Dairy Marketing

1
Dairy Marketing

• Dr. Roger Ginder
• Econ 338
• Fall 2007
• Lecture 15b

2
CALCULATING CCC PURCHASE PRICE FROM DERIVITIVE
PRODUCTSButter - Powder Plant(butter tilt)

• Support Price (/cwt) 10.10 ___9.90_
• Plus Make allowance (Convert cwt raw
• milk to butter and nonfat dry milk)
  1.32 ___1.32_
• _
• Total value required for 10.10 pay price 11.42
  __11.22__
• Value nonfat dry milk ___105_ (established
• by secretary)
• Yield nonfat dry milk 8.13 (/cwt milk
• established)
• Value butter Unknown
• Yield of butter 4.48 /cwt milk
• Required value for 10.10 pay price 11.42 __11.
  22__
• Less Value nonfat dry milk per cwt
  8.54 ___8.54_
• (1.05/lb x 8.13)
• Value of butter per cwt 2.88 ___2.66_
• Implicit value of butter per lb (2.78/4.48)
  .64 ___ .59_

3
CALCULATING CCC PURCHASE PRICE FROM DERIVITIVE
PRODUCTSButter-Powder Plant(nonfat dry milk
tilt)

• Support price (/cwt) 10.10 __9.90__
• Plus Make allowance (to convert milk to
  1.22 __1.22______
• butter and nonfat dry milk)
• Total value required for 10.10 11.32
  11.12
• Value butter ___.72_ (established)
• Yield of butter 4.48 per cwt milk
• Value nonfat dry milk unknown
• Yield nonfat dry milk 8.13 per cwt milk
• Required value for 10.10 pay price 11.32 __11.
  12__
• Less Value of butter (.72 x 4.48 per cwt)
  3.23 __ 3.23__
• Implicit value of nonfat dry milk per
• cwt milk 8.09 __7.89__
• Implicit value on nonfat dry milk per
• lb or (8.09/8.13 per cwt)
  .996 __.97__
• CCC will purchase nonfat dry milk _at_ .996/lb to
  provide a farm pay support price of 10.10/cwt
  for raw milk (before deductions). At 9.90 it
  would support NDM at a price of .97/ lb.

4
SUPPLY AND DEMAND EFFECTS OF CCC PURCHASES

• Supply side
• Higher prices in time of surplus dampen incentive
  for needed supply reductions
• Reduced price and income risk encourage more
  production
• Self perpetuating surplus if price held far above
  equilibrium market clearing level by very much
• Demand side
• Higher prices dampen demand for milk and milk
  products
• Tilt effects occur on butter and nonfat dry
  milk
• Dampened exports due to prices being held
  artificially high

5
THREE TYPES OF TILT

• 1. Demand tilt with an increase in support of
  one product vs. another
• One type of joint product is purchased more
  vigorously than the other product
• The other joint product is left unchanged
• The split in price effect is not distributed
  50-50
• 2. Product tilt
• Cheese is purchased more vigorously
• Butter/powder is purchased more vigorously
• Market for one type of product is affected more
  than the other
• 3. By-product tilt
• Whey solids from cheese are not counted in
  calculation by CCC
• Fluid buttermilk in butter/powder plants not
  calculated in CCC value
• Buttermilk powder in butter/powder plants not
  calculated in CCC value

6
DEMAND TILT BY CCC

• Assume CCC must raise price by 50 to maintain
  support price. It chooses to use butter and
  powder purchases to maintain the support price
  targeted.
• How much of each product will they buy?

7
ASSUME MILK EQUIVALENT VALUES FOR DERIVITIVE
MANUFACTURED PRODUCTS
Cheddar cheese 9.96 Grade A butter 0.238 (From
whey cream) Grade AA butter 4.48 (From whole
milk) Grade A NDFM 8.13 Dry buttermilk
powder 0.42
8
DEMAND TILT BY CCC

• Case 1
• 50 increase in price (no tilt)
• 25 milk fat 25 solids not fat
• 4.48 BF/cwt milk 8.13 SNF/cwt milk
• 25 ? 4.48 5.6 inc. butter 25 ? 8.13 3.0
  inc. SNF
• Case 2
• 50 increase in price (80 SNF tilt)
• 10 allocated to milk fat 40 allocated to SNF
• market market
• 4.48 BF/cwt milk 8.13 SNF/cwt milk
• 10 ? 4.48 2.2 inc. butter 40 ? 8.13 4.8
  SNF
• price price

9
DEMAND TILT BY CCC

• Case 1
• 50 increase in price (no tilt)
• ____ milk fat ____ solids not fat
• 4.48 BF/cwt milk 8.13 SNF/cwt milk
• ___ ? 4.48 __ inc. butter ___? 8.13 __
  inc. SNF
• Case 2
• 50 increase in price (80 SNF tilt)
• ___ allocated to milk fat ___ allocated to SNF
• market market
• 4.48 BF/cwt milk 8.13 SNF/cwt milk
• ___ ? 4.48 ____ inc. butter ____ ? 8.13
  ____ SNF
• price price

OHT
10
DEMAND TILT BY CCC
Case 3 50 increase in price (100 SNF tilt) 0
allocated to milk fat 50 allocated to SNF
market market 4.48 BF/cwt milk 8.13
/cwt milk 0 ? 4.48 0 increase 50 ? 8.13 6
inc. SNF No change in butter Case 4 50
increase in price (100 butter tilt) 50
allocated to milk fat 0 allocated to SNF
market market 4.48 BF/cwt milk 8.13
/cwt milk 50 ? 4.48 11.16 0 ? 8.13 0
increase increase in butter No change in
SNF price
11
Pre 2000 CCC MILK EQUIVALENT VALUES FOR
DERIVITIVE MANUFACTURED PRODUCTS
Cheddar cheese 9.8 Grade A butter 0.238 (From
whey cream) Grade AA butter 4.27 (From whole
milk) Grade A NDFM 8.07 Dry buttermilk
powder 0.42 What are the implications of these
lower yield values?
12
History of Tilts1990 Farm Bill

• Instructed Secretary of Ag. to use butter powder
  tilt to minimize government costs and authorized
  two changes in tilt per year
• Butter was in heavy surplus at the time
• Four tilts were made between 4-90 and 7-93 toward
  that end
• Butter price used in calculation was reduced from
  about 1.09 to about .65
• NDM price was increased from .79 to about 1.03
• Butter inventories began to fall

13
History of Tilts1995 2000 Farm Bills

• Both bills reauthorized the use of two tilts per
  year at the discretion of the Secretary
• Powder stocks were increasing steadily into the
  first half of 2001
• The commercial price of butter was well above the
  .65 CCC price used in the calculation
• Despite this disequilibrium no tilts were made
  until mid 2001
• By that time NDM stocks were at the 1.2 billion
  level ----80 of annual production

14
History of Tilts1995 2000 Farm Bills

• The problem was finally addressed in May of 2001
• CCC NDM purchase price of about a dollar was
  reduced to .90/lb
• CCC butter purchase price was increased from
  about .65 to about .85/lb
• A second tilt change was made in 11-02 to address
  the problem
• CCC butter price was increased to 1.05/lb.
• CCC NDM price was further reduced to .80/lb.
• These actions have begun to abate the problem,
  but significant stocks of NDM still existed for
  several years

15
Butter Support Prices, U.S.
Source Agricultural Statistics, NASS, USDA
16
Nonfat Milk Support Prices, U.S.
Source Agricultural Statistics, NASS, USDA
17
CCC RESALES

• Once purchased by CCC product may be sold back
  into the market when prices reach 110 of
  purchase (typically _at_ support)
• Occasionally this unrestricted sales authority
  is rescinded on a temporary basis
• CCC dairy surplus is also made available food
• Domestic
• Foreign
• Food programs are served only on an as
  available basis
• No targeted purchases
• Standby use only

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SUMMARY OF FEDERAL POLICY

• Over the past 25 years the government has used
  several policy instruments to conduct dairy
  policy
• Initially Price supports were used to increase
  producer income---But that caused increased
  production
• Later price supports were used to place a floor
  under the price of milk while transitioning to a
  competitive market
• Today price supports are well below the cost of
  production and represent an attempt to blunt the
  downside volatility that is inherent in a market
  for a perishable product

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Price
So
Ps
Pe
Do
Q d Q e
Quantity
Q s
Factors that can shift demand 1. Change in
tastes or preferences 2. Change in income 3.
Change in population level 4. Change in the
price of substitute or complement products
20
SUMMARY OF FEDERAL POLICY

• Over the past 25 years the government has used
  several policy instruments to conduct dairy
  policy
• Several policies attempted to reduce supply or
  shift the supply curve upward and to the left
• Across the board producer Assessments were
  instituted to hold government costs down
• Across the board diversion payments were made to
  those who reduced production
• Across the board whole herd buyouts were initiated

21
Price
S1
So
P1
Ps
Do
Q1
Quantity
Qs
Factors that can shift supply 1. New
technology 2. Changes in input costs 3. Raw
material or resource availability 4. Legal or
government program constraints on
production 5.Per Unit Production Taxes
22
SUMMARY OF FEDERAL POLICY

• Over the past 25 years the government has used
  several policy instruments to conduct dairy
  policy
• Several policies were designed to increase
  consumption of dairy products
• Free distribution policies for cheese
• Subsidized school milk program
• Promotion of dairy products financed by producers

23
Price
So
P1
Po
Do
D1
Quantity
Qo
Q1
Factors that can shift demand 1. Change in
tastes or preferences 2. Change in income 3.
Change in population level 4. Change in the
price of substitute or complement products
24
CCC PURCHASES IN MILK EQUIVALENT

• Recently (1988-2001) 1-10 billion
• Peak year 1983 18.8 billion (Approx. 14)
• Average 1949-1978 Percent of production
• 4.2 milk fat basis
• Average 1949-1978 Percent of production
• 6.4 solids basis
• More recently much less than 0.5 on a solids
  basis

25
CCC Net Removals as a Percent of Total U.S. Milk
Production(milk equivalent, milkfat basis)
Source Based on statistics from Dairy Yearbook,
ERS, 10/21/94, 6/23/95, 6/21/96 Dairy Outlook,
ERS, 8/98 Livestock, Dairy and Poultry Situation
and Outlook Report, ERS, Agricultural
Statistics, NASS
26
CCC Net Removals(milk equivalent, milkfat basis)
Source 10/21/94, 6/23/95, 6/21/96 Dairy
Outlook, ERS 8/98 Livestock, Dairy and Poultry
Situation and Outlook Report, ERS
27
SUMMARY OF FEDERAL POLICY

• Current support is a low level safety net
• Below cost for many producers
• Generally the price for manufacturing milk been
  higher than support in recent times
• Greater price volatility upside/downside has
  resulted as government retreats
• Price can fall below cash costs and force
  insolvency for marginal producers
• Some believe an over-adjustment in supply could
  result and lead to exaggerated price increases in
  future-People dont move in and out of dairy
  farming
• Others believe large low cost operations will
  fill the gap
• Legislation of higher prices will be very
  difficult in the absence of extreme conditions
• Significant structural implications and
  consequences will likely occur over the next
  decade

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PRICING APPENDIX

• THE BFP UPDATE CALCULATION IN EFFECT JULY
  1,1995---DECEMBER31,1999
• INCLUDED ONLY FOR STUDENTS INFORMATION
• WILL NOT BE INCLUDED ON ECON 338 EXAMS OR QUIZZES

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CALCULATING CCC PURCHASE PRICE - CHEESE

• Target support price /cwt 10.10/cwt ____
• (pay price)
• Plus Plant make allowance (set 1.37/cwt ____
• (by USDA) ____
• Required plant value for 11.47 ____
• cheese whey
• Less Whey cream value .15 ____
• Cheese value of 100 lbs. of 11.32 ____
• milk
• Cheese value/lb. 11.32 1.1208/lb. ------
• Per cwt ? 10.1 per cwt.
• CCC would purchase cheese when price falls below
  1.12/lb to support milk _at_ 10.10/cwt.

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BASIC FORMULA PRICE

• A slightly tweaked M-W price
• Uses M-W survey as its basis
• Updates M-W using a derivative
• Change in price of derivative products
• Weighted with the quantities of derivative
  products

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ASSUME THE FOLLOWING PRICES FOR DERITIVITE
PRODUCTS
July - August - September July Aug. Sept. Grade
AA Butter CME 2.10 2.15 2.60 Grade A Butter
CME 1.90 1.95 2.35 40 Block Cheese
CME 1.52 1.65 1.70 NDFM (Western
States) 1.09 1.10 1.18 Dry Butter Milk (Western
States) .89 .91 .94
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BASIC FORMULA PRICE CALCULATION DERIVATIVE
PRODUCTS

• April May
• Grade AA butter CME .7200 .7200 ____
• Grade A butter CME .6600 .6600 ____
• 40 block cheese NCE 1.2110 1.2113 ____
• NDFM (Western States) 1.0475 1.0464 ____
• Dry buttermilk (Western States) .8922 .8838 ____

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BASIC FORMULA PRICE CALCULATION DERIVATIVE
PRODUCTS
April May Grade AA butter CME .7200 .7200
____ NASS After 10/98 Grade A butter
CME .6600 .6600 ____ NASS After
10/98 40 block cheese NCE 1.2110 1.2113 ____
NASS After 4/98 NDFM (Western
States) .0475 1.0464 ____ CME 9/98 Dry
buttermilk (Western .8922 .8838 ____
States)
34
MFG MILK VALUE BASED ON VALUE OF DERIVATIVE
PRODUCTS

• April Values
• Cheese (9.87 x 1.2110 (.238 x
  .6600) 12.1097
• Butter/NDFM (4.27x.7200 (8.07 x 1.0475)
• (.42 x .8838) 11.9024
• May Values
• Cheese (9.87 x 1.2113) (.238 x
  .6600) 12.1126
• Butter/NDFM (4.27 x .7200)
• (8.07 x 1.0464) (.42 x .8838) 11.8900
• Butter, cheese, NDFM and whey fat yields are
  specified in regulations.

35
MFG MILK VALUE BASED ON VALUE OF DERIVATIVE
PRODUCTS
July Values Cheese (9.87 x 1.52 (.238 x
1.90) 15.4524 Butter/NDFM (4.27x2.10 (8.07
x 1.09) (.42 x .89) 18.1308 August
Values Cheese (9.87 x 1.65) (.238 x
1.95) 16.7455 Butter/NDFM (4.27 x 2.15)
(8.07 x 1.10) (.42 x .91) 18.4397 July
August Difference Cheese 15.4524 16.7455
1.2931 Butter 18.1308 18.4397 .3089
36
CALCULATE WEIGHTED AVERAGE DIFFERENCES

• Net Differences April to May
• Cheese .0029
• Butter/NDFM -.0124
• Milk
• Milk Equivalency
  Percent
• April Cheese 131,924,000/9.87 13,366,160 90.7
• NDFM 11,092,000/8.07
  1,374,473 9.3
• Total Milk Equivalents 14,740,633
  100
• .907 x .0029 0.0026
• .093 x .0124 -0.0012
• Weighted change in price 0.0017 (update value)
• Rounded to nearest whole cent 0.00

37
BASIC FORMULA PRICE

• April M-W Base Price 11.12
• Update value .00
• Basic Formula Price 11.12
• (unchanged from April)

38
MFG MILK VALUE BASED ON VALUE OF DERIVATIVE
PRODUCTS

• April Values
• Cheese (9.87 x ___) (.238 x ______) _____
• Butter/NDFM (4.27 x ____) (8.07 x ____) (.42
  x ____) ____
• May Values
• Cheese (9.87 x _____) (.238 x
  ________) _____
• Butter/NDFM (4.27 x ____) (8.07 x ____) (.42
  x ___) _____

39
MFG MILK VALUE BASED ON VALUE OF DERIVATIVE
PRODUCTS
May Values Cheese (9.87 x ___) (.238 x
______) _____ Butter/NDFM (4.27 x ____)
(8.07 x ____) (.42 x ____) ____ June
Values Cheese (9.87 x _____) (.238 x
________) _____ Butter/NDFM (4.27 x ____)
(8.07 x ____) (.42 x ___) _____
40
CALCULATE WEIGHTED AVERAGE DIFFERENCES

• Net Differences April to May
• Cheese .0029
• Butter/NDFM -.0124
• Milk
• Milk Equivalency Percent
• April Cheese 131,924,000/9.87 13,366,160 90.7
• NDFM 11,092,000/8.07
  1,374,473 9.3
• Total Milk Equivalents 14,740,633
  100
• .907 x .0029 0.0026
• .093 x .0124 -0.0012
• Weighted change in price 0.0017 (update value)
• Rounded to nearest whole cent 0.00

41
BASIC FORMULA PRICE CALCULATION DERIVATIVE
PRODUCTS

• April May June
• Grade AA butter CME .7200 .7200 .7600
• NASS After 10/98
• Grade A butter CME .6600 .6600 .7000
• NASS After 10/98
• 40 block cheese NCE 1.2110 1.2113 1.2300
• NASS After 4/98
• NDFM (Western States) 1.0475 1.0464 1.0580
• CME 9/98
• Dry buttermilk (Western .8922 .8838 .8960
• States)

42
BASIC FORMULA PRICE

• Prior month M-W base price ____
• Update value current month ____
• Basic formula price current ____