OSU Extension State Specialist, Marketing and Policy
In this column I am going to address an issue that should be of concern to every dairy farm family in Ohio and the Federal Order 33 marketing area. In fact it should be a great concern to each person who relies on the economic health of the dairy economy in the Mideast Federal Order 33 for their own economic well-being! First, some preliminary background short (as I can make it) and to the point. In this article I am using published data from the Federal Milk Market Order 33 Administrator Office and freely available at the Federal Order 33 internet website. I am also making a number of calculations that are approximations and are not official numbers from the Federal Order 33 reports.
Question: I have been told that dollars in my milk check are made up of two primary parts, is this correct?
Yes, this is so. In the Mideast Federal Order 33 (and those that value milk on a component basis) milk products distributed throughout the Mideast geographic take on additional value because of the classified pricing system pricing milk by how it is used by consumers Class I and Class II. This value exceeds the value of the milk in its direct component form, valuing milk by how much butterfat, protein and other solids it contains. For example, over the 14 months of January 2000 through February of 2001, the aggregate value of this "pooled" milk was $2.071 billion. Federal order language specifies that this value must be paid back to producers (after some adjustments which I will ignore because they are relatively small net adjustments). To reach this $2.071 billion dollars the amount of milk "pooled" on the Mideast Federal Order was 16.761 billion pounds or $12.76 per hundredweight. The aggregate value of the milk components shipped by dairy farmers to the Mideast Federal Order was $1.690 billion. Now the way the Federal Order accounting system works is that dairy producers (or their representatives such as Cooperatives) are paid directly for the value of the components. They are paid the $1.690 billion dollars out of a total market value of $2.071 billion dollars. This leaves an excess value (your classified pricing system at work) of $381.7 million, over and above the component value, to be divided equally across all milk in the Mideast pool. This amounts to dividing $381.7 million by 16.761 billion pounds of milk - $2.28 per hundredweight. This dollar amount is what the Federal Order terms the Producer Price Differential (again ignoring some minor adjustments). Now if we take the total pool value of $12.76 and subtract the Producer Price Differential of $2.28 we can determine that the average component value in the Mideast Federal Order 33 over this period has been $10.48. The average dairy farmer whose milk is eligible for pricing under the Federal Order provisions therefore has received his or her revenue from two sources (1) $10.48 as payment for the components that were produced and shipped and (2) $2.28 as payment for his or her share of the "producer pool value" in excess of the component value. Now before reading on, go back and read this paragraph one more time because understanding this arithmetic is critical to understanding why your milk check is under attack!
Question: OK, I understand the two sources of revenue that make-up my milk check. Now please explain how my milk check is under attack?
I thought you would never ask! As a producer of milk components you are paid directly for each pound of component that you produce and ship to market. The aggregate price you receive is determined by the pricing rules of the Federal Order system and these rules are the same and hold for every producer in each of the component-based federal orders. The total revenue you receive in each monthly milk check, for your components, is the product of the announced rate per pound and the total pounds that you ship to market. This revenue is unassailable by anyone in the market and only increases or declines as either you ship (planned or otherwise) more or less product and/or the market valuation for each of the components varies. Each dairy farmer is paid in exactly the same manner for their total value of their components expressed per hundredweight of milk. If, as a producer, you shipped precisely a standard composition of milk components, the value would be the Class III milk price. This same statement cannot be made for the excess pool value part of your milk check. The size of this revenue pie is determined by how the milk is used after it goes to the plant and is distributed throughout the Federal Order marketing area. This is unique (or used to be) to each Federal Order marketing area. A general rule is that the more milk that is sent out to consumers as Class I or II product, relative to Class III or IV product, the greater the excess pool value. Therefore, those Federal Orders, such as the Mideast Order, with a higher Class I use will have a greater excess pool value than with another Federal Order (such as the Upper Midwest) that has a much lower Class I use.
Question: How does what you just explained put my milk check dollars at risk?
For any given amount of milk that is pooled on a Federal Order, the greater the excess pool value, then the Producer Price Differential that is paid out to each dairy farmer will be higher. If a producer or their representative can find a way to get milk priced on one Federal Order which has a large excess value rather than on their own Federal Order which has a small excess value, then some of the higher Producer Price Differential revenue can be bled off and returned to these producers or representatives. This process lowers the Producer Price Differential in one Federal Order (ours) and raises it in another. The only thing that prevents this from happening are provisions within each Federal Orders rules, and unfortunately in Federal Order 33 these rules are not much of a deterrent. Qualifying milk that is not actually needed to satisfy consumer demand on a higher valued Order without actually moving all of the milk is called pool-riding.
Question: I have heard that in the Mideast Federal Order we are a deficit milk producing area. Don't we need this extra milk to satisfy consumer demand?
We may be a deficit producing area but this is not remedied by pool riding. In pool riding, very little, to almost none of the milk actually arrives in Federal Order 33. In fact, just about all of the milk continues to go to its normal buyers outside of the Mideast Federal Order. The total quantity of new milk only appears to be coming here solely for the purpose of being counted when it comes time to divide up the excess revenue pool.
Question: I think I understand what you are discussing but, how much money are we talking about? Is this really important to my dairy farm income?
That is a very good question and I have put together some numbers that will show you the magnitude and importance of the problem here in the Mideast Federal Order. In Table 1, I will show this and illustrate the size of the Producer Price Differential with pool-riding and without pool-riding and the cost to you in terms of lost revenue on a hundredweight basis. I will take the period September of 2000 through February 2001. I have selected these months because this is when I believe pool-riding has become "pool-raiding" in the Mideast Order. I have put the Class I and Class III utilization in the table to demonstrate that the Mideast Market is now pricing more lower valued Class III milk than Class I milk. Normal use rates would show Class I at 48% - 52% and Class III at 22%-from outside the normal supply area for the Mideast Market Area qualified for "our" pool revenues, you gave away $0.26 per hundredweight to those outside producers or their representatives. By my calculations this increased to $0.85 per cwt. in November of 2000. The average for this six-month time period amounts to $0.60 per cwt. This is revenue that should have stayed in your pocket but was siphoned off to the pockets of producers in areas that do not normally share in your Mideast Area revenue pool. The aggregate cost to producers just in Ohio, based on the reported volume of milk pooled for these six months, is approximately $10 million dollars and will continue to increase! By my estimates the accumulated dollar loss to all non-pool-riding milk producers in the Mideast Market Area is $36.4 million dollars and increasing each month!
Question: I can now clearly see that our milk check is under attack. What can I do about it?
Unfortunately, in the short term there is really nothing that you can do to stop the flow of dollars out of your Mideast order. You may be tempted after looking at the numbers in the last column of the table to conclude that because the amount is declining and only $0.55 per cwt. in February that the process is ending. This is definitely not the situation. As long as extra milk is attached to the Mideast Order solely for the purpose of extracting some of the excess revenue pool, the net result is a reduction in the blend price paid to Mideast producers. As long as our Producer Price Differential remains relatively large compared to the other orders (i.e. those orders with high class III and low class I utilization) then this process will continue to bleed dollars from our Federal Order. The Federal Order language spells out clearly what can be done about this and how to go about making necessary modifications to the Mideast Federal Order. For more information on this issue and what steps can be taken to address the problem, contact the Federal Order 33 Market Administrator Office in Cleveland, Ohio at 440-826-3220 . You can also contact the USDA / Agricultural Marketing Service, Dairy Programs, Richard McKee at 202-720-4392 or email:
Table 1. Milk Pooled, Calculated Pool-riding and PPD in Federal Order 33.
|Total Milk Pooled||Total Milk Riding the Pool||Class I and Class III Utilization in Order 33||
Producer Price Differential*
|Producer Price Differential without Pool Raiding #||Loss of Revenue as a result of Pool Raiding|
|Billion lbs.||Millions lbs.||Percent||Dollars/cwt.||Dollars/cwt.||Dollars/cwt.|
* These are not the same as those reported by the Federal Order Administrator Reports because I have not taken into account a number of adjustments and so these are gross amounts. They are however very close to the reported numbers and can be used to get a good estimate of the dollars.
# These numbers are my calculations and are not official numbers from the Mideast Federal Milk Market Administrators Office. They will be very close to actual numbers.