29 7.00 0.40 0.62 0.18 0.38 7.50 0.60 0.83 0.60 0.83 8.00 0.95 1.06 0.95 1.06

What does $4.00/cwt IOFC Margin Look Like?

Jan-00

Sep-00

May-01Jan-02

Sep-02

May-03Jan-04

Sep-04

May-05Jan-06

Sep-06

May-07Jan-08

Sep-08

May-09Jan-10

Sep-10

May-11Jan-12

Sep-12

May-13

$0.00

$2.00

$4.00

$6.00

$8.00

$10.00

$12.00

$14.00

$16.00

What does $6.50/cwt IOFC Margin Look Like?

Jan-00

Sep-00

May-01Jan-02

Sep-02

May-03Jan-04

Sep-04

May-05Jan-06

Sep-06

May-07Jan-08

Sep-08

May-09Jan-10

Sep-10

May-11Jan-12

Sep-12

May-13

$0.00

$2.00

$4.00

$6.00

$8.00

$10.00

$12.00

$14.00

$16.00

Senate:• Free $4.00: 80% of Milk Production Before

Farm Bill (the highest of the last 3 years)

• $4.50-$8.00: Up to 90% of last year’s production

House:• Up to 80% of the highest annual production over

the last 3 years.

No Absolute Limits On Insurable Milk

Consecutive Two-Month

Periods 2012Two-month

Average

January 7.57February 5.82 6.70

March 4.94April 4.26 4.60May 3.41June 3.51 3.44July 2.74

August 2.98 2.86September 5.51

October 7.28 6.39

• Calendar year is divided into six consecutive two-month periods

• Average margin must be below the purchased coverage level in order for indemnities to be due.

When Will Margin Insurance Pay Out?

Year 1: Information Set

Year 1: Information Set

Bas

ed o

n N

ewto

n (2

013)

Year 1: Expected Return at Enrollment Date

Coverage Level

Fees & Premiums

Expected Indemnity

Expected Net Revenue

$4.00 $0.03 $0.01 -$0.01$4.50 $0.04 $0.02 -$0.02$5.00 $0.06 $0.04 -$0.02$5.50 $0.10 $0.06 -$0.04$6.00 $0.17 $0.10 -$0.07$6.50 $0.27 $0.15 -$0.11$7.00 $0.36 $0.23 -$0.12$7.50 $0.80 $0.34 -$0.47$8.00 $1.05 $0.47 -$0.58

Bas

ed o

n N

ewto

n (2

013)

Year 2: Information Set

Year 2: Information Set

Bas

ed o

n N

ewto

n (2

013)

Year 2: Expected Return at Enrollment Date

Coverage Level

Fees & Premiums

Expected Indemnity

Expected Net Revenue

$4.00 $0.03 $0.21 $0.18$4.50 $0.04 $0.35 $0.31$5.00 $0.06 $0.54 $0.48$5.50 $0.10 $0.78 $0.67$6.00 $0.17 $1.04 $0.87$6.50 $0.27 $1.33 $1.07$7.00 $0.36 $1.65 $1.29$7.50 $0.80 $1.98 $1.18$8.00 $1.05 $2.33 $1.28

Bas

ed o

n N

ewto

n (2

013)

How Subsidized is Margin Insurance?

Coverage 2007-2013 Average Expected

Subsides

2009 Expected Subsidies

($) As Percent of Average

Margin

150 Cows

3,000 Cows

150 Cows

3,000 Cows

$4.50 55% 64% 28% 93% 86%$5.00 61% 74% 48% 94% 88%$5.50 67% 76% 30% 94% 83%$6.00 73% 81% 36% 95% 83%$6.50 79% 75% 18% 93% 76%$7.00 85% 22% -21% 74% 60%$7.50 91% 15% -18% 69% 57%$8.00 97% -1% -13% 59% 54%

Based on Newton (2013)

How Subsidized is Margin Insurance?

Expected Margins Near

Historical Average

Modestly Subsidized

.

Expected Margins

Much Above Historical Average

Margin Insurance

Premiums are too Expensive!

Expected Margins

Much Below Historical Average

Margin Insurance Premiums are very Highly Subsidized.

The Premise Behind the Stabilization Program

Varia

ble

Cost

sFi

xed

Cost

s

Milk

Pric

e

Loss if you Continue to Produce

Loss Is Bigger if you Reduce Production

…but demand for dairy is “inelastic”. What that means is that if many producers cut back a little at the same time, milk prices will go up sufficiently to offset lost revenue.

Dairy Market Stabilization Program

-9%-7%-5%-3%-1%1%3%5%7%

USA Year-on-Year Milk Production Growth 2008-2013

Stabilization Base is not a Quota

What are the DMSP Penalties?

– If margins were $5.00-$6.00:• 98 percent of stabilization base• 94 percent of the marketings of milk

– If margins were $4.00-$5.00• 97 percent of stabilization base• 93 percent of the marketings of milk

– If margins were less than $4.00• 96 percent of stabilization base• 92 percent of the marketings of milk

Exports and the Stabilization Program

If Margins are $5.00-$6.00, DMSP will suspend if U.S. cheese price is higher than the world cheese price, or if the price in the United States for nonfat dry milk is equal to or greater than the world price of skim milk powder.

If margins are $4.00-$5.00, DMSP will suspend if U.S. cheese price is more than 5% higher than the world cheese price…

If margins are below $4.00, DMSP will suspend if U.S. cheese price is more than 7% higher than the world cheese price…

Will new policy change relative competitiveness of regions?

Are DMSP penalties equitable?

Yields vs. Margins – DMSP penalties equitable?

-6.00% -4.00% -2.00% 0.00% 2.00% 4.00% 6.00%$0.00

$2.00

$4.00

$6.00

$8.00

$10.00

$12.00

$14.00

$16.00

Yield Growth: Wisconsin minus National

Farm

Bill

Dai

ry IO

FC

Mar

gin

IOFC Margin Volatility: Threat or an Opportunity?

1 21 41 61 81101

121141

161181

201221

241261

281301

321341

361381

4010

5

10

15

20

25

IOFC Margins Feed Prices All-Milk Prices

U.S

Dai

ry IO

FC M

argi

n, /

cwt

Change in Dairy Herd: CA vs WI

Subsidies and Mailbox vs All-Milk price

Sources and References

Some of the quantitative results presented here are based on a research project led by Dr. Cameron S. Thraen and John C. Newton, the Ohio State University.

Primary reference: Newton, John C.  Policy Options for a Modern Dairy Economy, Ph.D. Dissertation, Copyright The Ohio State University 2013.

Farm Bill Dairy Programs: National Politics and Individual Decisions

Dairy Business Milk Marketing CooperativeDecember 2, 2013

Dr. Marin Bozicmbozic@umn.eduDepartment of Applied EconomicsUniversity of Minnesota-Twin Cities317c Ruttan Hall1994 Buford AvenueSt Paul, MN 55108

http://marinbozic.info