How will US Dairy Exports Deal with Drought?

US - US dairy suppliers will be tested next year, as drought diminishes milk supply and ag production around the world, according to the US Dairy Export Council.
calendar icon 17 October 2012
clock icon 3 minute read

As of October 2, 40 per cent of the contiguous United States was classified as being in “severe” drought or worse. As bad as that number sounds, it hadn’t been that low since early July.

The United States remains mired in the worst drought since the 1930s and it is having a momentous impact on the US and global food industries.

Monthly US milk production fell 0.3 per cent in August (compared to August 2011), the first decline since January 2010 and directly attributable to drought. USDEC projects milk output will drop 0.3 per cent for the remaining four months of the year and remain in the red through at least the first quarter of 2013, with costs squeezing margins and discouraging expansion.

The decline will hit US milk powder and butter the hardest. USDEC estimates nonfat dry milk/skim milk powder (NDM/ SMP) production will drop 8-10 per cent over the next 12 months, which equates to about 90,000 tons.

“That could significantly impact US milk powder exports— our largest volume product after whey proteins,” says Alan Levitt, USDEC vice president, communications and market analysis.

“We estimate about half—45,000 tons—could come from volumes earmarked for the world market, but the extent to which suppliers pull back from exports largely depends on price movements and the strategic position world markets occupy at individual companies.”

US NDM/SMP price indices as of late September were nearly at parity with Oceania spot prices—a rare occurrence for the usually lower-priced US product and a blow to US competitiveness.

Cheese supplies are expected to be sufficient, but pricing also poses a challenge. Since early 2006, US cheddar prices had only been above Oceania spot prices for a handful of weeks. Since July, however, the tables have turned, putting the United States at a cost disadvantage. US suppliers will be challenged to maintain share and volume should conditions hold.

Demand steady to rising . . . for now

The good news is that the fundamentals behind the long-term rise in global dairy consumption remain in place. Emerging market demand has been strong, despite slowing economic growth in key Asian markets.

But whether demand growth continues at a strong pace into 2013 is another story. Severe weather has stunted agricultural production in a number of regions, suggesting the world is due for another run-up in food prices that could erode consumer purchasing power, particularly in developing countries where a large proportion of income is spent on food.

Downside risks, like a deepening of the European debt crisis, could heighten the situation.

That does not necessarily portend a major demand pullback. The Food Price Index from the UN Food and Agriculture Organization grew 8 per cent from June- September, yet demand held.

“Recent history has shown that emerging market consumers appear willing and able to maintain dairy consumption levels at relatively higher costs,” says Marc Beck, USDEC executive vice president, strategy and insights. “With supply short and the price gap far thinner than normal, the United States could lose share of global NDM/SMP. But strong developing world demand, constrained supplies out of Europe and the prominent position the United States holds in global NDM/SMP trade—30 per cent of the market—suggests we will remain a significant player.”

How the United States ultimately recovers from the drought will heavily depend on when normal weather returns. USDEC expects US milk output to bounce back in 2014 and 2015 with gains of 2.1 per cent and 1.8 per cent, respectively.

“US processors and producers have received the message that if US dairy is to continue growing at a healthy pace it must be an eager, active and committed player in international markets,” says Mr Levitt. “Rising US production is dependent on demand from outside our borders and to capitalize on that potential, we must face the challenges that come with serving that market, including the challenges caused by drought.”

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