Monday, April 14, 2014

Sticky Production - Agriculture's Version of Sticky Wages?

"Last time we were asked to feed the world, everyone planted more until 1985, when they continued to plant more, even though the market told them not too. We don't do a very good job responding to when the market tells us not to plant." Cal Whewell, 
FC Stone Risk Management Consultant

Since hearing this comment at the Grain Farmers of Ontario March Classic, I have been unable to shake it from my consciousness. It speaks so much to the traditional character of farmers, hanging onto the hope of a price rally and committed to production growth even when the invisible hand of the market wants anything but. In some ways, it is like the economist's sticky wage theory. When economies slow down, and unemployment is high, employers are unable to reduce employee wages despite excess available labour, whereas during boom times, competition for labour often drives prices up. In agriculture, we are easily coerced into producing more, yet scaling back is much more difficult. 

In the '80's, the U.S. government ended up introducing the Conservation Reserve Program, essentially paying producers to take acres out of production and stop the plunge. The signals Whewell spoke of today were not only falling new crop corn prices, but also the ongoing strength of wheat and soybean contracts. I believe he could have just as easily been talking about dairy producers. 

With the future of our Canadian supply management system at risk, I am intrigued by the latest market explosion playing out south of the border. The fundamentals of record high prices, record exports and low feed prices are returning profits to a sector which was devastated only a few years ago when prices collapsed in 2009. 
Source: IFCN Milk Price Indicator
The run up in prices has little to do with American dairy consumption, and is more so due to strong global demand, particularly from China, which is driving the world milk price to new heights. U.S. dairies are responding by expanding their herds and ramping up production, partially through imported Canadian heifers, as anyone who has been to a sale barn lately will testify. 

For me, this raises some questions. First and most importantly, with this strong demand and world prices nearing $60/100 kg, how much market are Canadian farmers missing? Also, how reliable is the long-term forecast for this market and will this above-average pricing hold? It didn't in the corn markets, despite the "feed the 9 billion" security blanket. The past two months, the price has already softened (Global Dairy Trade). Developing nation demand for dairy products is growing a rate double that of the OECD nations (OECD FAO Ag Outlook Highlights, 2013), but we are talking about nations where food still costs more than 1/3 of an individuals' income and the number malnourished is alarmingly high. 
Source: Washington State Magazine 
Supply and demand theory would dictate prices will fall as production is increased. I believe this will be the case, because as Whewell states, farmers have proven illogical in responding to market signals when its time to reduce production. Only time will tell if American farmers learned from the last crash and will slow production soon enough to avoid a similar fate. The removal of dairy price supports from the farm bill leaves producers with a margin insurance program, instead of the highly contested and overturned market stabilization program which would curb production during trough periods (supply management). 

Though not hoped for, it is likely the Margin Protection Program will prove its effectiveness soon enough, and we will have to ask ourselves if not supply management, are these the types of programs we can expect? Without external interruption, will Canadian producers withhold production in low times any more than our American counterparts? The next generation of producers is armed with degrees, and marketing know-how, but somehow I doubt the voice of austerity will prevail anymore north of the border. Dairy farmers will produce more milk, because that is what farmers want to do.

No comments:

Post a Comment