Do domestic inventories control producer prices? This post will review where producer prices are going and how they correlate to domestic wholesale inventories. What is being compared here is the wholesale inventory of a commodity to the wholesale price of that commodity. When a product is scarce, prices are high. When inventories bulge, prices fall. Inventories do not change quickly and therefore prices do not change quickly.
There are four commodities that are used to price producer milk, butter, cheese, nonfat dry milk (NDM), and dry whey. The data used below is based on 12-month moving averages to minimize the impact of month-to-month seasonal changes and temporary fluctuations. The most recent weekly prices will be updated in the next post.
BUTTER Chart I
Butter prices are tightly correlated with butter wholesale inventories. Chart I shows the butter inventory compared to producer prices. Butter exports and imports are minimal compared to domestic consumption.
The correlation between inventory levels and the Agricultural Marketing Service (AMS) price of butter has an inverse correlation of 85 percent over the last five years. That means that if you know one side (eg. inventory) of the correlation, 85 percent of the time you will be able to closely estimate the price of the other side (AMS price). Butter has a seasonal cycle with more butter produced than needed in January through April and then has the opposite in the fourth quarter of the year. During this time, cold storage of butter will increase and then decrease. The 12-month moving averages eliminate these fluctuations.
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| Chart I - Butter Inventories and AMS Prices |
During COVID "stay at home" polices, inventories grew and prices fell. In late 2021, production of butter was reduced and inventories dropped. That drove prices to record highs. In 2022, butter inventories have returned to more normal levels and prices are declining.
For more on butter prices, see these recent posts to this blog.
DRY WHEY - Chart II
Dry whey is also correlated tightly to its domestic wholesale inventories. In this case, imports are nearly zero, but exports are high exceeding 50 percent of production. While one might expect that with over half of the dry whey being exported there would be no correlation. However, dry whey is not a highly competitive export market and therefore U.S. prices can prevail.
The inventory fluctuations are driven by high domestic withdrawals in 2021 that have now declined to more normal levels. Production and exports of dry whey has seen no growth or decline in the last decade.
Dry whey inventories and AMS pricing have a 56 percent inverse correlation over five years. A correlation over 50 percent is a moderate correlation.
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| Chart II - Dry Whey Inventories and AMS Prices |
NDM - Chart III
NDM is a very volatile international market. U.S. NDM must compete with huge exports of skimmed milk powder (SMP) in the international markets. Nearly three quarters of U.S. produced NDM and SMP are exported and must compete with exports from other countries.
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| Chart III - NDM Inventories and AMS Prices |
NDM domestic wholesale inventories and AMS prices have a 30 percent correlation. If it was possible to have a correlation with the global wholesale inventories, it might have a tight correlation, but comparing domestic NDM inventories to international prices, just doesn't correlate.
Unfortunately, much of the producer milk pricing uses NDM prices to value skim milk. It is used for Classes I, II, and IV skim pricing. When the current pricing system was developed in 1999, 75 percent of NDM was used domestically. Today domestic use is about 30 percent. When the formula for pricing of fluid milk (Class I) was changed in 2019, did it consider the international volatility? Probably not.
CHEESE - Chart IV
The final and most important commodity for milk pricing is cheese. Imports of cheese compared to U.S. produced cheese are small. Exports have been growing and now are around five percent of domestic cheese production. That should result in a close correlation between domestic inventories and prices. The problem here is that the AMS pricing of cheese is based only on Cheddar cheese. Inventories of Cheddar cheese are not publicly available. Cheddar cheese, as measured by production, makes up about 70 percent of American cheese, but that can vary from month-to-month and over-time. As a result, the correlation between American cheese inventories and Cheddar cheese wholesale prices is very low. Cheese prices and wholesale inventories should have a high correlation, but the correlation is only 30 percent. Without exact statistics on the inventory of Cheddar cheese there is no correlation.
The good news is that the most important commodity for pricing producer milk is at a high. In May of 2022 the cheese price hit a high of $2.42 per pound. Cheese prices have dropped some since then, and in February the price was $1.82 per pound,
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| Chart IV - Cheese Inventories and AMS Prices |
The next post will look at the most recent weekly data on these commodity prices. Unfortunately for producers, most of the prices for the commodities covered above are falling.
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