Supply management for milk offers ‘no solution’ to dairy crisis, says expert

Seeking to regulate the EU milk market by managing supply would ‘undermine rather than support’ the future of dairy farming in the EU, according to leading Agricultural Economist, Alan Matthews.

His comments come as milk supply management is a key pillar of the French Government’s proposals presented at today’s EU meeting to solve the difficulties in the dairy market. The proposal is also said to be supported by several other Member States.

Matthews who is Professor Emeritus of European Agricultural Policy in the Department of Economics at Trinity College, highlights in a timely paper on the proposal that no country or organisation making the proposal has put forward any analysis on the subject.

He stresses that it requires looking at three crucial variables: the rate of slippage, the overall price elasticity of demand for milk, and the supply response of EU producers to higher prices.

Slippage

The importance of the slippage rate can be easily explained, Matthews says.

“Suppose an EU agency offers 20c/litre to EU farmers who are willing to reduce their milk deliveries below some reference quantities (which could be deliveries for the same months in the previous year, or deliveries over the previous 12- month period).

“This may attract some dairy farmers who had not previously thought of reducing their milk deliveries. But it would most certainly also attract those dairy farmers who were anyway planning on reducing their milk deliveries,” he explains.

Matthews points out that while paying the former group of dairy farmers to reduce their milk supply would, indeed, contribute to restoring a better balance between supply and demand on the EU milk market, paying the latter group would not.

“Money paid to dairy farmers who were planning to reduce production in any case is just waste, what economists call ‘deadweight loss’ and what I am calling ‘slippage’.”

He says due to the significant ongoing structural change in the dairy sector across Europe, the slippage rate is likely to be high and suggests a figure of 50%.

Cost

Farm Europe, in estimating that it would cost €500 million to compensate the withdrawal of 2 – 2.5 million tonnes of milk seems to base this estimate on a compensation payment of 20-25c/kg milk.

But with a slippage rate of 50%, Matthews says between 1-1.25 million tonnes of this milk would have disappeared as these producers anyway planned to reduce production.

“Thus, to attract sufficient farmers to have a net removal of 2-2.5 million tonnes, the cost of the scheme will be at least €1 billion,” he says.

Impact on the EU milk price?

According to Matthews, the impact of the proposals on milk price depends on a single parameter, the price elasticity of demand for raw milk (or, rather, its inverse).

“We can agree that, in the short run, the price elasticity of demand is likely to be rather inelastic.

“This tells us that, for every 1 percentage reduction in supply, the price will go up by 2 percentage points.

“Thus, the consequence of spending €1 billion would be, at best, to raise the EU milk price by between 3-4%.

“Now this is not insignificant, but it is hardly likely to persuade dairy farmers that the crisis is over,” he says.

But the story does not end here, Matthews stresses.

He says while some dairy farmers might be persuaded to accept compensation of 20-25c/kg to reduce their milk deliveries, other dairy farmers will want to continue to expand production.

“Current low milk prices might currently limit their enthusiasm, but now assume that the Commission introduces a voluntary suspension scheme which, lo and behold, has improved their prospects.

“With the higher milk price after the introduction of this scheme, they will be incentivised to increase their production even more, thus offsetting a good deal of the milk withdrawn by the farmers enrolled in the voluntary suspension scheme,” he explains.

Mandatory scheme

 

According to Matthews it is clear that, if supply management is to work, then it would have to be mandatory, at least by controlling the supply of expanding producers.

He says such a scheme would undoubtedly, this would have an impact on the EU milk price, but the long-term consequences for the industry would seem to be the equivalent of ‘shooting itself in the foot’.

“Think about the consequences for the competitiveness of the dairy sector of a situation in which between 6-10% of EU milk supplies would be regularly withdrawn every 3 years or so.

“During each withdrawal period, the EU’s competitors on world markets would be rubbing their hands with glee.

“They would benefit from the higher world market prices due to the EU’s supply control, without being obliged to restrict their own production,” he highlights.

Furthermore, Matthews says EU dairy processors would gradually lose market shares on key markets, as they would be unable to guarantee regular deliveries.

“Farmers need to learn how to cope with volatility. A return to regulated markets provides no solutions,” he concludes.