Some Issues in the Dairy Industry for 1980

By

Andrew Novakovic

February 1980 No. 80-4

SOME ISSUES IN THE DAIRY INDUSTRY FOR 1980*

by

Andrew Novakovic**

My name is Andrew Novakovic . I reside in Ithaca, New York and am employed as an Assistant Professor in Agricultural Economics at Cornell University. My primary area of interest and responsibility is in dairy marketing research. Prior to joining the faculty at Cornell, about one year ago, I was a graduate student at Purdue University. IvIy dissertation dealt with alternative price support policies, and I analyzed the consequences of increasing dairy imports in my Master's thesis . I was born in Milwaukee, Wisconsin and have lived and worked on dairy farms in Wisconsin.

My major objective in this statement is to help identify priorities for legislative concern. I also hope to acquaint you with some of the work being done at Cornell in dairy marketing and related areas. The following issues are discussed:

*

**

1. dairy price supports

2. casein imports

3. deregulation of reconstituted milk

4. milk marketing orders

5. dairy cooperatives

6. milk transportat ion

7. imitation and substitute products

8. product impr ovement and development

9. energy progr ams and dairy

10. credi.t and financing for the family farm

Statement presented before U.S. House of Representatives Dairy and Poultry Subcommittee hearing in Binghamton, New York on February 4, 1980.

Contributions to t his statement have been made by Bruce Anderson, Richa r d Aplin , a lan Forker, Robert Kalter, Eddy LaDue, Robert Story, and Loren Tauer. The opinion s expre~ sed here in are those of the author and do not necessarily r epresent the views of any other indivi dual or institution.

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Dairy Price Supports

I believe the support program has performed surprisingly well in the last 30 years. It has provided a framework for stable prices that benefit producers and consumers. There are now and always have been controversies over the appropriate support level. Producers seek higher prices. Consumers or tax­payers urge restraint in price increases or, even, elimination of supports.

In the final analysis, the only price policy that will serve producer and consumer interests alike is one which tends to equate supply with demand (or, put another way, one which minimizes USDA dairy product purchases for support purposes) .

In the past, support policy was primarily producer oriented. The Agri­cultural Act of 1933, The Agricultural Act of 1949, and subsequent support legislation emphasize producer interests over consumer interests, and income enhancement has clearly been a historical objective of price support programs. Current dairy policy retains a strong commitment t~ dairy farmers, but it is in­creasingly difficult to subjugate consumer interests. As consumers· have become more aware of dairy programs, those programs have come under stricter review by so-called consumer advocates and some agencies of the government. A recent editorial in the New York Times is but one example of the attacks on supports made by some consumer advocates (see Appendix A). Unfortunately, the errors in fact, misunderstandings, and poor grasp of the realities of the dairy in­dustry so often evident in such criticisms will not be known by most readers. Worse yet, many consumers won't care about the details. Nevertheless, those who labor outside of farming and pay taxes have a right to question why dairy prices (and incomes) are supported at all.

This is not to say that a price support program for dairy can not be de­fended or is unwarranted. There are characteristics of milk and milk markets that make a public policy of price stabilization very attractive, but a policy of price enhancement can not be supported in the long run. The record to date has been pretty good. Purchases by the USDA represent a small percentage of milk production (2% or so). Moreover, our support efforts are trifling com­pared to the price supports granted in most other major dairy producing coun­tries (in Europe). Nevertheless, we should not be content with relative success.

By its actions to keep supports at a level no lower than 80 percent of parity and to require semi-annual support adjustments, Congress sought to guarantee producers an adequate and necessary return and provide a mechanism for adjusting support levels in periods of rapid inflation. Unfortunately, these actions have also tended to limit the flexibility of the Secretary to choose supports that are consistent with market conditions.

The success of the price support program in the past has been its ability to adapt to changing market conditions and the balance of supply and demand. Even if all parties agree to the objectives of the program, there can be dif­ferences of opinion as to what criteria best fulfill the objectives. In any price forecasting there will be honest differences of opinion, but in a public

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policy setting the administrators of a suppor t pr ogram must be able to react to prices that are set too high as well as prices that are set too low.

There has been considerable discussion of late about the mechanics of setting price supports , i . e. should supports be based on parity or cost of production. Some analysts have even looked at the consequences of swi tching from a price support policy to differ ent types of policy, such as we have for feed grains. First, let me say t hat I bel ieve the objectives of our dairy policy are better s erved with price supports than any of the other suggested alternatives. Direct payments programs would pr ove t oo costly and unmanage­able if applied to dairy. With r egard to price supports, I do not believe it is particularly important what price standard is used to guide pricing deci­sions, provided there is flexibility in the system. In other words it is immaterial whether parity or cost of production is used as a guide or starting point or to establish an acceptable range of prices, if USDA has the flexi­bility to work in a wide enough range.

Some have suggested that parity is out-dated and should be replaced with cost of production, which is supposed to be more meaningful. Parity is dif­ficult to comprehend. Many of us know that it has something to do with pur­chasing power relative to 1910-14, although we are not really Slrre what that means. Unfortunately, t here are also many who try to equate parity with cost, because the prices of inputs purchased by farmers is included in the parity computations. In addition to the confusion it generates because it is so indistinct, parity has other shortcomings. It is tied to base years of questionable relevance. Being a price index, it does not account for changes in technology, etc. that improve productivity.

Cost of production does not suffer from some of these shortcomings. It is a current figure, not tied to a base year. It can reflect changes in pro­ductivity. However, it is at least as equally ill-defined as parity. This is all the more troublesome because most people will think they know what costs are just by the nature of the name . Costs for non-purchased inputs, such as family labor, management, or capital stock (equity) must be assigned somewhat arbitrarily and will be equiyocal. Moreover, while the price of purchas ed i nputs can be determined with a high degree of cer tainty, the cost of those input s can be obscured if the inputs' uses are not clearly and singularly in the dairy enterprise. For example, how does one assign the cost of fencing material between a farmer's dairy and cash crop enterprises? (This is also a problem with labor and other non-purchased inputs.)

Economists can measure cost of production as well as they can estimate purchasi ng power; The problem is that the average costs measured will prob­ably not oompare with the expectations of most farmers. For example, many farmers have argued that their costs have been steadily rising over the last several years , and farm pr ices have barely kept pace with cost. By USDA's calculations the aver age farm prices and costs of producing milk for 1974-1979 ar e as shown in Table 1 .

Table 1

Year Ave. Price of all Milk, Wholesale Cost of Production

($/cwt.)

1979 11.96* 10.53*

1978 10.58 9.53*

1977 9.72 9.70

1976 9.66 10.03

1975 8.75 9.48

197L~ 8.33 9.01

* estimated

Two things are evident from these numbers. Costs of production are esti­mated to be increasing less rapidly than milk prices, and costs exceeded prices before 1977, but prices exceed costs after 1977. If support prices had been based strictly on cost of production during the last two years, it is obvious that dairy farmers would have been overwhelmingly opposed to them.

We have long recognized that 100% of parity would lead to prices that are too high, if 100% of costs leads to prices that are too low He could surely adjust for that also. Cost of production could be used to set dairy support prices, but I see no compelling need to switch from parity now. The real issue is how close can we get price supports to reasonable market levels based on supply and demand; neither parity nor cost of production calculations are an easy way to determine that. (See Appendices B and C.)

Casein Imports

Dairy imports and price support policies are closely related. Casein, 'which is basically milk protein, is nO longer produced in the U.S. Imported casein has been used in food and animal feed and for industrial purposes. In the past, casein derivatives were used primarily as an industrial product. Recently its use as a food product has been increasing and has overtaken its other uses.

Casein can be used as a SUbstitute for nonfat dry milk, which is abundant in the U.S. The reverse is generally not true though. Because nonfat dry milk contains milk sugars as well as proteins, casein can be a superior prod­uct for protein fortification. In addition certain caseinates have emulsify­ing properties that nonfat dry milk does not have.

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Because of its desirable qualities and pr i ce relative to nonfat dry milk and its increasing use in competition with nonf at dry milk, many in the dairy industry feel that foreign casein should be subject to import quotas. Quotas are put on other dairy imports to limit the potential liability of the USDA for supporting world prices. Recent requests to the USDA to extend quota protection to casein have been denied. This seems inconsistent with price support and import policies of the past and also seems at odds with Section 22 of the Agricultural Adjustment Act of 1933. Although I am in general wary of protectionist policies and favor open international markets for imports as well as exports, I feel import quotas on casein would be consistent with past policies and are warranted.

I would also add a few caveats that I hope will be recalled when changes in dairy import policies are comtemplated. Some of the proponents of casein quotas seem to imply that casein is a poor product and not even a food or dairy product. Casein is derived from milk, and, if made properly, it is a highly nutritious protein supplement, having desirable properties as an emulsifier and because it does not contain lactose. The emphasis of U.S. policy toward casein should probably be to promote its production domestically rather than to discourage casein imports. Keep in mind that casein production in the U.S. will not revive as l ong as USDA purchase prices hold the price of nonfat dry milk above its competitive value.

One of the major reasons for putting quotas on dairy products is the fact that foreign governments of many major dairy exporting nations have subsidy programs of one sort or another that encourage milk surpluses and permit ex­porters to sell dairy products to the U.S . at a price lower than can be jus­tified by market conditions. The exception to this argument is New Zealand and Australia. Due to the climate and agronomic conditions in these Oceanic countries, they are able to produce milk for roughly one-third the U.S. price (see Appendix D). In addition, the quality of milk and milk products has been found to be at least as good there as it is in the U.S. I am hard pressed to find justification for import restrictions on dairy product s from these coun­tries. At the least, New Zealand and Australia should rece i ve some sort of preferential treatment when quotas are administered.

Deregulation of Reconstituted Milk

The questions surrounding reconstituted milk may be the most serious ones faced by the dairy industry today. Given the nature of the product and its extremely small share of beverage milk sales, most of us have viewed recon­stituted milk as a tri vial issue. The recent proposal by the Community Nutrition Institute (eNI) and others has forced us to rethink our position on deregulating reconstituted milk, and we are alarmed by what we now fear could result.

At this stage it is premat ure to estimate specific impacts. We are not reall y ffUTe what the f i nal pr oposal ( s ) wi l l be . The speed with which some in the Executive branch have been pushing deregulat i on require that a statement be made, however . The chief concern is that the proposed changes in methods for classifying and pricing beverage milk made from reconstituted milk in

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federal orders will be unmanageable and lea.d to the disintegr a tion of the federal order system . Some researchers have estimated the drops in prices and incomes that would result if reconstituted milk is deregulated and market orders could , somehow~ be preserved. The savings to conswners and losses to farmers under that scenario are minor when compared to the i mpact of t he failur e of t he mar­ket order system. I am amazed at the speed with which the review and hearing process is hurrying along? particular ly in li ght of the fac t. that so little analys i s has bee n done. In fact, there ha s been no in-depth analysis on t he cent r al quest ion of t he consequence s of deregulation on t he integrity of fed~

eral orders. GiVen t he seriousness of this concern, enough time should be allowed to examine all the ramifications of proposed changes. Attempts to explore these issues are underway at Cornell (see Appendix E).

Milk Marketing Or ders

The reconstituted milk issue r epresents just one of several recent attacks on the federal milk marketing order program . Unfortunatley , the dairy indust r Y has not been as well prep8.:ced to stave off these attacks as it could be. Dai.ry economists have devoted their research to details or aspects of order provisions; we have been concerned with fine-tuning, In the meantime, some of our col­leagues in the economics and legal professions have just di s cover e d the dairy industry and question the considerable government role in dairy market s . Recog­nizing the i mpres s ive role that market orders played in the ear lier years of the program, most dairy economists take the merit of market orders f or grant d . Those outside the dairy cornmunity ar e not so predisposed. I believe it will be necessary and in the best interests of the dairy sector to once again establi sh the case for ma.r ket order programs.

Destructive cri ticisms of f ederal order programs are not likely to di e dm-in; the cri t i cs will not go away. Hembers of the dairy sector should be pr epared to defend the f dera l order program , and the strength of t he defense must rest on 'That orders are doing t oday and ""hat they will do in t he f utur e , not on the ir succes se s o f t he past. It is my opinion t hat such a defe se can be made and supported.

I bel ieve it would be a p r opriat e for this conuni ttee to encourage and seek out r esearch 0 the federal order program. The Congress ional Budget Offi ce study on price supports is a good example of ob jective and hel pful work that can be done by that of fic e. Dobson and ~uh'ton have taken a look at fed­eral orders along the line s I have suggested. I believe addit ional work will be needed to corrobor ate past work and build on to it ,

1 W. D. Dobson and Boyd H. Buxton ~. Anal ysis of the. Effects f Federal Milk Orders on t he Economic Performance of U.S . Milk Market s. Resear ch Bulletin R2897 . Research Divi s ion of t he College of Ag icultural and Life Sciences, University of Wisconsin, October 1977 .

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Dairy Cooperatives

Cooperative bargaining by dairy farmers has been criticized by the same group that is critical of the order program. Although the specific arguments have shifted somewhat over the last few years, the general gist of them is that large, regional coops ar e monopolistic ; f eder al orders and monopolistic coops somehow perpetuate one another or work t ogether, and the Capper-Volstead laws which protect coops need to be revi sed t o permit legal action against cooper­ative monopolies.

Our first job is and has been to educate the critics and others who are still formulating an opinion on the realities of farm cooperation. One of these critics gave a seminar at Purdue University while I was a graduate student there. I was appalled to hear her say that she did not know that farm cooperatives are involved as purchasing or selling agents for farmers. She knew of coops only as lobbying agents. It is hard for those of us in agriculture to comprehend such ignorance, but it exists. To be sure many critics of coops are better informed now, but I still believe that a simple educational program would do much to strengthen the position of dairy coops.

Over-order premiums have been cited as prima facie evidence of coop monopoly power. Research into this argument by Babb et al. has concluded that payments above federal order Class I minimum prices are for the most 2 part economically justified by costs of services and spatial price patterns. Only a very small share can be attributed to unequal bargaining power between producers and processors.

The criticism of U.S. dairy cooperatives does not apply to associations operating in the Northeast. Less than 60 percent of the producers shipping milk in the New York-New Jersey Federal Marketing Order are members of coop­eratives and less than half the milk sold in the order is marketed by coop­eratives. Moreover, in the Northeast cooperative membership and the percentage of milk marketed by cooperat i ves is decreasing. Six major cooperatives and over a hundred smaller cooperatives operate in the region. The impact of a fragmented cooperative structure is illustrated by the financial health of dairy cooperatives. Several associations are or have been in financial trouble. Data indicate that in 1976 Northeast dairy cooperative had four times more long term debt than equity. For the U.S. as a whole the situ-ation was reversed - cooperatives had twice as much equity as aebt.

In the Northeast cooperative coordination and consolidation could achieve real economies that would benefit both producers and consumers. Conversely, any federal attempt to prohibit increased coordination and consolidation will have a serious and detrimental impact on the future of the dairy industry in the region. I do not have to tell this committee that cooperation is the backbone of American agriculture, espec i ally the dairy sector. But just saying so is not adequate defense. We should be able to respond directly to the charges against coops with el l researched and documented arguments.

2 E.M. Babb, D.A. Bessler, and J.W. Pheasant, Analysis of Over-Order Payments in Federal Milk Harketing Orders, Station Bulletin No. 235. Agricultural Experiment Station, Purdue University. August 1979.

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Milk Transportation

Milk requires more transportation than any other agricultural commodity. A milk truck must visit each dairy farm every other day . 'I'his fact alone make s milk hauling a very expensive operat ion . But add to that the fragmented struc­ture of milk handlers in the Northeast, realizing tha t each handler wants to control the transportation of his own milk, and one i s left with an expensive and inefficient system.

When transpor tation repre sented a small portion of the total cost of milk marketing, little attention was paid to this vital link bet ween producers and consumers . Consequently we know very little about the economics of milk haul­ing. However, as the cost of transportation increases 9 every effort must be made to improve the efficiency of milk hauling. This will require the under­standing and cooperation of every segment of the industry. Truck utilization must be increased. Routes must be consolidated . Despite its inconvenience, farmers must adapt to night pickup. Every effort must be made to move milk to the nearest available outlet. Plants must improve scheduling and reduce vehicle waiting time . Efficient milk transportation is essential for an efficient dairy industry. Efforts by cooperatives to improve the effic i ency of hauling through consolidation, federation, or other group efforts should not be frustrated . Such efforts have been made outside the Northeast, and they appear to be successful .

Imitation and Substitute Products

Gi ven the relative prices of butterf at and milk derived protein versus vegetable oils and soy protein, co~nercial f ood processors have shown interest in using SUbstitutes for milk ingredients in products intended to resemble da iry products. There is filled milk, i mitation cheese~ liquid and dry coffee whiteners, non-dairy frozen desserts, margarine, and so on. The market for these products in the home has traditionally not been strong, with the notable exception of margarine and 5 t o a lesscJ:' e)l:tent. coffee .. hi teners. Hargarine sales a n ; now about three t imes butter sales . Fithout bel i t t ling the impact of margarine . the major thl' eat to dairy sales now and in the future is the rapidly growing processed foods industry and away-from-home eating establish­ments $ part i e:ularily f ast-food ou-\.:lets . These industries operate on narrow' margins in a hi ghly competit ive environment; therefore. they are ultra-sensitive to the generally lower costs of "substitutes" for dairy products. r,'loreover, imitat ion products are much more acc eptable when their fl avors a r e masked in a frozen pizza, cheeseburger , or other fast-food products. In the case of fast­food r estaurant s consumer s will eat dairy SUbstitutes because they value t he overall conveni ence of fast - f ood and do not have the choi ce of buying a dairy shake or whatever . In cases where consumers do have a cho i ce t hey are often inhibited t o ask for a dai ry pr oduct. How many of us have gone to a family restaurant t hat had a cof f ee whitener conveniently displayed on the table but no half and half or milk was i n sight ? Usually one can ask for a dariy creamer, but many of us would rather not bother the ,.raitr ess . The fac t is dai ry sub­stitutes are cheaper than dail-y produc ts; i f they were not no one would make them. Because substitutes are cheaper , cost- conscious commercial users will have a s t r ong i ncentive to use them. and this will cut in to sales of dairy product s.

There are two things that should be done. First, the dairy industry must promote its products. Promotion efforts should include educationa~ campaigns that stress the nutritional and taste inferiority of imitations and SUbsti­tutes. They should help consumers to identify dairy substitutes and bolster the consumer ' s determination to ask for dairy products . Second, legislative and administrative effor t s must be complet ed to clearly define what is and is not a dairy product , what may be called a substitute and what should be called an imitation, and how subs t itutes and imitations should be labeled . This is not as straightforward as i t may sound. For example, t here i s a l ot of imitation process cheese that contains the same ingredients as real process cheese and contains no vegetable fats or non-mil k protein. This imitation cheese is labeled imitation because it does not meet the standards set for processed cheese, i.e. it contains too much water or not enough butterfat. While it is appropriate to distinguish l ower grades of a product, this type of imitation cheese in not an imitation in the sense that margarine imitates butter, for example. In fac t , it is somewhat ironic that many dairy sub­stitutes are in fact mostly dairy products. Filled milk for example is over 96% skim milk. At any rate it would be helpful if clear product definitions and labeling guidelines were established for the new dairy substitutes and imitations. I think we should bear in mind that many of these substitutes and imitations are decent food products not some chemical hash; there is nothing wrong with vegetable fat and soy protein. What is wrong is to permit sales of a non-dairy product to be encouraged because of the good reputation of the dairy product it looks and tastes like and masquerades as.

Product Improvement and Development

This general area probably should be listed as a third way to battle imitation dairy products. The best defense is a good offense, and improved dairy products are a major weapon against substitutes. There are still gains to be made in improving dairy products t hrough quality cont rol at the farm level and throughout the processing and ret ail sector s . Maj or gains should be sought in product development. Some of these gains will i nvol ve mor e efficient means to make the same products . Others will deal with new products. For example, one reason for the decline in dairy creru1ers was the refrigeration they required compared to non- dairy cof fee whiteners. The introduction of ultr a-high t emperature pasteurization and sterile cream has made it attrac­t ive for even t he most cost conscious restauranteurs to provide dairy creamers again . I believe we should expl or e the use of ultra-pasteurized whole milk for similar reasons. Current regulations do not permit any beverage milk to be non-refrigerated. This limits incentives to develop and market ultra­pasteurized milk. I think it is the responsibility of this committee to do what it can to el imi nate regulations which discour a ge product development. Product development l eads to new uses of milk and is necessary for an expanding, vital dairy industry.

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Energy Programs and Dairy

Energy progranls encompass a broad area. I would like to discuss just one narrow effort that is being explored at Cornelle Although it represents a very small item in the energy picture. it has i mportant implications for the da iry industr y .

The Depar tments of Agricultur al Economic s and Agricultural Engineering of Cor nell Unive s ity and the Department of Food Science and Technology of the New York State Agricultural Experiment Station at Geneva are initiating a study on the technical and economic feasibility of using agricultural feedstocks for the production of fuel grade ethanol in New York. The principal feedstock to be considered is cheese 'fhey. although other possible feedstocks include fruit and vegetable wastes, potatoes. and grapes.

The emphasis on whey to produce ethanol is timely for several reasons. First, whey production is predetermined by cheese production, which has risen 75 percent for all cheeses in New York State since 1910. As whey production far exceeds current market demand, it constitutes a major and growing disposal problem for cheese producers. Should wh~y be found to be an economic source of ethanol, a major market for undried whey may be found. Given the present alternatives for using whey and the prospects for rising fuel prices and tight supplies, we believe cheese manufacturers will find this process far preferable t o current disposal practices. Secondly~ a renewable source of a high grade liquid fuel such as ethanol would be especially welcome in energy. poor New York. Ethanol produced from agricultural feedstocks would be marketed in the form of gasohol. Third, reduced dumping of whey as a "Taste product would be welcome by environmentalists.

The use of ,·rhey to produce ethanol al so touches on casein import policy and reconstituted mUk. Whey is about 93% water, 5% sugar, and 2% protein. The sugar or lactose is consumed in the process of making ethanol. The protein can be removed before or after this process. The protein by- product "is like casein and could compete with fore ign casein . Whey has had a very low feed value because i t is relat i vely high in lactose and low in protein. Using whey to make ethanol helps to- fru itfully use the lactose but also-leaves the protein , which can be used for feed purposes.

This process may also have implications for nonfat dry milk. Nonfat dry milk has only slightly more lactose than whey, but it has over twice the pro­tein . Given that the protein component represents this primary feed or food value of nonfat dry milk, it may be attractive to use nonfat dry milk to make ethanol as well < At the least, ethanol--wh~yfacilit ies could use nonfat dry milk to balance seasonal fluctuations in the supply of whey.

At this stage ~ most of this is speculation and requires more thought and study. Neve theless I think it offers some interesting possibilities for a domestic case i n industry and increasing the use of nonfat dry milk, in addition to the tremendous potential benefit to cheese produc er s f or whey di?posal .

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Financing the Family Far m

Unfavorable weather condit ions combi ned wi th a narrow pr ice-cost spread in 1977 resulted i n cash flow problems for many dairy produeers. In response to t his situat i on t he Farmers Home Admini strati on made a massive i nfusion of Emergency Loan funds to help farmers through thi s period . Si nce 1977 more favorable mil k prices and higher cul dairy cow prices combined with average t o good weat her have provi ded improved dairy ~ arm cash flows . Although many f armers still have very high debt l evel s , most should be abl e to make their payments under t he current cash flow s i t uation. However, expenses are pro jected by the USDA and others to incr ease. Prices and/or productivity must also increase to maintain that satisf actory cash flow s i t uation.

One factor that has repeat edly disrupted the appropr iate function ing of agricultural credit markets in recent years has been state usury rate regu­lations. This is particularly t rue in New York. Whenever mar ket interest rates rise shar ply and exceed t he s t ate usuary r ate, commercial banks and other similar lenders are f orced to curtail their l ending to farmers (as well as to home owners and others), Fortunately, the Farm Credit System is exempt from state usury ceilings and has been able to provide financing to farmers during t hese high interest per i ods. However , this process is gradually ratcheting commercial banks, and other lenders limited by usury ceilings, out of ,agricultural lending .

Another factor limiting the competitiveness of commerc ial banks i s their inability to secure a source of l ong term funds for their borrowers. Banks outs ide t he Northeast can cooper ate n th with i nsurance companies or the Federal Land Banks to pr ovide total funding f or a borrower. In the Northeast, insurance companies ar e i nact ive in agriculture and the Federal Land Banks and Production Credit Associ at i ons operate as one ent ity (providing short, i nter­medi ate and long term credi t ) . Thus commerc i al banks must provide both l ong and short t e m credit in order to e ffectivel y f inance a f armer, and their limit ed abili ty to pr ovide long te m funds r estricts their ability to serve far mer s .

Eff ect ive financ ing of dairy f a rmers in the Nor theast requires that banks be made more competit i ve or , at l east , the impediments to compet ition be re­moved . While t he Farm C ~edit System doe s an outst andi ng j ob of pr oviding cre dit to f armers, t hi s effecti veness can be expected to decline i f they are placed i the monopol ·stic ol e as the sole privat e credi t suppli er to agri­culture . Thi s committee should do all i t can to insure that federal act i on to di scourage stat e usury r ate s does not expire thls Spri ng as is currently scheduled . It should also spur efforts to devel op procedur e s that would provide l ong t erm funds In suppor t of commercial bank lending to the agricultural sector.

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APPENDIX A

"The Public Iljilked Again"

New York Times

December 2, 1979

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The Public Milked Again As the commercials put it, "Milk Is a natural." But

the prtce of milk is unnaturally blgh. A maze ot quotas and tariffs, as well as health standards_ protect Ameri­can dairy farmers from low~t foreign milk products. Federal price supports insula te those same farmers from the sometimes palnlul effects of domestic compe­tition. And now. in spite of his tough talk about f1shtlna­inflation, President carter has signed a biD that will send dairy prices ever higher.

The law requires the Agriculture Department to guarantee milk producers at least 80 percent of the so­called " p8r1ty level" - an Alice-in-Wonderland con. cept based on the price ot mllk relative to other goods in 1914. There Is nothing flivolous about the impact on current living costs. With the price-support level risinB to $11.49 per bundred pounds. milk is certain to go l,lP 3 ceDts a half-gallon at the check-out counter; butter and cheese will go up about 8 cents a pound.

There Is only a dubious case for any intervention in SUPl')()rt of mUk prices. The <;A)~ has no more t$kke

NEW YORK TIMES, December 2 , 1979

In preservIna the purchasiDg power of dairy farmers than It does in maintain1DS the incomes ot pilots or pharmacists. There is every reason to believe, mo~ .. over, that a competitive market would provide all the . milk, cheese and butter that Americans want - and, if

_itdJdD't, the farmers ot New Zealand and Australia would be happy to till the gap. Even In the dairy fann­ers' own terms, this increase looks Uke llIy-gildlnB: since 1975, the cost of living has gone up 29 percent; m11k price supports have gone up 54 percent.

Why, then, did President Carter siln legislation that wtll cost consumers $1 .5 billion a year, plus as much as $200 million in Federal subsidies? Perhaps it was because dairy farmers are known to be generous to friendly Presidential candidates ; they are a partlcu- ' larly powerful political force in the upper Midwest. The President's action Is hardly beyond understand­lng. But in inflationary times, when most Americans are being asked to sacrifice, mllkln8 the public in this way Is "'ard to forgive. .)y.. ~, ~

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APPENDIX B

Andrew Novakovic, I1Price Supports, Parity Prices, and the Cost

of Producing Milk," submitted to the Jour nal of Dairy Science.

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APPENDIX C

Andrew Novakovic and Emerson Babb, An Economi c Analysis of the U.S. Dairy

Price Support Program a d Alterna.tive Policies, A.Eo Res. 79-27,

Department of Agricultural Economics, Cornell Uni versity, December 1979.

APPENDIX D

"World MiD: Prices Ranged from $3.78 to $22.07 in 1978,"

Hoard's Dairyman, January 25, 1980.

Hoard I S Dairyman, January 25, 1980

• 1978 World milk prices ranged from $3.78 to $22.07 In

I T IS incredible, but milk prices around the world in 1978 ranged from a low of $3.78 in New Zea­land to a high of $22.07 a hundred in Japan.

Information on milk prices around the world was obtained from a paper delivered by W. Krostitz, meat and milk special­ist, Commodities and Trade Divi­sion, Food and Agricultural Or­ganization, Rome, Italy. Entitled "Dairy price support policies in developed countries," the paper detailed how prices are controlled worldwide by various schemes.

As in the United States, target or support prices were common ways of guaranteeing prices to dairymen. Deficiency payments and general consumer subsidies were the second most popular way of boosting incomes. Imports were controlled in all countries, either by restricting quantities or imposing variable levies on im­ported products.

Reduce production . ..

Countries included in the study and resulting paper were Austra· lia; Austria; Canada; the nine countries of the European Eco­nomic Community (Belgium, Luxembourg, Netherlands, Den­mark, France, West Germany, Italy, Ireland and the United Kingdom); Finland; Japan; New Zealand; Norway; Sweden; Swit-

zerland and the United States. Measures to hold back milk pro­

duction in those countries includ­ed holding back monies from pro­ducers, quotas, dairy cow slaugh­ter schemes, conversion to beef, levies on grains and reduction of forage acreage.

Switzerland, with a basic price for all milk in 1978 of $19.25 per hundred, utilized the most mea­sures to cut production, including holding back money from dairy­men's paychecks, individual and global quotas, payments for con­verting to beef, levies on grains

Producer milk prices in 1978

Percent Dollars Country Type of milk fat per cwt.

New Zealand manufacturing 4.8 $ 3.78 fluid 4.8 5.75

Australia all milk 3.7 5.30

United States manufacturing 3.7 9.70 all milk 3.7 10.57

Canada manufacturing 3.6 9.51 all milk 3.6 9.95

Japan manufacturing 3.5 19.57 all milk 3.5 22.07

EEC target price for all milk 3.7 10.25

Belgium rtll milk 3.7 10.58

Denmark all milk 3.7 11.29

France all milk ,3.7 9.76

West Germany all milk 3.7 12.45

Ireland alt milk 3.7 9.68

Italy all milk 3.7 12.49

Netherlands all milk 3.7 11.62

United Kingdom all milk 3.7 8.46

Finland all milk 4.3 13.98

Spain all milk 10.15

Sweden all milk 40 15.69

Switzerland all milk 3.8 19.25

and controls on forage acreage. All countries, except Australia

and the United States, had gener­al subsidies to aid c'onsumption. As in the U.S., other countries had special milk and food. aid pro­grams to help domestic consump­tion. Others had special cheap sales and subsidies for use in feeds. Direct, or indirect, export subsidies were used by eight of the countries. ,.

I I-' --J I

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APPENDIX E

Andr ew Novakovic and Robert Story, Federal Milk Market ing Order

Provisions Regarding Reconstituted Milk: The Issues and Some

Possible Consequences of Change, A.Eo Ext. 80-1, Department

of Agricultlll'al Economics, Cornell University, January 1980.

SOME ISSUES IN THE DAIRY INDUSTRY FOR 1980

Mr. Chairman and members of the Sucommittee on Dairy and Poultry:

My name is Andrew Novakovic, assistant professor of agricultural economics,

Cornell University, specializing in dairy marketing.

My written statements cover ten topics that I think should be of interest

to you. In the time I have available I will be able to only briefly review my

written comments.

Dairy Price Supports

Determining appropriate price support levels in these recent periods of

rapid inflation has proven to be a tricky and troublesome matter. By its

actions to keep supports at a level no lower than 80 percent of parity and

to require semi-annual support adjustments, Congress sought to guarantee pro­

ducers an adequate and necessary return and provide a mechanism for adjusting

support levels in periods of rapid inflation. Unfortunately these actions have

also tended to limit the flexibility of the Secretary to choose supports that

are consistent with market conditions. I believe the success of the price

support program in the past has been its ability to adapt to changing

market conditions and the balance of supply and demand.

Current dairy policy retains a strong commitment to producers. It is no

secret to this committee that it will be increasingly difficult to subjugate

consumer interests on matters related to price. Attacks on price supports such

as that which appeared in a New York Times editorial recently are appearing

more and more frequently. This is not to say that a price support program for

dairy cannot be defended . There are characteristics of milk and milk markets

that make a public policy of price stabilization very attractive. But we must

be vigilant in seeing that our dairy policy's primary objective is price

2

stabilization not price enhanc em nt o

In the f i nal analysis 5 the only pr i ce policy that ..,.-ill serve the i n terests

of all membe s of the industry>, inc lud i ng consumers is one which t ends to e quate )

supply "ri th demand 0

l'here ha.s been considera.ble discussion of late about the mechanics of

sett i ng price suppor t s 9 pr i li1arily regarding pari ty vs. cost of product i on o

There is no qu e t i on that parity is a. di ffi cult, confu s i ng concept ; hOYlever

costs can be e qua lly con f u sing , Pr oponent s of parit ~r or cost of production have

al i gned themselv e s on the basi s o f what they expect pr ices would be under each

regime . The assumption is tha t pr i c e s uppor ts would be lOHer under a cost of

pr oduction s tandard than with pal' i yo The re is no qu st i on -cha t t he bottom

line of contr oversies over the support progr am is price;however there a.re

no inherent character i stic s of parity or cost that ecessaril :y' predetermine t he -;- ",,_, J- \"'_-{-~ .. :,

s uppor t levels to which they \ol"ould lead. For we haYe l ong r ecognized

that 100% of' parity would l e ad to prices that a re t oo high, if 100% of co s t s

leads to prices that are t oo low we could surely adjust fo r t ha t al so. Cost

o f p l""odu.c t i on could be u.sed t o set dai y s upport price s , but I s ee no compel l ing

need to s \>.ri tcb f r om parity now- . The r eal is sue i s how c l ose can we ge t pr ic e

suppor ts to r easonable market level s bas ed on supply and demand; ne i:Gher

pari ty nor cost of pro duction calculations are an easy "ray to determine t ha t 0

Cas ein I mports

Dairy imports and price support policies are closely related. The r e has

been much de'bate about 't·rhebhe r quotas s hould be e stabli shed for casein.

j\~t hough I am in general wa ry o f prot ec t ionist policie s and favor ree i nt er-

nat i on 1 market s fo Y' i mp a ts as ',rell a s e xports , I feel i mport quotas on case i n

i~'ould be consiste nt -w-j.th past pol iCies and are iorar r ant e d, .

Regarding casein in general , I believ'e e f f ort s should be made t.o encourage

cas e i n product i on in the Untted ::lt2.t es. Re ga r d i ng i mport policy in general; I

3

am hard pressed to find justification for import restrictions on dairy products

from New Zealand and Australia. I feel these countries should receive some

sort of preferential treatment when quotas are administered.

Dairy Cooperatives

I believe farmer cooperation is the backbone of American agriculture,

especially the dairy sector. Recent attempts to dismantle or emasculate dairy

co-ops are misguided.

This is particularly true in the Northeast, where dairy cooperative mem­

bership is low and declining. About half the milk sold in the Northeast is

marketed by co-ops, compared to about 80% elsewhere.

This has been a limiting factor~in reducing milk transportation costs in

the Northeast. Increased efficiency in transportation is essential but it will

only be achieved through increased consolidation or coordination between dairy

co~ops.

My written statement includes comments on: imitation and substitute

dairy products, dairy product improvement and development, using whey to produce

ethanol, and the problems state usury laws create for financing the family farm.

Unfortunately I do not have time to address these issues, but I hope that you

will have time to peruae my statement later.

In the time remaininG I would like to talk with you about the issue of

most pressing concern at this time. That is, of course, the proposed dereg­

ulation of reconstituted milk. You have already heard other statements on

reconstituted milk and you will hear many more.

At this stage it is premature to estimate specific impacts. We are not

really sure what the final proposals will be. The chief concern is that the

types of changes that have been proposed for classifying and pricing beverage

milk made from reconstituted milk will be unmanageable and lead to the disin­

tegration of the federal order system. Some researchers have estimated the

4

impact of deregulating reconstituted milk if market orders could, somehov" be

preserved. ~s.sed on their r esult s f or 1976, the average annual per 'apita

sav ings on dairy products to conS1llner s is slightly over $10 U. S . farmer s , on the

other hand , would l ose almost $1 ,200 p e year on the th a.verage. Nel-T York's

1 7 ,000 fa rmers would 10 e about $2,200 per year on the a verage ,

If the market order system cannot survive under t e type of deregula i n

be i ng pr oposed, t hese estimated far m i ncome l osses ... dl l pr obabl y seem min r.

11oI'eover it is highly unlikely t ha t conswner s vould be better of. WE; canno t

be certain "W hat an unregulated mar ketplace 0 mill{ ''''auld result i n. ut there

is good reason to believe t ha t pr ice i nstability vould inc ea se and it ~oul d t ake

a hi glLr price to bring f orth an equal supply of milk. Although prices might .!' , \

drop in the short run , they could likely r i se i n the l ong run. A ta.bl e~

or de l y economi c lwi onment or mil k mttl'ket s is essent· al . 'I'he federal order

system has pr,)vided that t:lpe of envi r onment. Although it is app opri ate t o

chal l enge f€!d 1'a1 or der pcd. ici.es that a f f ect competing interest , the e is

no strong evidence to suggest tha t lregul t ed dair y markets "Would perfoJ. m better

t han the current system . If the fed eral order s stem i s i ndeed endangered by

t h proposed deregnlat ion a r econst i tuted milk it is i n the interests of producers

an: CO nSWllel'S not ·to pr oceed t 0 ha-t ily on this l ssue . Fllr the ' resea ch is

required on the 'luestion of dere ,ulat i nr: recon8ti1~uted milk and on the larger

qest ion of t he benefi t s of f ederal mi lk marketing orders. I and my col leagues

at Cortlell are pr oc eedi ng with t his t ype f e search . but we l ave onl y begun.

Thank you .