Improving income and margin risk tools for dairy farmers

by Sally Colby
February’s bipartisan budget deal resulted in some changes to the Margin Protection Program for dairy, or MPP Dairy. The voluntary risk management program was created in the 2014 Farm Bill and has not been used beyond the minimum coverage in recent years.
Dr. Andy Novakovic, professor of ag economics at Cornell University, has extensive experience in ag policy and economic regulation of ag and food markets. “The decision producers face with respect to this new program is fairly straightforward,” he said, referring to what he calls MPP Dairy 2.0. “It opens the door to a lot of conversations that go beyond the mechanics of the revised program.”
Novakovic provides some history on dairy programs. The Capper-Volstead Act of 1921 was the first dairy policy and allows farmers to cooperate in milk marketing in regard to pricing, selling and market logistics. The Agricultural Marketing Agreement Act of 1937 allows farmers to use government authority to enforce a system of classified pricing with pooling to make milk pricing more transparent and evenly applied. Neither of these acts ‘fixed’ the price of milk.
“Classified pricing and pooling accomplishes a lot, but only does so much,” said Novakovic. “A primary contribution of classified pricing and pooling is to make the rules of pricing fairly transparent. They try to be fair — every farmer and processor is operating under the same rules. But neither system can ‘fix’ the price of milk, as in ‘make it the way you want it to be.’”
Novakovic said the best example of fixing (remediating) is the old milk price support program, which was in its prime from the 1940s to the 1990s. The program is still on the books, but not useable since the early 1990s for two reasons: First, it became too expensive for the public sector. Also, it became infeasible when doors were opened to U.S. markets with the Uruguay Round Agreements Act of 1994. “That door is open enough now that if we try to support the price of milk in the U.S., we’ll support the price of milk in the entire world,” said Novakovic.
In the 1990s, the struggle was ‘what can we do’? “We didn’t have much of a program in place, and we started to see volatility arise,” said Novakovic. “In the low points in the cycle, that got pretty uncomfortable. We shifted to a mechanism that’s generally known in the policy world as an income subsidy.” Novakovic added that that concept is ‘I can’t fix the price, there are going to be times when prices are tough, but what can I do to make those low milk prices more tolerable; easier to endure?’
Novakovic explained that the Milk Income Loss Contract (MILC) was dairy’s first effort in the income subsidy world. Payments are generated when prices go below an established price trigger. The MILC program was free — producers signed up and received a check if they qualified. Novakovic said MILC was reasonably successful in its early days, but issues surfaced. “When the price of feed started to skyrocket, the price program didn’t do a good job of compensating for high feed costs,” he said. “You could have a pretty high price for milk and not trigger it based on a price, but not be making too much money because feed costs were so high.” The other problem is that larger farms wanted help too, but MILC wasn’t able to provide those farms with much assistance.
The result was MPP Dairy, which was intended for any size farm and intended to a better reflect both feed and milk prices. “I think the designers of the program were just as disappointed as anyone that the execution and implementation of MPP Dairy proved to be not as effective as they hoped,” said Novakovic, adding that the failure was due to the government simply not having enough money to allocate to the program rather than poor program design. “Various nips and tucks and choices were made to reduce the expected cost of the program, which ultimately made the program ineffective.”
This led to what Novakovic refers to as MPP Dairy 2.0. “The basic design of MPP Dairy is based in the world of income subsidies,” he said, “but it has features of an insurance program.” Novakovic explained that producers pay premiums and can pay a higher premium for a higher level of benefit. In the beginning, MPP Dairy was good a collecting premiums, but not good at paying benefits. “It raised questions about ‘is the formula right’ and there’s some indication that there were some non-feed costs that were rising that the program didn’t reflect and we didn’t anticipate,” said Novakovic. “This led to lower profitability than would be indicated by feed costs.”
The program was designed for catastrophic events and provided some restitution if a producer had an extreme event. What wasn’t anticipated, and what the program wasn’t designed to do, is help farmers when returns weren’t especially low but continue for so long that they become intolerable with no apparent relief in sight.
Novakovic said 2.0 should be more affordable; especially for average and smaller farms. “It’s important to appreciate that 2.0 was only possible because it was written by a committee that deals with money, not by the committee that deals with programs,” he said. “The typical agriculture committee discussion of Farm Bill, which created 1.0, is a program committee. They can suggest programs, but they have to work within the budget they’re given. The budget committee has the ability to affect those numbers.” Novakovic added that the budget committee doesn’t normally get into the details of program design, but Senator Leahy came up with some changes that involved money, and helped push through his committee. One change was to remove the cap from LGM Dairy and other livestock insurance products to make them more available at a subsidized premium throughout the year, and to create changes to MPP Dairy that would be more expensive but would allow it to be more a more successful program for farmers.
LGM dairy and MPP Dairy are still available for all farmers, but as was the case from the beginning of MPP Dairy, farmers cannot double dip. “You can use LGM Dairy but you cannot use MPP Dairy until you’ve terminated all of your LGM Dairy contracts,” said Novakovic. “You can use future markets and options, and you can forward contract with your co-op. Those are all private hedging tools.” In general, MPP Dairy will be attractive when expected margins are low, and LGM Dairy will be more attractive when expected margins are high.
What’s next? Novakovic said producers get a do-over on MPP Dairy sign-up. “The MPP Dairy 2.0 only amends the existing program,” he said. “There are a lot of features of the original MPP Dairy that continues as it was before. It does change some features that make the program more appealing for producers.” Novakovic added that the program lasts until the end of this year.
Novakovic explained that if there’s no dairy policy in place next year, we’ll revert to the Agricultural Act of 1949, which means a price support program and $35 milk. “This is sometimes called the ‘dairy cliff’,” he said. “The election comes in November and people aren’t too keen on passing new laws right before an election, so it’s easy to see this can getting kicked down the road until we come up to the dairy cliff.”
 

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