TheDairySite.com - news, features, articles and disease information for the dairy industry

Featured Articles

The Uncertain Times of Australian Dairy

07 March 2009

Dairy Australia

Despite Australian Dairy farmers had prepared to see their profits slide in the global recession, new situations have materialised which have shook their confidence in the sector, report Dairy Australia in this Situation and Outlook Update.

The Australian dairy industry in January 2009

The sudden deterioration in the world economy has prompted almost unprecedented step downs in farmgate prices.

The average 12 per cent reduction in this year's opening prices - an estimated 27 per cent fall from last year-s record full year return - is the first since 1973.

It indicates the extent and seriousness of the rapid reversal in international dairy commodity prices, and the profound alteration in market outlook. The move, affecting around 60 per cent of farmers, followed similar announcements in New Zealand.

While farmers were preparing for lower prices in 2009-10, the unexpected reduction in previously committed prices for this season has shaken the confidence of the Australian dairy farming sector.

Australian Dairy Supply Chain

Declining input prices should provide some protection for farmer margins. However, these falls have not been as immediate or dramatic as cuts to milk price.

Given many dairy producers have already committed to purchases at higher prices for the current season, cashflow management will be challenging for much of 2009.

The rapid downturn in the international dairy market mirrors falls in many commodities, as the global economy slides rapidly into recession.

Struggling global financial markets and restricted access to trade finance have constrained trade, and prompted an increase in supplier inventories as cautious buyers meet only their immediate needs.

While it was hoped China and the Asian regions would maintain reasonable growth levels and demand, their slowing export sectors may impact on dairy consumption, and slow commercial supply lines.

Declining substitute prices are also impacting on demand for dairy products, as end users seek to lower costs and protect margins.

Fig 1: Spot export prices Dec 2002 to 2008

At this stage, the impact on final consumer demand in key export markets remains unclear. Short term delivery prices for WMP sold on globalDairyTrade platform increased 1.3 per cent in January, and Japan SMP import tenders indicate that some buyers were becoming short of product, and that the rate of price decline may be slowing.

The EU.s reinstatement of export subsidies, however, is a blow to the international price outlook.

Perhaps more significantly, it marks a deviation on the EU's path to policy reform. The EU move could also open the door for similar action from the US, where government stockpiling has already begun, as prices fall to support levels.

The build up in product inventories, and worsening economic conditions are expected to weigh on the market for at least 12 months. Lower dairy commodity prices may encourage buyers back into the market, and gradually reduce global inventories.

Global demand

In Australia the gap between export-exposed southern farmgate milk prices, and those paid in domestic market-focussed northern regions, will expand significantly over the remainder of the 2008-09 season.

In fresh milk regions, contracted prices for 2008-09 are up 10 per cent as processors seek to shore up regional supplies. Domestic market exposure and current contract obligations would imply that these prices will hold for the current season. However they could come under pressure when contracts are renewed.

With most farmers committed to the current season, Dairy Australia's forecast for 2008-09 milk production remains at 9.3 billion litres - up 1 per cent. While production to December was up an estimated 2.5 per cent, late season pricing will provide little incentive for farmers to feed to support production into autumn.

As dairy farmers in exporting regions and Western Australia come to terms with price cuts, the focus is inevitably shifting to the prospects for 2009-10.

Fig 2: Indicative Victorian Farmgate Prices
($ / kg milksolids)

While commodity prices may be close to bottoming, a key determinant of export returns will be the relative strength of the Australian dollar. The volatility of the currency, and the economic environment, has seen significant divergence in outlooks from the major banks from 60 to 80 US cents by the end of 2009.

Two key risks to the international price outlook are whether the Chinese government is able to sustain growth, and if the US slides further into recession. Should the global economic situation worsen, dairy commodity prices could slide further, as increased unemployment reduces incomes, and dairy consumption. Lower prices, combined with an exchange rate at the higher end of the above range would further reduce farmgate prices in 2009-10.

On the other hand, if China can maintain growth rates, and the US and EU economies stabilise; the EU Commission applies only modest subsidies, and production in the northern hemisphere slows as expected, commodity prices could stabilise. Coupled with a lower dollar, this would mean similar farmgate prices for 2009-10 in southern Australia. With input prices continuing to ease, this could deliver a reasonable margin for farmers next season.

Amid the uncertainty surrounding the international market, dairy companies are likely to be conservative in announcing opening prices.

Exporting companies will be better placed to take advantage of a lower Australian dollar into the 2009-10, as hedges are washed out.

At this stage, the final result for 2009-10 farmgate prices could go either way.

Good news

  • Dairy Australia believes that full year production in Australia 2008/09 likely to be up 1 per cent to around 9.3 billion litres.
  • The RBA has unwound almost 7 years of interest rate rises in just 4 months, but financing costs still high with greater debt loading.
  • AUD has depreciated significantly since peaking in July 2008.
  • Prices of feed grain, fuel & fertiliser are starting to ease.
  • Slower economic growth has reduced inflationary pressure on food prices in key markets.
  • Recent strong milk supply growth in North and South America is being restricted by reduced profit margins.

Bad news

  • The unprecedented fall in dairy commodity prices in world markets has now flowed back to farmgate prices.
  • Major world economies are slowing or in recession, and may take some time to recover.
  • It is likely that the US will follow the EU lead and reintroduce export subsidies for milk powder.
  • Growing levels of commercial and government stockpiles are fuelling concerns over longer-term impact on market sentiment.
  • Trade flows have been disrupted by buyers. inability to obtain credit, and unwillingness to lock in longer term contracts.
  • A WTO deal pre-2010 unlikely, so there is no pressure

Key questions

  • Will offsetting falls in input prices be sufficient to buffer farmer margins?
  • How severely has farmer confidence been undermined, and future investment curtailed?
  • When will the credit crunch ease, and how will banks deal with the altered circumstances of their clients?
  • What is the actual level of demand and commercial stocks globally?
  • How will the EU and US dispose of surplus stocks, and how long will this take?
  • Will the various stimulus packages succeed, where will funds be targeted, and what is the longer-term impact of governments operating substantial budget deficits to finance their implementation?
  • What is the future trend in crude oil prices, and what does this mean for the relative price of biofuels and their feedstocks?

Issues to look out for

  • Uncertainty in trade and climate policy direction: 2009 will see a new administration in US, general elections in India in May, new parliamentary elections in Europe in June and a possible new Kyoto agreement in November.
  • The Chinese governments. policy response to slowing economic growth and rising unemployment levels.
  • Uncertainty around the impact on agriculture from Australia.s proposed CPRS, which will commence in 2010 (see box, page 15). on the EU & US to reform and abolish export subsidies.

Further Reading

- You can view the full report by clicking here.

March 2009

Partners


Seasonal Picks

Managing Pig Health: A Reference for the Farm - 2nd Edition