Archive -- Butter Prices Surge Under DEIP Activity

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Economics with Ken Bailey
By Ken Bailey
University of Missouri-Columbia
Extension Dairy Economist

Butter Prices Surge Under DEIP Activity
Pressure is building in America's heartland as dairy farmers everywhere continue to face low milk prices. After milk check deductions there has not been much left for many dairy farmers to cash flow. In the short term, good weather and forage has helped milk production per cow to rebound from previous year levels. But low milk prices is the problem now and many farmers are pointing fingers.

But dairy commodity prices are beginning to improve. Cheese prices have risen over 20 cents per pound in the last few weeks to $1.39 per pound. That will raise the Basic Formula Price (BFP) and help raise farm-gate prices.

The dairy industry appears to be a lesson in strange economics. Milk prices have been terribly low, yet cow numbers have expanded in recent months. And wholesale milk and cheese prices have been a bargain in the face of a very good economy. Yet milk and dairy product consumption have been off the first six months of the year, causing most of the milk price problem. According to USDA, commercial disappearance during the months January - May were down 8.6 percent for butter, 18.6 percent for nonfat dry milk, and 0.5 percent for fluid milk. Just during March - May, commercial disappearance of American cheese was down 2.8 percent. Our simple economic models don't appear to be working very well!

Milk Production
Milk production continues to increase over year ago levels. July milk production in 20 major states totaled 11.5 billion pounds, up 4.8 percent ahead of these same states in July 1996. June revised production was at 11.4 billion pounds, up 4.4 percent from June 1996.

Production per cow in the 20 major states in July averaged 1,480 pounds, up 80 pounds from a year ago. And the number of cows on farms in July was 7.75 million head, down 68,000 head from a year ago but up 9,000 head from the month before. This is the third consecutive monthly increase in cow numbers.
Most of this increase is occurring in the West and in some select Cornbelt states. July milk production was up 19.9 percent in Arizona, 9.2 percent in New Mexico, 8.7 percent in Idaho, and 8.2 percent in California. Florida is buying less milk these days with production up 7.3 percent from a year ago. And Iowa, Ohio, and Indiana are also doing well with production up 5.9, 5.6, 4.6 percent, respectively.

In the West and Florida, a combination of higher cow numbers and improved milk per cow explains the production increases. In the Cornbelt, cow numbers declined, but were more than offset by higher production per cow.

Dairy Commodities
The cheese market has been showing strength in recent weeks, advancing over 20 cents per pound over a 5-week period to $1.39 for 40-pound blocks. Production of American cheese in June was up 2.4 percent relative to a year ago to 294.9 million pounds. Stocks of American cheese in cold storage at the end of July were up 16.8 percent over a year ago to 464.4 million pounds. And commercial disappearance during Mach through May this year was down 2.8 percent. My projections for American cheese are that consumption and production for the rest of the year may be up slightly over a year ago (1-2 percent), but stocks will be well ahead of last year's levels (10-18 percent each month).

So why did cheese prices strengthen? The answer may be that demand for fresh cheese (as opposed to older cheese in inventory) is correlated with the milk supply. Even though the milk supply is up over a year ago, demand for fluid milk will go up with more kids in school. So, less will be available for processing. Thus buyers jumped into the market to buy for fall needs. So much for supply and demand.

The futures market for cheese suggests that prices will peak in August and then decline slightly in the fall. Settlement prices for cheddar at the Coffee, Sugar and Cocoa Exchange (CSCE) on August 21 were 138 for August delivery, 134 for October delivery, and 127.5 for December delivery.

The butter market seems to be reflecting a shortage, I think! According to USDA butter production in June was up 9.7 percent from a year ago to 79.8 million pounds. That makes sense since more milk is being used to make butter in reaction to higher prices. What doesn't make sense is that USDA also reported that butter consumption during March - May was down 11 percent and that stocks in cold storage at the end of July was up 97 percent!

Very little butter was in cold storage last year because of the high milk prices. But 68.3 million pounds of butter was in commercial cold storage in 1995 and another 21.2 million in government warehouses. So, we really do have much less butter around this year over 1995.

Milk Prices
Higher butter and cheese prices are slowly translating into higher milk prices. The July BFP increased a modest 12 cents to $10.86 per cwt. Block cheese prices in July advanced just 1.84 cents per pound to $1.1767. So some analysts expected a BFP increase of 18 cents per pound. We are seeing a slight lag in the system due to the adjustment in commodity prices relative to the base month price (June) and the new national cheese price survey. It's the new survey that has resulted in a slight lag since it leaves off an extra week.

My expectations are that the BFP will rise to $12 in August and peak at $12.58 in October. Thereafter it will fall to $11.80 or less in December. These numbers are supported by the BFP futures contract traded at the CSCE. The BFP futures contracts on August 21, 1997 settled at $11.95 per cwt for August, $12.35 for September, $12.58 for October, $12.15 for November, and $11.83 for December.

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