Memorandum submitted by the Department
for Environment, Food and Rural Affairs (L6)
MARKET PRICE AND FARM-GATE PRICE OF MILK
JANUARY 2003
EXECUTIVE SUMMARY
1. The available evidence suggests that
increases in the retail price of milk are passed back to dairy
farmers. Nevertheless, farmgate prices are low and are likely
to fall further as a result of the reforms to the dairy CAP agreed
at Luxembourg. The reasons for the low farmgate price over the
last few years are complex and cannot be reduced to a single factor.
Many of these are for the industry to address itself. However,
the Government can and has taken action in line with its Strategy
for Sustainable Farming and Food to facilitate industry action.
In particular:
— Lord Whitty has been chairing meetings
of a Dairy Supply Chain Forum, which has been looking at collaborative
solutions to improve supply chain efficiency, as well as other
issues.
— Under the auspices of the Forum,
the Milk Development Council has initiated an innovations workshop
to look at barriers to innovation in the sector and how to overcome
them.
— Defra is participating in a further
two sub groups of the Forum, which aim to facilitate the long
term sustainable development of the dairy supply chain and help
it adjust to the new environment created by the reformed CAP;
and
— The Government has made a grant of
nearly £0.5 million to the Food Chain Centre to examine how
to improve dairy supply chain efficiency.
INTRODUCTION
2. There can be little doubt that farmgate
milk prices have been low over the last few years compared to
their historical levels and that this has been reflected in dairy
farm incomes, which have been falling since 1996[2].
Although it is difficult to be precise about the effect of the
CAP reform agreed at Luxembourg on farmgate prices, it is safe
to assume that prices will fall further as a result of the reforms.
This is likely to accelerate the existing trend towards fewer,
larger, dairy farms[3]
3. The farmgate price of milk is influenced
by a number of factors. The sterling-euro exchange rate can play
a key role when Community prices are at intervention levels and
for products that are subject to significant trade between the
UK and other Member States, such as butter and cheese. However,
the UK participates in a significant trade in dairy products[4]
and supply and demand on world and Community markets are also
important, as are the level of stocks of products. Community prices
can therefore be significantly above intervention levels.
4. Even for products that are relatively
isolated from Community and world prices, such as liquid milk
and some branded products, the prices paid for raw milk to make
them will be influenced by the price paid for milk to make other
products. If returns from one outlet for raw milk are significantly
higher than from other outlets, then sellers will compete for
that premium. Since milk is a relatively homogenous product, the
main point of competition will be price, which will tend to erode
any premium.
5. However, allowing for exchange rates
these factors are not sufficient to explain why UK farmgate prices
are consistently below the EU average, whether returns from the
markets are transmitted to producers or the allocation of returns
from the market between producers, processors and retailers.
PRICE TRANSMISSION
6. London Economics provided a rigorous
statistical analysis for the KPMG study of prices and profitability
in the British dairy chain commissioned by the MDC[5].
London Economics examined the UK milk market for the period from
January 1995 to December 2001. It found evidence that adjustments
to retail prices for liquid milk were fully passed back to the
farm-gate price, though there was a lag of five months before
the retail price change was fully reflected in the farmgate price.
There were no differences in the impact of retail price increases
and decreases on farm-gate prices, both were fully transmitted.
In contrast a 1 pence increase in the farmgate price resulted
in only a 0.6 pence increase in the retail price of liquid milk
whereas a 1 pence decrease in farm-gate price reduced the retail
price by 0.7pence. Since farmgate prices have generally been falling
over most of 1995-2001, the differential in price transmission,
depending on whether the direction is from retail to farm-gate
prices or from farm-gate to retail prices, has been reflected
in an increase in retailers' gross margin. KPMG suggested that
the reason why changes in farmgate prices are reflected less in
retail prices than changes in retail prices are reflected in farmgate
prices may be due to the relative lack of market power of producers.
7. Although London Economics found that
retail price increases for liquid milk are fully transmitted to
producers, there is a widespread feeling amongst dairy farmers
that they have not received the full benefit of the recent retail
price initiatives established by the supermarkets. However, it
should be recognised that 1 pence per litre increase in the supermarket
price for liquid milk will not produce an 1 pence per litre increase
in the farmgate price, unless there has been a corresponding increase
in the value of other dairy products. Only around half of the
raw milk produced in the UK is used to produce liquid milk and
only 65% of liquid milk is sold retail (rather than through food
service outlets). 1 pence per litre increase in the supermarkets
price would only therefore produce an increase in the average
farmgate price of around 0.3 pence per litre. During the period
between October 2002 and October 2003 we have seen retail prices
for liquid milk rise by 2 pence per litre, whilst over the same
period the farmgate price has risen by 1.46 pence per litre, with
further increases due from December as a result of recent deals
over the price paid for milk for cheese. This increase in the
farmgate price is larger than would be produced just by the retail
price increases and represents strengthening dairy commodity prices
over this period. It is therefore difficult to conclude that events
in this more recent period undermine the conclusion reached by
London Economics that retail price increases for liquid milk are
fully transmitted to farmers.
MARKET POWER
8. As noted above, KPMG concluded that the
fact that changes in farmgate price are not fully transmitted
may be the result of relative lack of market power of producers
compared to others in the supply chain. They therefore examined
the margins and levels of profitability of processors and retailers.
Overall, they came to the conclusion that levels of profitability
of processors and retailers in the UK were comparable to those
in other Member States. On margins they found that retail margins
where probably higher than in other Member States and that processor
margins were not large (and for cheese were sometimes non-existent).
9. It has been suggested that the attitude
of the competition authorities has hindered the development of
large co-operatives that can negotiate on more equal terms with
the larger retailers and processors. This view appears to stem
from the break-up of Milk Marque that followed an investigation
and adverse finding by the then Monopolies and Mergers Commission.
However, the issue here was not the size of Milk Marque, though
that clearly had a bearing on the case, but the fact that the
company was found to have abused its monopoly position by establishing
anti-competitive selling practices.
10. Since the break up of Milk Marque there
have been a number of successful mergers in the dairy sector,
some of which have involved its successors. Despite this, the
perception persists in some quarters that the way that competition
law is applied in the UK prevents the establishment of large dairy
co-operatives. Following the publication of the report of the
Policy Commission on the Future of Farming and Food[6],
which flagged up this issue, the Office of Fair Trading met with
farming interests to explain how competition machinery relates
to their sector. It is also planning to post answers to frequently-asked
questions on this subject on its web site. More generally, it
has re-iterated its willingness to provide informal and confidential
guidance to parties considering specific mergers or joint ventures
so that any potential competition problems can be identified at
an early stage.
11. The apparent discrepancy between farmgate
and retail prices was one of the issues that prompted the investigation
by the Competition Commission into supermarkets. In its report[7],
the Commission concluded that, taking all matters into consideration,
it was satisfied that that the industry was broadly competitive
and that overall excessive prices were not being charged nor excessive
profits earned. However, it identified a number of practices engaged
in by the larger supermarkets that, because of their buyer power,
adversely affected the competitiveness of some of their suppliers.
It recommended that a Code of Practice should be established to
regulated the practices that it had identified, and that it be
binding on those supermarkets with 8% or more of the market.
12. The Secretary of State for Trade and
Industry, who leads on competition matters, accepted this recommendation
and asked the OFT to draw up a Code. This was done and the Code
of Practice entered in force on 17 March 2002. The operation of
the Code was reviewed by the OFT during 2003. As part of the review
the OFT invited the views of trade bodies, including those representing
suppliers of milk and dairy products. The OFT hope to publish
the report and conclusions of its review early in this year.
THE COMPARATIVE
LEVEL OF
UK FARMGATE PRICES
13. KPMG also examined the reasons why UK
farmgate prices for liquid milk are consistently below the EU
average. They highlighted a number of factors that might explain
this. These included:
— the structure of the UK industry;
— the low value of the product mix;
and
— the low level of product innovation
within the UK compared with some Member States.
Their report also identified a number of areas
where efficiency might be improved, through rationalisation or
benchmarking and suggested that improved supply chain efficiency
could contiribute towards improved farmgate prices. These findings
on the dairy sector very much support the conclusions reached
by the Policy Commission on the Furture of Farming and Food for
all agricultural sectors. Many of these issues are for the sector
to address itself. However, the Government can play a role in
facilitating industry action and is doing so through the Dairy
Supply Chain Forum, which is currently chaired by Lord Whitty.
GOVERNMENT ACTION
ON FARMGATE
PRICES
14. Most of the causes of low farmgate prices
for liquid milk in the UK are for the sector to address itself.
As long as the rules of competition law are respected, negotiations
between producers and purchasers or processors and retailers are
private commercial matters in which the Government cannot and
should not get involved. Similarly, adapting to the lower price
environment likely to result from the reform of the dairy CAP
will very much be a matter for individual businesses. Nevertheless
the Government can and has taken action in line with its Strategy
for Sustainable Farming and Food[8]
to facilitate the development of the sector to meet these challenges.
15. Lord Whitty has been chairing regular
meetings of a Dairy Supply Chain Forum, involving participants
from all parts of the dairy supply chain, which aims to find collaborative
solutions that will improve the efficiency of the dairy supply
chain. This Forum has established a sub-group to examine the immediate
impact of CAP reform and a further sub group to facilitate the
long-term sustainable development of the dairy supply chain, considering
as a starting point the findings of the CAP reform group. This
group does not intend to create a blueprint for the sector, but
rather to identify the challenges it faces and the possible approaches
to them, which should allow individual businesses to make informed
decisions on their future development.
16. In addition, we have taken action to
help the sector address improve supply chain efficiency. A grant
of almost £0.5 million has been made to the Food Chain Centre
to undertake a value chain analysis of the dairy supply chain
to establish areas where costs may be reduced. The Food Chain
Centre intend to examine eight different supply chains in the
dairy sector and hope that the initial findings on the first chain
selected might be available at Easter.
17. A sub-group of the Dairy Supply Chain
Forum has also been established to examine how innovation can
be encouraged in the dairy supply chain The objective of this
group is to stimulate and co-ordinate innovation for the development
of British dairy products by creating a forum for the exchange
of market information and ideas that anticipate consumer needs.
The group will also consider how barriers to innovation might
be addressed.
18. Furthermore, the Agriculture Development
Scheme (ADS) offers grants for the various activities associated
with the marketing of produce, including dairy products, and welcomes
innovative applications. Support is also available under the England
Rural Development Programme, which encourages the development
of new products and markets through the Rural Enterprise Scheme
and the Processing and Marketing Grant.
CONCLUSION
19. The available evidence suggests that
increases in the retail price of milk are passed back to dairy
farmers. Nevertheless, farmgate prices are low and are likely
to fall as a result of the reforms to the dairy CAP agreed at
Luxembourg. The reasons for the low farmgate price over the last
few years are complex and cannot be reduced to a single factor.
Many of these are for the industry to address itself. However,
the Government can and has taken action in line with its Strategy
for Sustainable Farming and Food to facilitate industry action.
In particular:
— Lord Whitty has been chairing meetings
of a Dairy Supply Chain Forum, which has been looking at collaborative
solutions to improve supply chain efficiency, as well as other
issues.
— Under the auspices of the Forum,
the Milk Development Council has initiated an innovations workshop
to look at barriers to innovation in the sector and how to overcome
them.
— Defra is participating in a further
two sub groups of the Forum, which aim to facilitate the long
term sustainable development of the dairy supply chain and help
it adjust to the new environment created by the reformed CAP;
and
— The Government has made a grant of
nearly £0.5m to the Food Chain Centre to examine how to improve
dairy supply chain efficiency.
January 2004
Annex 1
BACKGROUND ON
THE UK DAIRY
SECTOR
Structure of the UK Dairy Sector
1. The UK is the third largest producer
of milk in the EU, after France and Germany, and the 7th largest
producer in the world. Annual production tends to be around the
UK milk quota of 14,186 billion litres. Whilst UK production was
slightly under quota in the 2000-01, 2001-02 and 2002-03 quota
years, the indications are that it might exceed quota in the 2003-04
quota year.
Quota Year
| Quota Allocation
(million litres)
| Amount Produced
(million litres)
|
1994-95 | 14,167
| 14,256 |
| 1995-96 | 14,167 | 14,324
|
| 1996-97 | 14,167 | 14,221
|
| 1997-98 | 14,167 | 14,294
|
| 1998-99 | 14,167 | 14,205
|
| 1999-2000 | 14,167 | 14,232
|
| 2000-01 | 14,179 | 13,885
|
| 2001-02 | 14,186 | 14,103
|
| 2002-03 | 14,186 | 14,064
|
| |
|
2. In terms of value dairy farming accounts for around
20% of UK agricultural production and is the single largest agricultural
sector. In the 2002 Farm Business Survey there were 25,548 holdings
classified as primarily dairy farms. There are also around 40,000
people employed in the processing, manufacture and distribution
of dairy products.
3. The average herd size in the UK is 75 cows per herd,
which is significantly above the average for the EU15 of 28.2.
Yield per cow, of 6,320 litres per annum, is also above the EU
average of 5,812 litres per annum, but is lower than in the Netherlands,
Sweden, Finland and Denmark. There has been a trend for several
decades towards fewer, larger farms, with higher yielding cows.
For example, since 1985 the number of dairy farms has declined
by an average of 3.5% per annum. Similarly, the national herd
has declined by an average of 1.7% per annum since 1992. However,
this has been offset by a comparable annual increase in average
yield per cow.
4. A similar trend can be seen in the processing sector.
The four largest processors in the UK are estimated to process
around 60% of UK milk production. This level of concentration
is comparable to that in other EU Member States. It should be
recognised that there are also a large number of successful smaller
processors. For example, it is estimated that there may be as
many as 350 specialist cheesemakers making around 400 different
cheeses.
5. Around half of the raw milk sold in the UK is handled
by farmers' co-operatives, with the rest being sold direct to
processors. This is comparable to France and Germany, although
in Denmark and the Netherlands most raw milk is handled by farmers'
co-operatives. However, UK co-operatives are still predominantly
brokers, rather than processors, and only around 5% of UK processing
capacity is owned by co-operatives, compared to around 60% in
France and Germany and 90% in the Netherlands and Denmark. However,
some UK farmers co-operatives have made significant investments
in processing and others have put arrangements in place, through
a processing levy and/or members' guarantees, to enable them to
follow suit.
6. The structure of the UK industry where farmer's co-operatives
are predominately brokers, rather than vertically integrated processors
is unique in the EU, although it is replicated to some extent
in the US, where Dairy Farmers of America, for example, the world's
largest dairy co-op, process only about 20% of their milk. It
has been suggested that this structure is one of the causes of
low farmgate prices. KPMG suggested[9],
for example, that the cost to co-op members of this additional
layer in the supply chain could be as much as 2 pence per litre.
To reduce this they suggested that the co-operatives would need
either to expand to achieve scale efficiencies or vertically integrate.
7. Although it is difficult to give precise figures,
it is generally agreed that there is a degree of overcapacity
in the UK processing sector for some products and that, despite
significant investments in new processing plant, some of this
capacity is inefficient[10].
Thus, in addition, to the existing trends towards fewer larger
processors and increased vertical integration, we should also
expect to see further rationalisation and modernisation of processing
plant.
THE UK MARKET
FOR DAIRY
PRODUCTS
8. Around half of the raw milk produced in the UK is
used to produce liquid milk, with cheese production being the
next largest use, accounting for 25% of milk utilisation. This
is rather different from many other EU Member States. For example,
in the Netherlands and France only around 15% of milk is used
for liquid milk and in the Netherlands, France and Denmark over
half of the raw milk produced is used for cheese production.
9. With the exception of liquid milk, the UK participates
in a significant trade in most dairy products. As a consequence,
prices for these products will be heavily influenced by the prices
prevailing in EU and world markets. The value of UK exports of
milk products is significantly lower than the value of imports
and in 2002 the UK had a Negative trade balance of £536 million
in dairy products.
This data shows UK production and supplies of milk products
manufactured by both dairy companies and on farm. The data is
quoted in thousand tonnes and is not directly comparable with
the data shown in table 5.17 which is quoted in million litres.
| |
| | Calendar
years
|
Thousand tonnes (unless otherwise specified)
| 1999 | 2000 |
2001 | 2002 |
| | |
| (provisional) |
| Butter (a) (b) | |
| | |
| Production (c) | 141 |
132 | 126 | 141
|
| Imports from: the EU | 67
| 80 | 76 | 62
|
| the rest of the world
| 47 | 38 | 39
| 39 |
| Exports to: the EU (d) | 50
| 39 | 36 | 33
|
| the rest of the world
| 6 | 6 | 5 |
4 |
| Total new supply (d) | 199
| 204 | 201 | 204
|
| Change in stocks (e) | 11
| -5 | 1 | 8
|
| Total domestic uses (d) (e) | 187
| 209 | 200 | 196
|
Production as % of total new supply for use in UK
| 71% | 64% | 63%
| 69% |
| Closing stocks (e) | 22
| 17 | 18 | 26
|
Cheese | |
| | |
| Production (c) | 368 |
340 | 395 | 396
|
| Imports from: the EU | 236
| 225 | 246 | 241
|
| the rest of the world
| 41 | 30 | 29
| 26 |
| Exports to: the EU | 49
| 48 | 57 | 57
|
| the rest of the world
| 13 | 10 | 11
| 20 |
| Total new supply | 584
| 536 | 601 | 586
|
| Change in stocks | 1 |
— | 5 | 2
|
| Total domestic uses | 583
| 536 | 596 | 584
|
Production as % of total new supply for use in UK
| 63% | 63% | 66%
| 68% |
| Closing stocks (f) | 10
| 10 | 15 | 17
|
Cream—fresh, frozen, sterilized
| | | |
|
| Production (b) (c) | 275
| 270 | 263 | 257
|
| Imports from: the EU | 8
| 10 | 18 | 12
|
| the rest of the world
| — | — | —
| — |
| Exports to: the EU | 95
| 81 | 83 | 95
|
| the rest of the world
| 1 | 1 | 1 |
— |
| Total new supply | 188
| 198 | 197 | 174
|
| Change in stocks | . .
| . . | . . | . .
|
| Total domestic uses | 188
| 198 | 197 | 174
|
Production as % of total new supply for use in UK
| 146% | 137% | 134%
| 148% |
| Closing stocks | . . |
. . | . . | . .
|
Condensed milk (g) |
| | | |
| Production | 177 | 162
| 161 | 149 |
| Imports from: the EU | 14
| 15 | 14 | 11
|
| the rest of the world |
— | — | —
| — |
| Exports to: the EU | 38
| 28 | 20 | 28
|
| the rest of the world |
13 | 3 | 2 |
2 |
| Total new supply | 139 |
145 | 153 | 131
|
| Change in stocks | 1 | -1
| 3 | -1 |
| Total domestic uses | 138 |
146 | 150 | 131
|
Production as % of total new supply for use in UK
| 127% | 111% | 105%
| 114% |
| Closing stocks | 8 | 7
| 10 | 9 |
Milk powder—full cream |
| | | |
| Production | 102 | 105
| 83 | 105 |
| Imports from: the EU | 10
| 11 | 8 | 10
|
| the rest of the world
| — | — | —
| — |
| Exports to: the EU | 28
| 28 | 29 | 53
|
| the rest of the world
| 64 | 74 | 57
| 60 |
| Total new supply | 20 |
14 | 5 | 1 |
| Change in stocks | —
| -1 | 3 | -2
|
| Total domestic uses | 20
| 15 | 2 | 3
|
| Closing stocks | 3 |
2 | 5 | 3 |
Skimmed milk powder |
| | | |
| Production | 102 | 83
| 71 | 71 |
| Imports from: the EU | 14
| 13 | 23 | 14
|
| the rest of the world
| — | — | —
| — |
| Exports to: the EU (d) | 30
| 77 | 26 | 17
|
| the rest of the world
| 30 | 35 | 4
| 6 |
| Total new supply (d) | 57
| -16 | 63 | 61
|
| Change in stocks | -11
| -66 | 7 | 16
|
| Total domestic uses (d) | 68
| 50 | 56 | 45
|
Production as % of total new supply for use in UK
| 180% | -527% | 111%
| 117% |
| Closing stocks | 71 |
5 | 12 | 29 |
| |
| | |
Source: Defra Statistics
(a) Includes butterfat and oil, dehydrated butter and ghee.
(b) Includes production from the residual fat of low fat
milk products.
(c) Includes farmhouse manufacture.
(d) These figures include the use of these products for animal
feed.
(e) In addition to stocks in public cold stores surveyed
by Defra, closing stocks include all intervention stocks in private
cold stores.
Total domestic uses does not equate exactly with consumption since
changes in unrecorded stocks are not included in the calculation.
(f) Cheese stocks held in public cold stores. Public coldstores
make their storage space available to the public or to the Rural
Payments Agency,
formerly the Intervention Board. The ownership of the store whether
public or private is irrelevant.
(g) Includes condensed milk used in the production of chocolate
crumb and in the production of sweetened and unsweetened machine
skimmed milk.
| Million litres (unless otherwise specified)
| | | |
Calendar
years |
| 1999 | 2000
| 2001 | 2002 |
| | (a) |
| (provisional) |
| Population and Yield | |
| | |
| Dairy herd (annual average, `000 head) (b)
| 2,445 | 2,354 | 2,251
| 2,219 |
| Average yield per dairy cow (litres per annum)
| 5,964 | 5,977 | 6,347
| 6,531 |
| Production | |
| | |
| Production of milk from the dairy herd (c)
| 14,581 | 14,071 | 14,285
| 14,488 |
| Production of milk from the beef herd (c) |
7 | 7 | 7 | 7
|
| less on farm waste and milk fed to stock |
285 | 277 | 283
| 282 |
| Volume for human consumption | 14,303
| 13,801 | 14,009 | 14,213
|
| Value of production (£ million) | 2,653
| 2,393 | 2,822 | 2,489
|
| of which: | |
| | |
| milk (d) | 2,586
| 2,300 | 2,658 | 2,397
|
| milk products (e) | 76
| 86 | 85 | 92
|
| agrimonetary compensation |
. . | 22 | 79 |
. . |
| less levies (f) | 9
| 15 | . . | . .
|
Prices (pence per litre) (g) |
| | | |
| Farmgate price of milk excluding bonus payments
| 18.30 | 16.91 | 19.14
| 17.04 |
| Farmgate price of milk including bonus payments
| 18.35 | 16.93 | 19.26
| 17.13 |
Supply and Use (h) |
| | | |
| Production | 14,588 | 14,078
| 14,292 | 14,523 |
| Imports | 111 | 105
| 64 | 74 |
| Exports | 465 | 445
| 414 | 427 |
| Total domestic use | 14,234
| 13,737 | 13,942 | 14,170
|
| of which: | |
| | |
| for liquid consumption | 6,853
| 6,768 | 6,761 | 6,829
|
| for manufacture | 6,988 |
6,550 | 6,715 | 6,874
|
| of which: | |
| | |
| butter (i) | 290 | 270
| 259 | 289 |
| cheese | 3,297 | 3,032
| 3,568 | 3,576 |
| cream (i) | 271 | 266
| 259 | 253 |
| condensed milk (j) | 603 |
522 | 536 | 504
|
| milk powder—full cream | 853
| 932 | 781 | 776
|
| milk powder—skimmed | 1,123
| 889 | 663 | 794
|
| other | 549 | 640
| 649 | 682 |
| Dairy wastage and stock change | 56
| 91 | 132 | 105
|
| Other uses (k) | 338 | 328
| 335 | 361 |
| |
| | |
Source: Defra Statistics
(a) 366 days.
(b) Dairy herd is defined as cows and heifers in milk plus
cows in calf but not in milk, kept mainly for producing milk or
rearing calves for the dairy herd.
(c) Excludes suckled milk.
(d) Value of milk sold for processing off farm. Excludes
milk processed on farm and sold direct to the consumer.
(e) Value of milk products manufactured on farm for sale
direct to the consumer.
(f) Comprising milk co-responsibility levy from 1977 to 1993
and milk superlevy.
(g) The farmgate price is the average price received by milk
producers, net of delivery charges. No deduction is made for superlevy.
In the current year,
estimated bonuses for April to December have been included.
(h) Aggregated data from surveys run by Defra, SEERAD and
DARD, NI on the utilisation of milk by dairies.
(i) Includes the utilisation of the residual fat of low fat
liquid milk production.
(j) Includes condensed milk used in the production of chocolate
crumb and in the production of machine skimmed milk.
(k) Includes farmhouse consumption, milk fed to stock and
on farm waste. Excludes suckled milk.
10. UK per capita consumption of liquid milk is about
20% above the EU average, although lower than in the Netherlands
and Denmark. However, UK per capita consumption of cheese is about
half of the EU average. Overall, consumption of liquid milk is
declining at around 1-2% per annum, with consumption of other
products remaining stable or increasing slightly.
11. Around 65% of household consumption of liquid milk
is purchased through multiple retailers (Doorstep delivery has
declined to around 20% of the market), with around 80% of household
purchases of other milk products being made through multiple retailers.
However, milk powders, butter, cream and cheese are all widely
used in other processed products and the food service sector is
increasing in importance.
Ev 110 Environment, Food and Rural Affairs Committee: Evidence
12. Despite, or perhaps because of, the large part of
UK milk production used for the liquid milk market, the overall
value of UK of the products into which UK milk is processed is
lower than in most other Member States. Research by London Economics
for KPMG[11]found that
in 2001 the value of a basket of dairy products produced by the
UK was the lowest of the 12 Member States it studied. The average
retail value of the products made from 1 litre of milk in the
UK was only 43 pence, compared to an average for the 12 countries
considered of 54 pence.
UK MILK PRICES
AND DAIRY
FARM INCOMES
13. There can be little doubt that farmgate milk prices
have been low over the last few years compared to their historical
levels and that this has been reflected in dairy farm incomes.
14. The farmgate price of milk is influenced by a number
of factors. The sterling-euro exchange rate can play a key role
when Community prices are at intervention levels and for products
that are subject to significant trade between the UK and other
Member States, such as butter and cheese. The effect of exchange
rates on the theoretical floor to farmgate prices provided by
intervention can be represented by the Intervention Milk Price
Equivalent (IMPE), which is a theoretical price that would be
obtained if all milk were converted into the intervention products[12],
butter and skimmed milk powder (SMP). However, supply and demand
on world and Community markets are also important, as are the
level of stocks of products. Community prices can therefore be
significantly above intervention levels and the theoretical returns
to producers correspondingly higher. This can be represented by
the Actual Milk Price Equivalent (AMPE), which is calculated using
average market prices, rather than intervention prices.
15. The relationship between farmgate prices and commodity
prices are illustrated in the table above, which shows farmgate
price against IMPE and AMPE. Although only illustrative, rather
than statistically demonstrable, it does suggest that allowing
for seasonal variations, farmgate price follows AMPE, but with
a lag of a few months.
16. Even for products that are relatively isolated from
Community and world prices, such as liquid milk and some branded
products, the prices paid for raw milk to make them will be influenced
by the price paid for milk to make other products. If returns
from one outlet for raw milk are significantly higher than from
other outlets, then sellers will compete for that premium. Since
milk is a relatively homogenous product, the main point of competition
will be price, which will tend to erode any premium.
17. Neverthess, exchange rates and the evolution of EU
and world commodity prices are not sufficient to explain why UK
milk prices are constently lower than the EU average expressed
in euros. This issue was also examined by KPMG They highlighted
a number of factors that might explain this. These included:
— the structure of the UK industry (see para 5 and
6 above);
— the low value of the product mix (see para 12
above);
— the low level of product innovation within the
UK compared with some Member States.
Selling price of raw cows milk, 3.7% fat content: EU
15 (euros per kg)
| 1998 |
1999 | 2000 | 2001
|
| Belgium | 27.47 | 26.33
| 27.44 | 29.93 |
| Denmark | 30.8 | 30.26
| 30.86 | 32.34 |
| Germany | 29.52 | 28.47
| 30 | 32.82 |
| Greece | 32.72 | 33.69
| 33.47 | 35.62 |
| Spain | 27.99 | 27.33
| 27.05 | 30.33 |
| France | 28.52 | 28.11
| 28.81 | 29.99 |
| Ireland | 27.92 | 26.66
| 27.2 | 28.56 |
| Italy | 34.84 | 34.23
| : | : |
| Luxembourg | 31.45 | 30.65
| 30.53 | 32.73 |
| Netherlands | 30.59 | 28.62
| 29.15 | 31.27 |
| Austria | 27.64 | 27.76
| 27.83 | 31.76 |
| Portugal | 28.39 | 28.49
| 28.97 | 32.17 |
| Finland | 32.05 | 32.15
| 32.72 | 33.97 |
| Sweden | 32.71 | 33.11
| 34.74 | 31.22 |
| United Kingdom | 26.76 |
26.13 | 26.09 | 25.57
|
| |
| | |
Source: Eurostat
THE DAIRY
CAP
18. The primary mechanism of the Common Organisation of the
Market in Milk and Milk Products is price support through intervention
purchases of butter and skimmed milk powder (SMP). This provides
a floor to Community markets and maintains prices for these products
and, as a consequence, other milk products significantly above
world levels. Community prices are typically 150% higher than
world prices for butter and 35% for SMP. These artificially high
prices have provided an incentive to produce more than the market
demands and to restrain production by curtailing the build-up
of intervention stocks, milk quotas were introduced in 1984. However,
the level of milk quotas is still such that the Community has
a structural surplus of milk products and various disposal measures
are used to prevent this resulting in increased intervention stocks.
19. Subsidised usage schemes are available to encourage
the use of butter and SMP. For example, the use of butter in pastry,
ice-cream and making concentrated butter is subsidised, as is
the use of SMP in animal feed. These schemes are designed to offset
the competitive disadvantage that these products would otherwise
face due to their increased price relative to alternatives (ie
vegetable oils for butter). Usage is subsidised either through
selling intervention stocks at a reduced price or offering an
aid to use product on the open market. Usage of these schemes
can be significant and as much as 25% of EU butter consumption
is subsidised.
20. Another consequence of EU support prices is the need
for high tariffs to prevent Community markets being flooded by
products from third countries operating at world prices. The current
EU bound-rates under the GATT are sufficiently high to keep out
imports other than those enjoying a preferential tariff rate (ie
under GATT minimum or current access quotas, or through bi-lateral
trade agreements). To allow EU exporters to compete on world markets
and to keep the Community market in balance, export refunds are
paid on exports of milk and milk products. Both the value and
volume of subsidised exports are limited under the GATT, although
normally these limits do not act as a major constraint. However,
it is likely that any further agreement at the WTO would eventually
lead to significantly lower tariffs for dairy products and much
more restrictive limits on subsidised exports.
21. Total expenditure on the Dairy CAP in 2002 was around
2 billion euros of which around 300 million euros was spent in
the UK. The total benefit to UK dairy farmers through improved
farmgate prices was maybe in the order of 1 billion euro. The
cost of the higher prices largely falls to UK consumers. Since
intervention prices, aid rates for subsidised usage and export
subsidies are denominated in euros, the sterling-euro exchange
rate can play a significant role in determining UK prices when
Community prices are at intervention levels.
LUXEMBOURG AGREEMENT
22. The main elements of the CAP reform package agreed
at Luxembourg relating to the dairy sector are:
— 15% price support cut for skimmed milk powder
phased in over 3 years from 2004 (the same as agreed under Agenda
2000, but brought forward a year);
— 25% price support cut for butter phased in over
four years from 2004 (a 10% increase over Agenda 2000 and commencing
1 year earlier);
— butter intervention limited to the period between
1 March and 31 August each year and an annual volume limit introduced
after which automatic intervention is suspended or replaced by
intervention by tender (both these elements already exist for
skimmed milk powder intervention);
— the introduction of direct payments for milk producers,
in the form of the Dairy Premium and Additional Payment, phased
in over 3 years from 2004 (introduction brought forward 1 year
from Agenda 2000 and maxium aid rate increased);
— dairy direct payments to be incorporated into
the decoupled Single Payment Scheme from 2007, but Member States
have the option to bring this forward to 2005 in certain circumstances;
— extension of the milk quotas regime until 2014
from 2008; and
— an overall 1.5% increase in milk quotas phased
in between 2006 and 2008 (same level as Agenda 2000, but delayed
1 year).
The areas in which Member States have discretion relate to
the criteria on which to pay the addittional payment element of
the dairy direct payments and date of their inclusion in the Single
Payment Scheme, together with the criteria for allocating the
additional milk quota to producers. Defra is currently undertaking
a consultation on these options, which closes on 3 February 2004.[13]
IMPLICATIONS FOR
FARMGATE PRICES
AND DAIRY
FARM INCOMES
OF THE
LUXEMBOURG AGREEMENT
ON CAP REFORM
23. The reforms of the dairy CAP agreed at Luxembourg
will reduce support prices for butter by 25% (10% more than under
Agenda 2000). We have estimated that the net effect of these changes
to the market support measures for the dairy sector will be to
reduce total producer returns in the UK by 50 million euros and
increase expenditure by UK taxpayers by 160 million euros. However,
consumers should benefit from lower prices and when payments are
decoupled, the dairy sector should benefit from the resulting
efficiency gains, which we have estimated to be be worth 500 million
to 1 billion euros across all agricultural sectors.
24. The projected fall in producer incomes results from
the fact that the cuts in support prices are not fully compensated
by the introduction of direct payments. When fully implemented
the cuts agreed at Luxembourg will reduce the Intervention Milk
Price Equivalent by 4.38 pence per litre (at an exchange rate
of 70 pence to a euro). This represents a further reduction of
0.95 pence per litre over the cuts agreed under Agenda 2000. However,
the level of compensating direct payments will now be higher,
rising to 2.52 pence per litre (at an exchange rate of 70 pence
to a euro), compared to 1.78 pence per litre under Agenda 2000.
Although this represents compensation at a higher rate than agreed
under Agenda 2000, it will not fully offset the reduction in prices
if they fall to the same extent as the price support cuts.
25.Furthermore, once dairy payments are decoupled the effect
on farm incomes will depend on the type of Single Payment Scheme
instituted. Our initial analysis[14]
suggests that direct payments to the dairy sector as a whole would
be about 10% lower under an area based single payment than under
a historic entitlement approach. Within this overall figure, on
average small and medium size dairy farms would gain, although
large dairy farms would lose significantly under an area based
approach. We are still considering which approach to adopt or
whether to adopt a hybrid approach.
26. Whilst it is safe to assume that farmgate prices
will fall as a a result of the reforms, it is less clear that
they will fall to the full extent of the price support cuts, especially
if the lower prices lead to a contraction of supply. Most analysts
are expecting some contraction of dairy production in the short
term, with recovery as more efficient producers expand in the
medium term. This is likely to accelerate the existing trend towards
fewer, larger, dairy farms. The extent of any contraction and
the speed of any subsequent restructuring is likely to depend
on the extent to which producers treat their direct payements
as decoupled, rather than use them to support dairy production.
Under the umbrella of the Dairy Supply Chain Forum, Defra, together
with the MDC and the Dairy Industry Association (DIAL) supported
by the NFU have commissioned a short study to examine these issues.
This should be available later this month and will be published
on the Defra web site.
SCHOOL MILK
SUBSIDY SCHEME
27. As part of the dairy CAP, Member States are required
to make the EU school milk subsidy scheme available to primary
and nursery schools wishing to participate; participation is entirely
a matter for the school or LEA. The UK applies only the mandatory
elements of the EU scheme, subsidising plain and flavoured whole
and semi-skimmed milk and plain whole and semi-skimmed milk yoghurt.
The maximum daily quantity per pupil on which aid can be granted
is the equivalent of 0.25l of milk. In practice, most milk is
supplied as whole milk in 1/3 a pint servings.
28. The Government recognises the nutritional benefits
of developing milk-drinking habits early in life and Defra, together
with DfES and DH jointly fund a national top-up to the EU subsidy
of up to £1.5 million a year in England. The taxpayer also
bears the cost of some 70% of the EU subsidy. In 2001-02 the aid
paid out in Great Britain amounted to over £9 million. We
believe the dairy industry must also play a part in promoting
the consumption of milk by school children and welcome the efforts
it is making in this area.
REFORM OF
THE WELFARE
FOOD SCHEME
29. Under the Welfare Food Scheme operated by the Department
of Health beneficiaries are issued with tokens which may be exchanged
for seven pints of liquid milk a week and free milk is provided
to children aged under five in certain day care facilities (complementing
the school milk subsidy scheme). The DH has consulted on proposals
to reform the WFS whereby fixed face value vouchers would be issued
to cover a range of foods still including milk. The provision
of nursery milk would be replaced by the provision of milk or
fruit. It is likely that these measures would reduce the consumption
of milk but it must be recognised that the new scheme aims to
improve public health, not to support the dairy industry. DH does,
however, recognise the industry's concerns and has held discussions
on options for doorstep deliverers to diversify into the supply
of foods other than milk.
January 2004
2
See para 12 of annex. Back
3
See paras 23-25 of annex. Back
4
See para 8 of annex. Back
5
"Prices and Profitability in the British Dairy Chain: Report
to the Milk Development Council", KPMG, 2003. Back
6
Farming and Food: A Sustainable Future, Policy Commission
on the Future of Farming and Food, January 2002. Back
7
Supermarkets: a report on the supply of groceries from multiple
stores in the United Kingdom, Competition Commission, October
2000. Back
8
Strategy for Sustainable Farming and Food, Defra, December
2002. Back
9
Prices and Profitablity in the British Dairy Chain: Report
to the Milk Development Council, KPMG, 2003. Back
10
See, for example The End of the Road: Consolidation of the
UK Dairy Industry, West LB Panmure, 2000. Back
11
Prices and Profitablity in the British Dairy Chain: Report to
the Milk Development Council, KPMG, 2003. Back
12
In practice, it is a somewhat higher figure, since whilst the
calculation takes into account processing costs it does not allow
for the cost of collecting milk from farms. Back
13
see http://www.defra.gov.uk/corporate/consult/dairy-capreform/index.htm,
for further details. Back
14
CAP Reform Implementation: Distributional Impact of Area Based
vs Historic Payment Schemes, which is available at http://www.defra.gov.uk/corporate/consult/capreformthree/econanalysis-031031.pdf Back
|
