Every dairy farm family in Ohio and the Federal Order 33 marketing area should be concerned where the federal order’s pool dollars are going.
In fact, it should concern each person who relies on the economic health of the dairy economy in the Mideast Federal Order 33 for his own economic well-being.
First, some preliminary background – short (as I can make it) and to the point.
I am using published data from the Federal Milk Market Order 33 administrator’s office and freely available at the Federal Order 33 Web site. I am also making a number of calculation that are approximations and are not official numbers from the Federal Order 33 reports.
Pricing background.
Q: I have been told that dollars in my milk check are made up of two primary parts, is this correct?
A: Yes. In the Mideast Federal Order 33 (and other orders that value milk on a component basis) milk products distributed throughout the geographic area defined as the Mideast order, take on additional value because of the classified pricing system – pricing milk by how it is used by consumers.
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 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 we can ignore because they are relatively small net adjustments).
To reach this $2.071 billion, the amount of milk “pooled” on the Mideast federal order was 16.761 billion pounds. Now, my elementary arithmetic tells me that, on a hundredweight basis, each dairy farmer’s share of this pool value comes to $12.76.
The aggregate value of the milk components was 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 out of a total market value of $2.071 billion.
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, on a hundredweight basis, across all producers whose milk was included in the pool. This amounts to dividing $381.7 million by 16.761 billion pounds of milk.
Again my elementary arithmetic shows me that this comes out to $2.28 per hundredweight. This dollar amount is what the federal order terms the Producer Price Differential (again ignoring some minor adjustments).
If we take the total pool value of $12.76 and subtract the Producer Price Differential of $2.28, 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) $2.27 as payment for his or her share of the “producer pool value” in excess of the component value.
This general two-part payment is applies for each of the seven federal orders that pay producers on a component basis.
Stop reading.
Now before reading further, go back and read this information one more time because understanding this arithmetic is critical to understanding why your milk check is under attack.
Q: OK, I understand the two sources of revenue that make up my milk check. Please explain how my milk check is under attack?
A: I thought you would never ask! The answer has both a simple explanation and a complex explanation. I will stick with the simple explanation.
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 components and this is expressed on a hundredweight of milk.
Pool parties.
This same statement cannot be made for the excess pool value part our 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 of the 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, that had 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.
For any given amount of milk that is pooled on a federal order, the greater the excess pool value and the higher will be the Producer Price Differential that is paid out to each dairy farmer who qualifies to be part of the pool.
Pool riding.
If a producer or his representative can find a way to get milk priced on one federal order that has a large excess value rather than on his own federal order that has a small excess value, then some of the higher Producer Price Differential revenue can be bled off and returned to these producers.
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 order’s 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.”
Raiders move in.
Q: 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?
A: That is a very good question and I have put together some numbers in Table 1 that show the magnitude and importance of the problem here in the Mideast Federal Order.
The table illustrates 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 used the period September of 2000 through February 2001 because this is when I believe pool riding became “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 percent to 52 percent and Class III at 22 percent to 24 percent.
Losing big bucks.
As you can see, back in September of 2000, as new milk and new producers 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 hundredweight in November of 2000. The average for this six-month period amounts to $0.60 per hundredweight.
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!
No easy solution.
Q: I can now clearly see that our milk check is under attack. What can I do about it?
A: 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 hundredweight in February that the process is ending. This is definitely not the situation.
As the volume of milk that is attached to the Mideast order in Class III solely for the purpose of extracting money from the excess revenue pool increases, the total value of the pool declines and therefore so does the “hit” to producers.
As long as the difference between our Producer Price Differential and that of other orders with high Class III use and low Class III prices remains large, 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 getting action. The best recourse at this point is to contact the Federal Order 33 market administrator office in Cleveland at 440-826-3220 for more information on this issue and what steps can be taken to address the problem.
(The author is a dairy marketing and policy state specialist with Ohio State University Extension. Questions or comments can be sent in care of Farm and Dairy, P.O. Box 38, Salem, OH 44460; or via e-mail at editorial@farmanddairy.com.)
