Friday, August 12, 2016

The milk industry cowed

It is calving season in Waikato, New Zealand’s biggest dairy region, and Nicola Kloeten, a farmer, is delivering a new generation of cattle which she hopes will satisfy Asia’s growing appetite for milk, butter and cheeses.
Since signing a free trade deal with China in 2008, New Zealand has enjoyed an export-led dairy boom that has earned it the nickname of “the Saudi Arabia of milk” and driven a rapid expansion of its farm industry. The South Pacific nation is the world’s biggest exporter of milk-based products, which account for a quarter of everything it sells overseas. 

But a halving of milk prices since early 2014 — the result of oversupply and softening demand — is turning New Zealand’s Chinese-linked farming boom to bust. For the first time in years, Ms Kloeten and her husband are reducing rather than expanding their herd of 560 Jersey and Friesian cross-breed cows.
“We have had to cull 60 cows because milk prices have stayed low for so long,” says Ms Kloeten. “Many farmers are struggling.”
The pain is being felt across an industry that stretches from the Pacific to the EU and North America, employs millions and wields significant political clout. Almost one-tenth of all milk produced is exported across borders in a trade worth $140bn a year.
Dairy NZ, an industry body, says four out of five of its dairy farmers are losing money for a third consecutive season. KPMG forecasts that one in 10 farmers in the country will have to exit the industry and a further 28 per cent will need to restructure their business and raise fresh capital to survive. Reported suicides of dairy farmers have also increased in recent months.
The Kloeten family, like many dairy farmers in this tight-knit rural community about 150km south of Auckland on New Zealand’s North Island, is slashing costs by selling more animals into the meat industry and limiting the use of supplementary feed and fertiliser. The national dairy herd fell by 300,000 animals to 6.4m last year, the first reduction in a decade.
“I know some farmers who have had to sell their herds,” says Ms Kloeten. “There was no point in building up any more debt with the way prices are.”
Chart: milk data

Powder dried

The crisis was triggered by a combination of global overproduction of milk and weaker than expected demand, particularly from China, the world’s biggest buyer of dairy products, where imports fell by a fifth between 2014 and 2015, according to the UN’s Food and Agricultural Organisation. This is being exacerbated by events such as Russia’s 2014 ban on European dairy imports linked to tensions in Ukraine and weak demand in the Middle East, where the dip in oil prices has hit incomes.
The price of whole milk powder, a key ingredient in food products and New Zealand’s biggest dairy export, has more than halved since 2014 to more than $2,000 per tonne, according to the most recent Global Dairy Trade Auction run by Fonterra, the Kiwi co-operative that has become the world’s biggest dairy exporter.

Many commodities analysts do not expect dairy prices to recover to sustainable levels until 2017 at the earliest, when they hope cuts to production will make an impact. “This is the toughest period dairy farmers have seen for a generation,” says Emma Higgins, Rabobank analyst. “Debt levels are higher, cost structures are higher and there has been what looks like three years in a row of low milk prices.”
The prolonged decline in prices is a global phenomenon which is prompting a restructuring of farming practices, milk processors and suppliers. It is also raising the pressure on governments to intervene and support farming communities even as some had been seeking to liberalise their dairy industries.
In the EU, which last year removed a three decades-old limit on dairy production to capitalise on the boom in China, prices paid to farmers for milk have slumped to 2009 levels. It is a similar story in Canada, where farmers are struggling with weak prices and protesting against the Nafta trade pact that allows the import of US dairy products without tariffs.
Farm owners globally warn that the crisis will force many to leave the industry. Last month the UK’s Agriculture and Horticulture Development Board said one in 10 dairy farms in England and Wales — about 1,000 businesses — have closed since January 2013.
In Australia the scale of the price crash caught Murray Goulburn, the country’s biggest dairy processor, by surprise. In April it made retrospective cuts to the price it had offered to pay farmers for milk, from A$5.60 to between A$4.75 ($3.66) and A$5. Its opening price for the new season beginning July is A$4.31, below estimated production costs of A$5-A$5.20.
“They were gutted by the first decision,” says Adam Jenkins, president of the United Dairy Farmers of Victoria. “And now they’re numb at this one.”
The forecasting mistake cost Gary Helou, Murray Goulburn’s chief executive, his job and forced Canberra to cough up A$555m in state-backed concessional loans for struggling farmers.

Questions of support

The EU has made €1bn available in aid to farmers and begun stockpiling milk powder and other dairy products to try and force up prices. This comes after production increased by about 5 per cent in the first five months of 2016, compared to the same period last year.
The price paid to farmers per kilogramme of milk solid — a nine-year low
Further support is planned by Brussels, which has been forced to retreat — at least temporarily — from its policy of liberalising its dairy industry by removing, for instance, production quotas to enable its farmers to compete for market share.
“We view these [EU] subsidies as short-sighted and protectionist,” says Nathan Guy, New Zealand’s agricultural minister. “It locks producers into unprofitable and eventually unsustainable overproduction and causes huge distortions in world markets.”
New Zealand, which abolished most farm subsidies in the mid-1980s, is not advocating a return to state support even though its farmers are bearing the brunt of the collapse in dairy prices. It is particularly affected due to the scale of its dairy industry, its reliance on exports to China and its greater focus than other nations on whole milk powder, rather than cheeses, butters and yoghurts. It supplies about two-thirds of global exports of whole milk powder, with China the biggest customer.
“We export 95 per cent of our dairy and this is dominated by powder exports, which has seen the greatest fall in prices of all dairy products during this downturn,” says Keith Woodford, honorary professor of agri-food at Lincoln University in New Zealand.
Chart: milk data
To meet China’s seemingly insatiable demand for ice cream, infant formula and other dairy products, New Zealand’s farmers ramped up production. They went on a buying spree increasing their herds, buying land and converting sheep and beef farms to dairy.
New Zealand’s milk powder exports to China increased rapidly and peaked at 744,000 tonnes in 2013-14, generating huge profits. Since then weaker demand in China, higher domestic production and a build-up in stockpiles have prompted Beijing to halve imports.
Litres of milk, produced annually, across the world
“China purchased more dairy product than it needed,” says Ms Higgins. “When it found itself awash with product, pressure was placed on dairy exporters — and therefore, New Zealand — to bear the adjustment, rather than the Chinese domestic dairy industry.”
Fonterra, which processes about 80 per cent of New Zealand milk, recently slashed the price it pays farmers to a nine-year low of NZ$4.25 ($3.08) per kilogramme of milk solid. This is almost half the peak payment and significantly below the break-even price of NZ$5.25, according to Dairy NZ.
“A lot of farmers are asking how the hell did we get into this mess?” says Chris Lewis, a farm owner and president of the Federated Farmers’ Waikato division. “This is the season when many people will have to decide whether to stay in dairy or get out.”

Money worries

The biggest threat to farmers is posed by the debts of NZ$38bn amassed in the boom years, which amounts to a tenth of the country’s total bank lending, according to the Reserve Bank of New Zealand. Most farmers have cut costs to the bone by reducing the size of their herds, delaying capital purchases and letting casual staff go.
“Debt servicing is a really big issue for farmers,” says Mr Woodford. “Banks are not keen to foreclose as farm and land prices would fall and they would lose money.”
But there are signs of financial stress, with the price of dairy farms falling by 18 per cent in the 12 months ended in June, according to the Real Estate Institute of New Zealand. The central bank warned in its financial stability report in May that farmers’ debt positions are stretched and loan-to-income levels are approaching peaks last seen during the global financial crisis.
Tonnes of milk powder exported to China by New Zealand in 2013-14
“Banks will have to balance the risk of overextending credit with that of exacerbating the downturn through tightening lending standards,” it said. Stress tests in March warned that some banks face losses of between three and eight per cent on their dairy exposures.
To date, New Zealand’s national economy has weathered the storm due mainly to construction linked to the rebuilding of Christchurch after the 2010-11 earthquakes and a housing boom. But on Thursday the central bank cut interest rates by 0.25 per cent to a new record low of 2 per cent, in a bid to weaken a strong New Zealand dollar that is hurting its dairy exports.
At the main cattle market in Hamilton on the North Island, farmers are downbeat. “Some farmers will not get any more money from their banks,” says Shane Egan, who sold his farm last year and now works at the market. “A lot of them have been losing NZ$200,000 a year so there will be a lot of pressure on farmers to sell in the next 12 months,” he predicts.
The decline in dairy prices has caused a fall in the value of dairy cows, which means farmers struggling to make debt repayments cannot simply sell their animals to pay back loans. 

“The only saving grace,” says Brent Houghton, livestock agent and farm owner, “is that there are other farmers worse off than we are so the banks aren’t selling us all up in one fail swoop because they’d lose big themselves.”
The downturn is also having an impact on Fonterra, which has slashed 750 jobs out of its 16,000 workforce, even as it moved into its new NZ$100m headquarters in Auckland this year — a project conceived during the boom.
“There has been a slower-than-
expected recovery in China and the strong New Zealand dollar is making things more painful than in previous cyclical downturns,” says Theo Spierings, Fonterra chief executive.
The size of the global export market for milk
But he is confident that the market will recover, adding that Asia’s appetite for dairy is growing at 2-3 per cent a year. He says fears that China could increase its own production and cut out New Zealand’s farmers are misplaced.
Already the world’s third-biggest dairy producer, behind the US and India, China has ramped up production by an average of 8 per cent a year over the past five years, according to research firm Ibisworld. But it has to import a fifth of its total dairy consumption and the high cost of feed and environmental challenges make it unlikely it will become self sufficient, analysts say.
“Farming isn’t easy in China,” he says. “I have not changed my mind about the positive long term prospects for the dairy market or China.”
Ms Kloeten and the rest of the New Zealand farming community are hoping he is right — and few would want to test their bankers’ patience for much longer.

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