Dairy volatility is here to stay

File photo dated 25/08/15 of a sign outside the London Stock Exchange Group in the City of London. The London Stock Exchange has said its �21 billion merger with Germany's Deutsche Borse is likely to be blocked by the European Commission. PRESS ASSOCIATION Photo. Issue date: Monday February 27, 2017. The LSE said the commission had made the "disproportionate" request that it sells its stake in MTS, an electronic market. See PA story CITY LSE. Photo credit should read: Philip Toscano/PA Wire
File photo dated 25/08/15 of a sign outside the London Stock Exchange Group in the City of London. The London Stock Exchange has said its �21 billion merger with Germany's Deutsche Borse is likely to be blocked by the European Commission. PRESS ASSOCIATION Photo. Issue date: Monday February 27, 2017. The LSE said the commission had made the "disproportionate" request that it sells its stake in MTS, an electronic market. See PA story CITY LSE. Photo credit should read: Philip Toscano/PA Wire

While markets are difficult to read dairy farmers cannot assume the grim days of 2016 are behind them.

Volatility is here to stay, and before and after Brexit the pressure is on to come up with new ways to limit its impact. In a dairy world often over-influenced by the small quantities traded globally volatility cannot be stopped, but ways must be found to control its impact. As we move further into spring and the inevitable rise in milk production the still fragile recovery of global dairy markets will certainly be tested.

The European Commission, via its short term market forecasts, is relatively optimistic about dairy markets. However it is warning that as the spring flush of production comes through, markets will need to be managed carefully. It is not clear why Brussels is so optimistic, but it has good market intelligence behind most of its forecasts. That said, the Fonterra auction price drop of six per cent earlier this month has to be cause for concern. Too much can be read into this, given that Fonterra can manage supplies to deliver particular trading outcomes, but it remains a reasonable indication of global buyer sentiment.

The EU also needs to factor in the over 300,000 tonnes of milk powder it has in store. To date, it has adopted a conservative approach, refusing to accept any bargain basement tenders that would undermine market recovery. It needs to stick to this stance, but at the same time it cannot hold stocks for ever. The EU remains competitive, and has a focus on opening new global markets for EU produce. Its success in doing so will be a challenge for the UK, since after Brexit the EU will be one of our biggest competitors when it comes to the export of all food and agricultural products. This will be particularly so if we end up with a hard Brexit - one without a trade deal to keep something akin to the Single Market in place.

In the UK market realities are disguised by the plunge in the value of sterling. This has made exports more competitive, and more importantly has made the UK less attractive for eurozone competitors, including the Irish. This has had a positive impact on milk prices since the Brexit vote last June. However there are still plenty of market problems. While production has dropped from the post milk quota driven month on month increases of 2016 the EU is still on target to produce slightly more milk than last year. That increase will be less than one per cent, but small imbalances in supply and demand drive volatility.

Distil all of this down, and we will probably be able to maintain a milk price in or around where it is now. However the recovery of markets is not settled. China is unlikely to ever again be the buying force it was when dairy prices boomed in 2014. The Chinese are now much more canny buyers, and that is not going to change. The big challenge remains how to tackle volatility. Talk of risk management policies as part of CAP reform, and for the UK after Brexit, are only part of the solution. Experience in the United States suggests that to offset volatility completely the premium would be unacceptable to most farmers. That means the challenge is to come up with new mechanisms to control volatility, rather than depending on support policies. After Brexit, or even CAP reform for the EU 27 in 2020, it is hard to see things like intervention or even subsidised private storage for butter surviving.

There are high hopes that a futures market will be established in Europe. There are some commercial exchanges offering this, but they are limited in scope and used by traders rather than processors or farmers. The European Commission wants to achieve this, believing it would deliver better transparency on prices, encourage producer organisations to improve farmers’ negotiating power, and above all allow farmers and processors to spread risk. The key is good market information, and that means making the current Milk Market Observatory more effective. The farm commissioner, Phil Hogan, has said he will do that as part of his drive to deliver a fully functioning dairy futures market. The question that prompts, is how will the UK be part of that after Brexit.