The step-up myth

Dec 7, 2020 | Making news

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There has been a flurry of complaint in the ag media recently about the delay in the payment of a milk price step-up in the current Australian milk production season which runs to the end of June 2021.

Step-ups are a milk payment increase, usually announced once the season is well underway and typically paid as a full season uplift in base milk pay rates. Step-ups have been paid in most seasons, and in some seasons, there have been a number of increments paid by each of the major dairy companies.

They have typically paid by manufacturers when the returns from dairy commodity markets improve over the season above the expectations at the start of the year (usually in June) when “opening prices” are declared. It is true that the typical practice by large manufacturers (Murray Goulburn, Fonterra, Warrnambool Cheese & Butter, Bega Cheese) was to declare opening prices at 85-90% of their expected full year milk payouts and hold the remainder back as a buffer for market  and production swings.

Now we’re in a vastly different industry that has stopped growing milk supply, there is stiff competition for milk, exports represent less than a third of milk output, there are no large farmer owned dairy companies and a strict code of conduct regulates the structure of milk contracts and pricing announcements.

This puts a much stronger discipline on milk pricing signals and announcements, including the estimates of full year payouts. With the increased visibility as to what’s offered in milk price arrangements, those estimates were full when announced in early June – in the midst of a one in 100-year global pandemic!

But the dairy market (and implied value of raw milk) doesn’t always rise after season opening to ensure that uplifts in payouts are affordable. The value of milk available from commodity markets has weakened significantly since milk price estimates and agreements were announced.

Our benchmark spot commodity value of milk or CMV (as shown here and tracked weekly on our site) has weakened from close to $5.90/kgms in late May to around $5.20/kgms, mostly due to the strengthening of the A$ against the Greenback.

 

The chart on the right shows the contributing factors to that slide – the A$ which is now more than US8c stronger (than was generally expected by the world’s best currency analysts back in the middle of the year) has been the destroyer of value. Commodity prices have in fact improved a little.

The A$ is tipped to remain in this territory if not get stronger against the US dollar as the world’s economy improves in 2021. The scale of COVID-19 infections in the US and Europe will keep commodity prices subdued for months to come.

If step-ups in milk prices were to be feasible, the CMV would need to rise and stay higher than $6/kgms for the rest of the season. That looks a long shot from here.

 

 

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