Sunday, August 30, 2009

Where did the Current Dairy Problem Come From?

In some of the previous posts to this blog, we have established that cheese pricing, as influenced by supply and demand, has led to the current economic woes of the U.S. Dairy Industry. More milk goes to cheese than any other category and the Federal Milk Marketing Order payment system is based primarily on cheese prices. How did we get too much cheese, who did it, and when will it be corrected?

In this post, we will examine what led to the current dilemma and what it will take to return to high milk component pricing.

In the July 26 post, we showed how the growth of cheese consumption in the U.S. has been extremely steady. In this post, the other side of the supply/demand equation will be studied. In other words, cheese production will be studied independent of cheese consumption.

A number of countries have been reporting accurate cheese production numbers for nearly 40 years. This includes the following list of countries:

  • Argentina

  • Australia

  • Brazil

  • Canada

  • New Mexico

  • New Zealand

  • USA

With the exception of the European Union (EU), the list includes all the major cheese producing countries.

The chart below shows the growth in cheese production year by year for all these countries combined. Starting in 2006, world cheese production started to exceed the normal growth illustrated by the straight line on this chart. By 2008, cheese production was above the straight line growth by a greater amount than ever seen in this nearly 40 year history. There was just too much cheese in the world.

Throughout most of 2008, the U.S. cheese markets were protected by an unusually weak USD which made U.S. cheese cheap on the global market. Dairy producers responded by increasing herd sizes and, thereby, increasing milk production.

The next chart (below) breaks the overall chart (above) for cheese production into its U.S component and the non-U.S component. Both were above the "normal" growth line, but the non-U.S. production was significantly higher (above the long term growth line) than the U.S. cheese production.

So what countries were responsible for this spurt in the growth of cheese production? The U.S. neighbors, Mexico and Canada, have steadily increased production but in an orderly manner, staying close to the long term growth line.

Australia has been erratic, but was below the long term growth line for 2007 and 2008.

The EU27 do not have 40 years of accurate data, but when the 10 years of available data is reviewed, the problems do not seem to be in the EU.

So what countries does that leave? Argentina, Brazil, and New Zealand are significant contributors to the oversupply of cheese.

What does all this mean?

Given that cheese is a global commodity with standards and interchangeability, the conclusions can only be analyzed in the global market.

The U.S. is cutting back milk production primarily by reducing cow numbers. By sometime in early 2010, cow numbers in the U.S. will probably be back to the early 2007 levels. Will this solve the problem?

As long as there is global excess, the problem will not be solved. There will continue to be too great a supply for the global demand. Prices may improve, although not drastically, until the global equation of supply and demand comes into balance. A return of the weak dollar could temporarily help the U.S., but would probably be temporary.

The only way to win is for the U.S. to become the most efficient cheese making force on the face of the earth. Capitalist ways will bring this about, but it will be painful for the dairy industry. Milk producers must learn how to produce milk protein at the lowest possible cost and cheese making and cheese logistics must become extremely efficient. Genetics, feed, and geography are a few of the key variables.

The U.S. has not consistently won the global price wars. Steel, automobiles, clothing, and information technology are just a few of the industries that have lost to global competitors.

So who is coordinating the efficiency effort for the U.S. dairy industry?

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