COLUMBUS, Ohio – The U.S. dairy industry needs to shed an additional 200,000 head of cattle to return to what an Ohio State University Extension dairy economist refers to as a "state of normalcy" where production is more in balance with domestic demand.
Cameron Thraen said the industry is rapidly reducing its 9.3 million herd size – over 208,000 milk cows have been removed from the national milk herd in the last nine months.
"It's that compression, dropping the national milk cow herd from the 9.3 million mark to under 9 million, that is painful for a lot of farmers right now, but we've got way too many cows given the level of current demand in the U.S." said Thraen, who also holds an appointment with the Ohio Agricultural Research and Development Center. "We need to get back to about 8.9 to 9 million head. That will put farmers in a more stable position of balancing the domestic use market with only a small international component."
A combination of unique factors several years ago contributed to pushing milk prices to record levels -- $22 Ohio mailbox prices per hundredweight up from the normal $14 or $15 per hundredweight. Changes in European Union CAP policies and difficult weather in Australia and New Zealand shrunk global milk product supplies, specifically skim milk powder supplies, and the United States was one of the few countries able to meet strong international demand.
"Rapidly rising milk prices encouraged dairy farmers to expand their herds, increasing the national dairy herd by 349,000 head over the 2004 to 2008 period. During this period, net income on dairy farms soared to levels not observed in the last decade," said Thraen. "Net income over feed cost exceeded $12 per hundredweight at its peak, when normal values would be $7 to $8 per hundredweight."
Then the global recession hit.
"Everything was going along pretty well and then in December of 2008, the bottom fell out of the U.S. cheese market and the international demand side of the U.S. skim milk market evaporated. A lot of that demand was financed through commercial credit markets and when you can't get credit, you can't buy the product. Suddenly the demand that supported the high milk prices went away and we dropped back to the domestic-supported $10 price," said Thraen. "At that point, dairy farmers had too many cows in the barn. Almost overnight they saw 50 percent reduction in dairy prices."
For example, the Ohio mailbox price fell from $19.83 in July 2008 to $11.97 seven months later. Add to this price collapse the continued high input feed costs linked to the U.S. ethanol policies, and farmers weren't earning enough on the sale of milk to cover the cost of feed, vet bills and other expenses.
"Dairy farmers who forward-priced their feed needs in 2007 did not feel the full impact of this net income squeeze until late in 2008. Having to renew their feed purchases at much higher prices, coupled with the much reduced milk price, produced severe financial hardship," said Thraen. "I'm optimistic the world economics will recover and demand will return, but probably not at the levels we saw on 2007 and 2008. That time period was a unique situation where we became a major player in the skim milk powder international markets."
Whether or not such a situation would happen again in the future, Thraen said there are a few lessons to be learned.
One is a farm management lesson.
"When you see milk prices move up quickly, you need to be prudent with what you do with that extra income. First thing you do is get your financial house in order. You don't look at it as if it's going to last because it doesn't," said Thraen. "You are going to have these boom and bust periods and during the boom periods you should follow sound financial advice, pay down debt, and build a cash-flow cushion."
The other lesson focuses on the industry.
"If the industry wants to be a part of both domestic and international markets, you need to be ready to accept more price variability. International markets are more volatile than domestic markets," said Thraen. "You have to be thinking of management strategies to implement when that international partner walks away and you are stuck with a supply with not enough demand to support it."
The U.S. government is providing some assistance to dairy farmers, including the appropriation of funds to increase the support price of cheese and non-fat dry milk and the authorization of $360 million, part of which will be distributed as emergency relief. But Thraen said that the road to recovery will be a long one.
"The difficult thing is there is really a disconnect between the cost side and the revenue side because of our ethanol policies," said Thraen. "Right now, milk prices are about $12.50 hundredweight. Prices for 2010 are projected at about $14.50 and $15.50 per hundredweight. Those are good prices when corn is $2, and soymeal is under $220. But corn prices right now are pushing $4 and soymeal is over $300 and these feed prices are anticipated to increase -- and if that trend continues, then those milk prices are just plain dismal."
Many in the industry are pushing for changes to avoid this situation in the future. Such proposals include the Holstein USA Dairy Price Stabilization program which recommends putting caps on production to prevent dairy herd expansion and limit milk supply growth. Also, there are proposals such as U.S. Senate Bill 1645 which calls for a significant change in the way the milk pricing structure is organized. Whether any of those changes will be adopted down the road remains to be seen, said Thraen.