Farm Bill's dairy, grain programs shaped by economic conditions
This is the third article in a series exploring the Farm Bill debate - where it's been and where it's going
Never in recent memory have federal dairy programs been the subject of such intense work, driven at least in part by the brutal losses dairy farmers experienced in 2008-09 when global markets tanked along with farm-gate prices.
Equity that had been built up on dairy farms for decades and even generations was lost as farmers borrowed to keep their businesses afloat.
Nationally, farmers banded together to try to come up with policy solutions that would make that kind of economic uncertainty unlikely in the future.
The dairy industry's dark days of 2008-09 were brightened considerably by milk prices in 2011, when farmers saw the highest prices ever recorded.
But Mark Stephenson, director of the Center for Dairy Profitability at the University of Wisconsin-Madison, notes that feed prices were up too in the last year, so the "margins were squeezed" on dairy farms.
The specter of those equity-stealing market conditions of several years ago still haunts the industry and will undoubtedly affect the coming Farm Bill debate.
The dairy policy debate was shaped in the last year by the National Milk Producers Federation (NMPF) plan called "Foundation for the Future," a plan that included a supply-management proposal along with a margin insurance plan.
The insurance plan, as proposed, would be subsidized by the federal government and the bargain would include the elimination of the Milk Income Loss Contract (MILC) program and the Dairy Product Price Support Program.
The increasing number of large farmers never liked the MILC program because it had a cap on production above which there were no benefits. Many dairy advocates blamed the price support program for being a safe haven where dairy processors parked their product under government storage rather than going out on a limb to produce products for specialty markets - like those in foreign countries.
As various dairy groups sprang up with their own ideas on how to tame the volatility that hurt farmers so badly in 2008-09, Congressional leaders seemed to coalesce around a version of the NMPF plan.
Dairy interests coalesce
While other commodity groups quarreled over which kind of program should be enacted in a "secret" Farm Bill that was hammered out during the Super Committee's work, dairy interests seemed to come to agreement on a version of the Foundation for the Future plan.
Dr. Joe Outlaw, co-director of the Agriculture and Food Policy Center at Texas A&M, helps Congressional leaders by analyzing various proposals they may be considering.
Twelve dairy farms in Wisconsin provide information that is part of the database he and his colleagues use to run economic models and brief lawmakers.
During deliberation on the dairy bill last year, there was a lot of push-back, Outlaw said, from Wisconsin dairy farmers against the supply management portion of the proposal.
Indeed, in listening sessions that NMPF officials held around the country, including Wisconsin, some of the strongest criticism of the plan was reserved for the supply management portion. Many farmers felt that it would impede their ability to grow their business.
After some modifications - the supply management portion of the program was made voluntary - the Foundation for the Future Plan was introduced nearly intact as the Dairy Security Act (DSA) of 2011.
That act was not passed, but the four top Congressional agriculture leaders (the so-called Gang of Four) used it as a starting point for dairy legislation that fed into the Super Committee process.
Stephenson notes that, with the failure of the Super Committee to find $1 trillion in budget cuts by its deadline last December, the Farm Bill and dairy policy proposal that were submitted have been sealed.
"But it is widely believed to have been a somewhat tweaked version of the Dairy Security Act proposal," he said.
Having gotten such widespread agreement from many parts of the industry, Stephenson believes the DSA will likely serve as the starting point for deliberation on dairy policy in the coming year.
If the DSA becomes law, the MILC and price support programs would be eliminated and the federal budget money formerly used for them would go toward new programs, especially subsidizing margin insurance.
Since global market conditions - the growing demand for dairy products and a weak U.S. dollar favor dairy exports - the dairy bill would probably phase out the Dairy Export Incentive Program (DEIP) and allow the funding for that to be directed to other dairy programs as well, Stephenson notes.
If it follows the outlines of the DSA, the new safety net would be designed as margin insurance administered by the U.S. Department of Agriculture's Farm Service Agency (FSA). The agency would calculate a monthly margin by subtracting the value of a standardized dairy ration from the national all-milk price.
The margin thus calculated would become the trigger for indemnity payments to participating farmers. As it was written last year, the act would require anyone participating in this margin insurance program to also participate in the supply management program.
That supply management program - officially called the Dairy Market Stabilization Program (DMSP) - is intended to bring down the volume of milk sold in times when the margin falls below a trigger point.
Under that program producers would be assigned a historic production "base," which would be their highest milk production in the three calendar years prior to enactment of the law.
When the FSA determines that the milk supply needs to be reduced, participating farmers would be asked to reduce production 2 percent from their base after margins fall below $6 for two consecutive months.
Supply would be reduced a mandated 3 percent if the margin fell below $5 for two consecutive months, and by 4 percent if the margin fell below $4 for a single month.
Under this plan, participating dairy producers could continue to market as much milk as they wanted, but would not be paid for the portion that is over the stated limit.
The money for that milk would go to a national board that would use it to purchase dairy products for distribution to non-commercial outlets like food banks.
Stephenson notes that farmers wanting to participate in the margin insurance program (and thus also in the supply management program) would have a one-time chance to decide on that participation after the bill is signed.
Automatic budget cuts
Sequestration - the automatic budget cuts that were supposed to ensure the success of the Super Committee - will affect dairy programs. If they go into effect, all farm commodity programs will have to be reduced from their budget "baseline" positions.
Stephenson said that many analysts think that dairy's obligations could be met by eliminating the Dairy Product Price Support Program and the Dairy Export Incentive Program, both of which have been inactive because of current market conditions.
"Terminating them would not perceptively impact dairy producers or markets," he said.
Farmers should realize, however, that if a new Farm Bill isn't passed this year, the MILC program payment rates will drop from 45 percent to 34 percent of the target price by Sept. 1, 2012, under a provision of the last Farm Bill.
The cap also drops from 2.98 million pounds of milk to 2.4 million pounds and the feed cost adjuster trigger goes from $7.50 per hundredweight to $9.50 per hundredweight.
Stephenson noted that the changes will make the program significantly cheaper for the federal government.
But they will also make the program less useful as a safety net to farmers.
Creating federal dairy policy was easier 60 years ago when most dairy farms had similar sizes and business models, Stephenson notes. It was back then that federal Milk Marketing Orders and the Dairy Price Support Program were enacted.
Commodity programs
When it comes to program crops like grains, oilseeds, rice, sugar and cotton, geography matters, said Paul Mitchell, an agricultural economist at the UW-Madison.
To the Congressional representatives who will have to vote on a Farm Bill, it matters very much where the money goes. In some parts of the country, half of farm income is derived from federal farm payments.
Mitchell, who spoke to farmers at the recent Corn/Soy Expo in Wisconsin Dells, said everyone has a new idea about commodity programs and "all of them have a new acronym."
It's an alphabet soup of programs - all aimed at finding ways to protect farmers from the vagaries of the marketplace and weather, while still saving money from the overblown federal budget.
"I can't see Congress really living without a disaster program, because then we'll end up with ad hoc disaster bills when something comes up," he said.
Mitchell and many other observers believe crop insurance will take on an expanded role in the new Farm Bill as a way to protect farmers. Insurance subsidies from the federal government will likely be proposed as a way to move farmers away from other payments and eliminate some of the existing programs.
Direct payments, which have been part of the government's commodity programs since the 1996 Farm Bill, have come under fire in recent years as prices for many program crops rose to record levels.
Mitchell said it's very likely that direct payments will be eliminated in the 2012 Farm Bill. Many national farm and commodity groups have signaled that they believe direct payments will die in the coming farm policy debate.
It's not clear what will happen to other programs like counter-cyclical payments, marketing assistance loans and the ACRE program (for average crop revenue election).
Some policy proposals, said Mitchell, call for elimination of counter-cyclical payments, something that would be easy for lawmakers to do since it hasn't been triggered for the major crops since 2004.
But in politics, the converse is also true. Lawmakers could argue that they maintained the program of counter-cyclical payments to help their farm constituents, even though it would seldom, if ever, be triggered.
Mitchell said the call isn't very loud to eliminate marketing assistance loans because the programs don't cost much and high commodity prices mean that triggers for loan deficiency payments are rarely reached.
The ACRE program was created in the 2008 Farm Bill as a new revenue-support program, but farmers have found it too complicated and enrollment has been lower than anticipated, Mitchell said.
The program, he said, has been sort of an experiment for policymakers to determine the kinds of things farmers want in a revenue-based support program. They want simplicity and transparency, he said.
Crop insurance is by far the largest program in terms of farmer participation and acreage covered, he noted, with projected cost of $7.8 billion per year. Mitchell and many others believe crop insurance is an area where the federal government will increase its emphasis.
Dairy prices will affect industry, Congress as it crafts new policy
Writing a Farm Bill and new federal dairy policy may be a question of timing.
Calamitous prices in 2008-09 and rising feed prices in 2010 pushed many dairy advocates to look for new policies that could temper the economic whiplash being felt by farmers.
But as Congress dragged out the process of working on a new dairy bill without getting it done, dairy prices improved. That could affect the policies that end up being considered in the Farm Bill this year.
Mark Stephenson, director of the Center for Dairy Profitability at the University of Wisconsin-Madison, notes that 2011 marked the highest annual average milk price ever.
The Wisconsin all-milk price was $20.29 per hundredweight in 2011. That was $4.11 per hundred better than 2010 and $7 better than the prices in 2009.
In a report at an annual agricultural outlook conference last month, Stephenson noted that feed prices and other input costs were also higher for dairy farmers, influencing their bottom line.
Feed prices were extraordinarily high in 2011 with corn prices, averaging about 60 percent higher than in 2010 and almost 30 percent higher than the previous record-high year in 2008 - before the global economy fell apart.
As farmers strove to keep up with rising costs, they added cows. Recent years have seen an uptrend in cow numbers continuously with the exception of 2009, which was an "exceptionally bad year," said Stephenson.
After the fall-off in cow numbers in 2009, the size of the national herd stabilized in 2010 and increased by just under 1 percent in 2011, he said. Most of that contraction in the U.S. dairy herd occurred in the West, he said.
The current number of U.S. dairy cows is about the same as it was in 2007 and Stephenson noted that currently cull cow prices are relatively strong, providing an opportunity to remove unproductive members of the herd for pretty good prices.
Even if farmers take advantage of those cull prices, it likely won't affect the size of the overall dairy herd. Better survival of heifer calves, along with sexed semen, has meant that "there are plenty of replacements in the pipeline," he said.
Through genetic improvement, production-per-cow has made some gains, but they have been tempered by the high price of feed. Farmers cut back on high-priced grain in 2009.
When grain prices moderated slightly, Stephenson noticed an explosion in cow productivity. That was then dialed back again when grain prices rose last year, he said.
The economic picture facing dairy farmers is also affected by supply and demand. The Northeast, he said, is a stable but milk deficit region and the Southeast is strongly milk-deficit. The West is a surplus region for milk production.
A very hot June in 2011 reduced milk production by 4 percent compared to a year earlier.
Levels of dairy products that are stockpiled are what Stephenson called the "canary in the coal mine" when looking for indicators of future prices. In 2010 there was a butterfat shortage - most likely due to hot weather and quality of feed supplies.
In recent years, cheese and butter stocks have moved in opposite directions.
Through 2010 and the first half of last year, butter inventories had fallen to only about half of what they normally are due to strong demand and low production levels. As prices rose, consumers avoided butter and cows began producing more normal levels of butterfat again, he explained.
But cheese was another matter.
In January 2011, cheese inventories were 30 percent higher than would typically be the case. As last year wore on, export opportunities and higher domestic consumption helped draw down those inventories.
South Korea has developed as a strong market for U.S. cheese, Stephenson said.
Fluid milk consumption has continued to decline from a high of 380 pounds per person per year in the 1940s. Today U.S. per capita consumption is about half that amount.
All those supply and demand figures will factor into milk prices for the coming year. Stephenson predicted farm prices will be lower than the historic highs of last year, perhaps landing $1.80 lower than 2011 levels.
If Stephenson's prediction is correct, Wisconsin dairy farmers may see an all-milk price of $18.50 in the coming year.
"There is very inelastic supply and demand in the dairy sector, but I don't expect anything like 2009's precipitous drop in the coming year."
The domestic markets for dairy products are the "deep keel" on which dairy prices sail, he said, but the export market provides the opportunities for growth.
Feed prices will likely remain high, tightening dairy farm margins, and Stephenson expects Milk Income Loss Contract (MILC) payments will be part of the picture in the coming year.
Worldwide there is a shortage of animal proteins and milk proteins which may see some real strength in the coming year in light of that demand, he said.
