Milk Producers Council
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From The MPC Newsletter
October 9, 2009

Transferability of "Bases" - A Hot Topic for the Dairy Price Stabilization Program
By Rob Vandenheuvel

As the readers of this newsletter are well-aware, there is a growing debate throughout the country about what we can do to address the massive milk price volatility that has become commonplace in the dairy business. An idea gaining national support amongst producer groups is the Dairy Price Stabilization Program, or the DPSP. MPC has been promoting the DPSP for quite some time, and one recurring question that comes up is, “why doesn’t the program allow for full transferability of a dairy’s ‘base’?”

For those who may not be familiar with the DPSP, here’s a brief summary:

bullet The program would operate on a facility-by-facility basis and compare each quarter’s milk production to the same quarter in the previous year (i.e., your production during the 3rd quarter of 2009 would be compared to your production in the 3rd quarter of 2008). 
bullet A dairy producer advisory board would be established to advise the Secretary of Agriculture on two variables in the program. 
bullet The first variable would be the “allowable year-over-year growth.”  This figure – likely to be in the 1-3 percent range – would be the amount a facility could grow their quarterly production over their production in the same quarter last year without any fee being triggered by the program.
bullet The second variable would be a “market access fee” that would be paid by any facility that exceeds its allowable year-over-year growth.
bullet For each quarter, all the market access fees collected from the dairies that expand beyond their allowable growth will be distributed to the dairies that did not.
bullet This program really acts as a market allocation tool – an agreement amongst producers to allocate future market share.  It would allow any dairy that wishes to expand their share of the market to do so, but they would have to budget for a market access fee that would be given to the rest of the dairies that held their production in line.

The program is designed to serve as a supply management program that avoids the pitfalls we’ve seen in other programs that have been tried, such as the quota system that operates in Canada. Two huge downfalls with the Canadian quota system are:

bulletThere is a huge asset value that has been attached to their production quota. That quota trades around the equivalent of $30,000 per cow, which is a tremendous amount of industry capital tied to the value of that quota, rather than being invested in the dairy operations.
bulletIn addition to being an inefficient use of industry capital, the high asset value also creates a huge barrier to new entries that may be interested in getting into the industry.

The DPSP avoids these two major pitfalls by keeping the market access fee as low as possible (Cornell University’s Program on Dairy Markets and Policy ran the program through their analytical model and determined that the market access fee will normally range from $0.35 - $1.00 per hundredweight) and by greatly restricting the transfer of “bases.” Under the DPSP, the only two opportunities to transfer base are: (1) to combine two or more facilities that are under the same ownership; or (2) when a facility is taken over by a new operator. Of course, if that new operator increases their production beyond that facility’s allowable year-over-year growth, they will have to pay a market access fee just like any other dairy.

So why doesn’t the program allow bases to be fully transferable? The answer to that question lies in the way the program is structured. Under the DPSP, when a producer is determining whether or not to expand his share of the market, he will consider two things: (1) the market access fee that must be paid for the first year after the expansion; and (2) the amount of “dividend” (his share of the market access fees paid) that he will forfeit for the next year if he decides to expand. Those two factors combine to represent the full financial incentive the program creates.

If bases were able to be transferred under the DPSP, it could erode the amount of dividends that are available to the dairies that hold their production under their allowable growth. That is because every dollar that is transferred from a buyer of base to a seller represents one less dollar put into the market access fee “fund” to be distributed to dairies that hold their production.

If the program has fewer dividends available to distribute to producers that hold their production, the advisory board and the Secretary will likely need to increase the market access fee in order to maintain the same financial incentive (since like I mentioned above, it is the market access fee plus the forfeited dividend that makes up the full financial incentive)

Increasing the market access fee will increase the value of the base, since that value will obviously be attached to the current market access fee. As more and more base is transferred from producer-to-producer, the board will have to respond by continually increasing the market access fee. It’s a snowball effect that could result in both the market access fee and the value of production base continually ratcheting higher. A higher market access fee (and subsequently a higher value attached to the base) could create the exact same pitfalls we see in the Canadian quota system.

Allowing base to be fully transferable runs the risk of restricting future production growth and keeping new entries out of the industry. As we structure the details of this program, we need to remember our ultimate goal: we want to allow our industry to continue growing, but to do so in a more strategic manner, which will get us out of the massive boom/bust cycles we’ve gotten ourselves in.


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