United States

Department of

Agriculture

Administrative

Publication

Number 076

July 2004

Economic Effects of

U.S. Dairy Policy and

Alternative Approaches 

to Milk Pricing

Report to Congress 
Acknowledgments

The study was coordinated by Don Blayney and Mary Anne Normile of

USDA’s Economic Research Service. The coordinators gratefully acknowledge the contributions of David Anderson, Texas A&M University; Joseph

Balagtas, University of California-Davis; Scott Brown, University of

Missouri; Oral Capps, Texas A&M University; Tom Cox, Bob Cropp and

Hooman Dabidia, University of Wisconsin; Thomas Fiddaman, Ventana

Systems, Inc; Ken Hanson, USDA, ERS; Hal Harris, Clemson University;

Ron Knutson, Texas A&M University; James Miller, USDA, ERS; Mitch

Morehart, USDA, ERS; Charles Nicholson, Cornell University; Victor

Oliveira, USDA, ERS; Joe Outlaw, Texas A&M University; J. Michael

Price, USDA, ERS; James Richardson, Texas A&M University; Robert

Schwart, Texas A&M University; Sara Short, USDA, ERS; Mark

Stephenson, Cornell University; Daniel Sumner, University of CaliforniaDavis; and Cameron Thraen, Ohio State University. The authors express

sincere thanks to Mary Bohman, USDA, ERS; Dan Colacicco, USDA, FSA;

Neilson Conklin, USDA, ERS; Ralph Dutrow, USDA, FAS; Anne Effland,

USDA, ERS; Bruce Gardner, University of Maryland; Larry Hamm,

Michigan State University; Jay Hirschman, USDA, FNS; James Johnson,

USDA, ERS; Jeff Kahn, USDA, OGC; Paul Kiendl, USDA, FAS; Milton

Madison, USDA, FSA; Lynn Maish, USDA/OBPA; Alden Manchester,

(retired) USDA, ERS; Jim MacDonald, USDA, ERS; Howard McDowell,

USDA, AMS; John Mengel, USDA, AMS; James Miller, USDA, ERS;

Janet Perry, USDA, ERS; Larry Salathe, USDA, OCE; Scott Steele, USDA,

OBPA; Richard Stillman, USDA, ERS; Daniel Sumner, University of California-Davis for their valuable review comments; to Chris Dicken, Lou

King, and Anne Pearl, USDA, ERS, for editorial and design assistance; and

to Coco Clayton, Lewrene Glaser, Agnes Prentice, and LaVerne Creek,

USDA, ERS, for their work to produce the compact disc version of the

report.

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Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

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Contents

Overview . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3

Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .10

The Evolution of the Modern Dairy Industry . . . . . . . . . . . . . . . . . . . . . . .13

The Changing Demand for Dairy Products . . . . . . . . . . . . . . . . . . . .14

Changes Beyond the Farmgate . . . . . . . . . . . . . . . . . . . . . . . . . . . . .17

On the Farm—The Changing Structure of Dairy Farming . . . . . . . .22

Public Policy in the Dairy Industry . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .36

Federal Milk Marketing Orders . . . . . . . . . . . . . . . . . . . . . . . . . . . . .38

Federal Milk Price Support Program . . . . . . . . . . . . . . . . . . . . . . . .43

State Pricing and State-Mandated Over-Order Premiums . . . . . . . .46

Interstate Dairy Compacts . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .46

Direct Payments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .48

Dairy Export Incentive Program . . . . . . . . . . . . . . . . . . . . . . . . . . .48

Other Dairy Programs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .49

Policy Conflicts . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .50

Regional Effects of Dairy Programs . . . . . . . . . . . . . . . . . . . . . . . . .51

The Effects of National Dairy Programs . . . . . . . . . . . . . . . . . . . . . . . . . . .55

Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .55

Dairy Program Effects on National Market Indicators . . . . . . . . . . .55

National Dairy Program Effects on Price Level and Volatility . . . . .62

National Dairy Program Effects at the State Level . . . . . . . . . . . . . .63

Effects of National Dairy Programs on Farms . . . . . . . . . . . . . . . . .64

National Dairy Programs’ Effects on Food and 

Nutrition Programs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .67

National Dairy Program Effects on Rural Economies . . . . . . . . . . .68

Summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .70

An Alternative Milk Pricing Approach . . . . . . . . . . . . . . . . . . . . . . . . . . .72

The Northeast Interstate Dairy Compact . . . . . . . . . . . . . . . . . . . . . .72

Compacts in Lieu of Federal Dairy Programs . . . . . . . . . . . . . . . . .75

Summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .82

Implications for State Pricing and State-Mandated

Over-Order premiums . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .83

Conclusions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .84

References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .87

Appendix A: Mandate for Dairy Study from the 2002 

Farm Security and Rural Investment Act . . . . . . . . . . . . . . . . . .98

Appendix B: Summary of Legislation Affecting 

National Dairy Policy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .99

Appendix C: FAPRI and FAPSIM Baseline Values

for Selected Dairy Industry Indicators . . . . . . . . . . . . . . . . . .102

Appendix D: Overview of Nutrition Programs . . . . . . . . . . . . . . . . . . . . .103

Glossary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .106
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Overview

The U.S. Congress, in the Farm Security and Rural Investment Act of 2002

(the 2002 Act), directed the Secretary of Agriculture to conduct a “comprehensive economic evaluation of the ... effects of the various elements of the

national dairy policy.” The Act further directed the Secretary to study the

effects of (a) terminating Federal milk price support and supply management programs, and (b) allowing State cooperation to manage milk prices

and supply. Both studies deal with similar questions that relate to the effects

of government policies on economic outcomes. For this reason, the two

studies are combined into this single report. 

This report examines the effects of national dairy policy and its component

programs as defined in the 2002 Act on milk and dairy product markets,

farm households, nutrition programs, and the rural economy.1 These

programs include: 

• Federal milk marketing orders,

• the Federal milk price support program,

• State pricing programs and State-mandated over-order premiums,2

• interstate dairy compacts,3

• direct payments to milk producers, and

• the dairy export incentive program (DEIP).

The report focuses on the following questions: what have been the measurable effects of dairy programs on economic variables—price level and

volatility, milk production, and producer revenues? How have these market

impacts in turn affected farms, rural economies, and nutrition programs?

How might States cooperate to support prices in the absence of a Federal

price support program? The standard tools of economic analysis are used to

address these questions, but there are also other forces at work that have

influenced the dairy sector. Changes in the dairy sector should be considered in a larger context with a longer-run perspective. Thus, the first part of

this report answers another, related question: what factors can we identify

that have been responsible for changes in the dairy sector?

Dairy Policy in the Context of 

Structural Change

Many of the individual programs that make up U.S. dairy policy were originally designed to deal with the industry’s structure in the 1930s, when most

milk production (60 percent) was destined for fluid consumption, markets

were predominantly local, and many dairy enterprises were part of diversified farming operations. Today, the largest share of milk is used for manufactured dairy products (especially cheese) rather than fluid milk; markets

for manufactured dairy products are national in scope; and dairy farms are

highly specialized, many of them large-scale industrial-type farms. 

Production technologies that provide economies of scale have led to

increased specialization and to consolidation on both sides of the farmgate.

On the farm, milk yields per cow have increased steadily as a result of

genetic improvement, better herd management, and adoption of technolo1Programs identified in the 2002 Act

are primarily domestic. Because the

Act did not request an analysis of the

effects of trade measures—and to better isolate the effects of dairy programs on the U.S. industry—current

levels of import protection for dairy

products are assumed to remain in

place.

2The qualifier “State-mandated” has

been added by the authors to distinguish over-order premiums regulated

by State dairy programs from marketgenerated over-order premiums that

are not part of any dairy program.

3Interstate dairy compacts are not part

of current dairy programs.
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Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

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gies that promote output growth. For example, over the last 40 years, milk

yields have grown even faster than corn yields, with an average annual rate

of growth of 2.2 percent compared with 1.8 percent for corn (fig. 1.1).

With milk yields growing faster than milk consumption, fewer cows are

needed to meet milk demand, leading to a decline in the size of the U.S.

dairy herd. Fewer cows, coupled with increased economies of scale, led to

a decline in the number of U.S. dairy farms of more than 70 percent

between 1980 and 2003, while average herd size more than tripled (fig.

1.2). 

Figure 1.1

Milk yield per cow outpaces corn yields

0

20

40

60

80

100

120

140

160

180

200

0

20

40

60

80

100

120

140

160

180

200

Corn

Milk

Bushels per acre Hundred pounds per cow 

1960 65 70 75 80 85 90 95 00 03

Source: USDA, ERS from USDA, NASS data.

0

50,000

100,000

150,000

200,000

250,000

300,000

350,000

400,000

1980 1985 1990 1995 2000 2003

0

20

40

60

80

100

120

Source: USDA, ERS from USDA, NASS data.

Dairy farm numbers decline while average herd size grows

Figure 1.2

Dairy farms

Dairy farms

Average cows per farm

Cows per farm
Change in the dairy industry has varied across the United States over the

past several decades. Dairy product markets have become essentially

national in scope, driven by advances in transportation and processing

technologies. Similar factors have expanded fluid milk markets, although

fluid production still tends to be located close to major consumption areas.

Milk production overall has shifted from traditional milk producing areas

(close to 20th century population centers) to areas with an underlying

comparative advantage in milk production. Less expensive land, favorable

climate that permits large-scale operations with lower housing costs, the

availability of high-quality and low-cost feed, access to hired labor, and

proximity to major new markets for dairy products have all contributed to a

westward shift in the U.S. dairy industry (fig. 1.3). While milk production

for fluid use remains concentrated near large population centers, production

of milk for manufacturing uses is increasingly located in low-cost areas—

the West and Southwest. Manufactured product plants follow milk production, and as milk production has expanded in western areas, so have new,

large-scale cheese plants. 

Dairy Policy Has a Modest Impact

Seventy years of Federal intervention in dairy markets makes it difficult to

quantify the full impacts of national dairy policy, since it is not possible to

know how today’s industry would look in the absence of dairy programs.

However, economic models simulating the effects of removing current dairy

programs provide broad insights into dairy policy’s implications for milk

producers, consumers, and the rural economy. 

An examination of dairy program impacts suggests that Federal dairy

programs raise the all-milk price by only about 1 percent, and raise total

producer revenues (returns plus government payments) by 3 percent, on

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Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

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Note: Units are million pounds of milk.

Source: USDA, ERS from USDA, NASS data.

Figure 1.3

Milk production shifts West

Change in milk production by farm production region, 1980-2003
average, over 5 years. Shortrun effects of policy can be significantly larger.

Estimated effects of government programs would also be greater in years of

low prices. While producers are, as a whole, better off with dairy programs,

these programs do raise consumer costs (modestly) and increase government expenditures. 

Dairy programs can have countervailing effects. For example, the Milk

Income Loss Contract (MILC) program, by increasing producer returns

through production-linked payments, expands production and thereby

reduces the milk price. Without the MILC program, the remaining dairy

programs raise the all-milk price by 4 percent (compared to about 1 percent

with MILC), on average, over 5 years.

Because they have modest effects on prices and returns, Federal dairy

programs have a limited impact on profitability and viability of dairy farms,

increasing the share of farms that cover all costs by 5 percent in the short

run (fig. 1.4). By increasing farm-level returns, these programs may enable

high-cost farms to remain in business longer, but only in the short to

medium term. In the longer run, high-cost farms will have difficulty

competing with low-cost dairy producers. Higher prices improve the profitability of low-cost dairy producers, which may enable them to expand

production and gain market share. 

The stability of prices and returns is especially important to dairy farms

since they tend to be less diversified and more dependent on income from

the farm business than other farms. An analysis of dairy program effects on

the milk price suggests that price supports and the MILC program may lead

to modestly lower price variability. 

The effect of dairy programs on farms varies regionally. An analysis of

dairy program effects on the financial conditions of representative farms

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Figure 1.4

Dairy programs increase number of farms covering economic costs 

by 5 percent

0

20

40

60

80

100

0 0.5 1 1.5 2

Costs per dollar of revenue ($)

With policy Without policy

Low-cost

farms cover all 

economic costs

Mid-cost

farms close to 

financially viable

High-cost

farms require other 

sources of income

29%

24%

Source: USDA, ERS from USDA, NASS data.

Cumulative percent of farms
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around the United States reveals that the current policy structure may lower

the returns of some Western dairies. 

Dairy programs raise the retail price of fluid milk and lower the prices of

manufactured products such as butter and cheese. This affects both

consumer expenditures on food and the cost of operating food and nutrition

programs. The Special Supplemental Nutrition Program for Women,

Infants, and Children (WIC) is a discretionary grant program funded by

annual appropriations. The number of participants depends on the appropriation and the cost of operating the program. To the extent that dairy programs

increase the retail price of fluid milk and other dairy products—products

that make up a large share of the WIC food package—they have the potential to reduce program participation. Other food and nutrition programs are

entitlement programs, and their costs are indexed to price indices that

increase Government outlays when dairy programs raise product prices.

Higher prices are therefore unlikely to affect participation. However, higher

dairy prices can affect how Food Stamp recipients choose to spend their

food dollars. 

National dairy programs have almost no impact on aggregate economic

activity. Both nationally and at a broad regional level, the industry’s impact

on employment is less than 0.1 percent of total employment. In areas that

are highly dependent on milk production, impacts are likely to be greater.

Because farm input (like machinery and fertilizer) production is located in

metropolitan areas—as is much of the upstream processing and distribution

activity—dairy programs very likely have greater impacts on metropolitan

than on nonmetropolitan employment. Moreover, a comprehensive assessment of dairy programs’ impacts on the national economy should consider

the costs associated with additional taxes required to cover dairy program

budgets.

State Management of Milk Supplies and 

Prices Raises Difficult Issues

Milk markets have a long history of State intervention. In the era when a

city’s milk supply was produced locally and milk markets were driven by

fluid consumption, States had a greater ability to affect prices without

running afoul of interstate commerce laws or contending with competition

from other States. However, as milk markets have become increasingly

integrated across State boundaries, the potential for effective State-level

intervention in dairy markets has diminished. Today, of the major milkproducing States, only California and Pennsylvania set minimum prices for

milk to any great extent. 

Congress requested an analysis of State or regional market intervention as an

alternative approach to Federal milk price support. The analysis extends the

model of the Northeast Interstate Dairy Compact (NEIDC) by hypothesizing

the formation of three interstate compacts grouped along the lines of existing

Federal Milk Marketing Orders (FMMO) and roughly approximating regions

proposed for Compact authorization in legislation introduced in both the

107th and 108th Congresses.4 Other FMMO regions are assumed to remain

outside the compacts. The study assumes that these compacts are imple4H.R. 1827, introduced May 14,

2001; S. 1157, introduced June 29,

2001; and H.R. 324, introduced

January 8, 2003.
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mented while eliminating the Federal milk price support program (there is no

Federal supply management of milk), but all other programs—primarily

MILC and Federal milk marketing orders—are assumed to remain in place.

This scenario provides some general insights into the economic and policy

issues associated with State and/or regional management of milk prices.

In general, compacts establish a minimum regional price that processors

are required to pay for Class I milk, the milk used in fluid beverage products. When the compact price is greater than the FMMO price, the difference (or some share of it) is returned to producers selling milk in the

compact region. Higher returns to these producers lead to increased milk

production, and fluid milk consumption drops as consumers react to the

higher retail prices. The resulting excess supply of milk above fluid

requirements within the compact region spills over to the manufacturing

milk market. As a result, manufacturing milk prices decline, as does the

price of fluid milk in areas outside the compacts. These effects are greatest

during low-price years.

As long as fluid utilization is high enough, returns to dairy farmers

supplying the compact region increase as the higher fluid milk price more

than offsets any decline in the price of manufacturing milk. However, lower

manufacturing milk prices are felt nationally and returns to dairy farmers

outside the compact region decline. Farmers in regions with higher levels of

manufacturing use for their milk suffer the greatest losses because they

receive no MILC payment to dampen the loss of revenues from fluid milk. 

In this scenario, farmers in the Southeast compact region reaped the largest

gains while milk producers in the Southwest and Arizona (non-compact

regions) suffered the greatest losses. Direct payments under the MILC

program would offset some of the impact on farmers outside the compact

region.5 Consumers both outside and within the compact region benefit

from lower prices for manufactured dairy products. However, consumers

within compact regions spend more on fluid milk, while consumers outside

the compact region would spend less on fluid milk. 

Thus, the general net effect of an interstate compact is to benefit dairy

farmers within and consumers outside the compact region. The costs of the

compact are borne by consumers within the compact region, by dairy

farmers outside compact areas, and, in the event direct payments are

continued, by taxpayers. 

Compacts may provide regional price support, as long as a large proportion

of production in the compact region is sold into the higher priced fluid milk

market, but are unlikely to substitute for price support on a national level.

Extending compacts across the entire country would increase the impact on

national milk production. Without some form of supply control, higher fluid

prices applied to all producers would induce increased milk production that

would spill over to the manufacturing milk market, driving down the price

of milk for manufacturing use even further. The average producer price

across all uses would decline further, rendering price management efforts

ineffective. 

5The analysis assumed that MILC continued following the introduction of a

compact.
This analysis raises questions regarding other means of State support. Were

States to pursue a support program similar to the Federal milk price support

program, States would need to address the issues of program funding, how

price support levels would be established, and, if product purchase programs

were implemented, the disposition of product stocks. If supply control

programs were adopted, additional considerations include establishing and

enforcing quota levels and penalties or incentives for compliance. Such

systems raise questions regarding cross-border issues—how to deal with

milk flowing to areas with different price support or quota levels. While

State or regional management of milk prices has received considerable

attention as a possible alternative to current policy, this analysis suggests

that it likely raises even more difficult issues than current policy.

Conclusions

The analysis shows that effects of dairy programs on markets are modest

and current dairy programs are limited in their ability to change the longterm economic viability of dairy farms.

Other forces—technology, changing consumer demand, and changes in the

marketing and processing sectors—while difficult to measure, are likely

more important to the future of the dairy industry. 

While State or regional dairy policy approaches have received much attention, this analysis suggests that they may increase producer returns in States

or regions that implement them, but can reduce returns elsewhere.

Extending these approaches nationwide, in the absence of an underlying

Federal milk price support program, is unlikely to increase producer returns

without requiring supply control measures. 

Future policies should include clearly defined goals to devise targeted measures that take into account underlying forces driving the transformation of

the U.S. dairy sector.

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Introduction

National dairy policy and the programs designed to promote it have been in

existence in various forms for about 70 years. Dairy programs now include

price support and product storage, import protection, marketing regulations

that set minimum prices by use and pool revenues for producers, export

subsidies, and direct producer payments. The dairy industry of today—from

the farm level through processing, manufacturing, distribution to retailing—

has been shaped in part by the mix of policies and programs in effect

throughout its development. 

The U.S. Congress, in the Farm Security and Rural Investment Act of 2002

(the 2002 Act), directed the Secretary of Agriculture to conduct a “comprehensive economic evaluation of the ... effects of the various elements of the

national dairy policy.” The Act further directed the Secretary to study the

effects of (a) terminating Federal milk price support and supply management programs,1 and (b) allowing State cooperation to manage milk prices

and supply. (See Appendix A for the sections of the Act that comprise the

mandate for the two studies.) Since both studies focus on similar questions

that relate to the effects of government policies on economic outcomes, they

are combined into a single report. 

The 2002 Act defines “national dairy policy” to mean the dairy policy of the

United States as demonstrated by the following programs: 

• Federal milk marketing orders,

• the Federal milk price support program,

• State pricing programs and State-mandated over-order premiums,2

• interstate dairy compacts,3

• direct payments to milk producers, and

• export programs such as the dairy export incentive program 

(DEIP).

The 2002 Act also defines the primary questions to be addressed 

in this report: 

• What are the effects of dairy policy on farms and rural economies? 

• How do these policies affect government nutrition programs, 

participating institutions, and program recipients? 

• What are the impacts of dairy policy on markets for dairy products? 

Any attempt to evaluate the effects of dairy programs must recognize that

forces other than national dairy policy have influenced the dairy sector’s

development and contribute to economic outcomes. Changes in demand;

advances in production, transportation, and communication technology; the

expanding scope of markets for dairy products; and productivity growth

have been important factors. Consolidation at all levels of the industry can

be explained by these forces and the incentive to reduce costs by exploiting

economies of scale in a competitive industry. Many of these factors are

responsible for regional shifts in milk production. The role of dairy

1There are currently no supply management programs for milk or dairy

products in the United States.

2The qualifier “State-mandated” has

been added by the authors to distinguish over-order premiums regulated

by State dairy programs from marketgenerated over-order premiums that

are not part of any dairy program.

3Interstate dairy compacts are not part

of current dairy programs.
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programs has at times been to support milk producer prices and/or incomes

to help them deal with the impacts of some of these forces. 

Observations of the changing structure of the dairy sector frequently

underlie policy concerns. The extensive structural changes that have taken

place throughout the U.S. dairy industry have been the result of many

forces, not all policy-related. “The Evolution of the Modern Dairy

Industry” assesses the forces influencing the dairy sector and, where

possible, relates changes in the structure of the dairy industry to the interaction between dairy programs and other forces.

“Public Policy in the Dairy Industry” provides a brief description of the

dairy programs covered by the study, and places them in the context of the

evolution of U.S. dairy policies and programs. This chapter is intended to

provide an overview of the operations of the programs that will be evaluated in subsequent chapters.

“The Effects of National Dairy Programs” presents the results of the

analyses of the effects of four key Federal dairy programs. (State and

regional dairy programs are addressed in “An Alternative Milk Pricing

Approach.”) A multifaceted approach to analyzing the effects of the dairy

programs is necessary given the wide range of issues to be addressed.

Model-based analyses provide quantitative estimates of the effects of dairy

policy on market outcomes—price, revenue, production, and consumption.

Several quantitative analytical frameworks are used to provide the modelbased analysis in “The Effects of National Dairy Programs,” including two

farm sector models, a representative farms model, an Input-Output model,

and a system dynamics model.

Because at least some national dairy programs have been in place for many

decades, there are effectively no observations of the modern U.S. dairy

industry in the absence of government policy.4 Consequently, a modified

“counterfactual” approach was used to derive estimates of dairy program

effects. A simulation of the dairy industry without programs is compared

with a baseline industry simulation that includes programs. Effects derived

from the simulation results are then applied in other analytical frameworks

to estimate program effects on representative dairy farms and subnational

economies. The system dynamics model is used to evaluate changes in

selected dairy programs as they relate to milk price volatility

“An Alternative Milk Pricing Approach” examines the implications of

adopting an alternative mechanism for establishing minimum milk prices

while at the same time eliminating the Federal milk price support program.

In doing so, this chapter analyzes the effects of interstate compacts in

general. An interregional model of the dairy sector is used to examine the

effects of replacing the Federal price support program with a system of

interstate dairy compacts, similar to the Northeast Interstate Dairy Compact

(NEIDC). While there are numerous possible scenarios for interstate cooperation to manage prices, the NEIDC provides a historical model for cooperative efforts by States.

4While we have no observations of the

U.S. industry in the absence of extensive dairy programs, the experience of

policy reform in other countries may

provide some insights. Australia's

deregulation of their dairy industry is

described in an ABARE report on the

impact of an open market in fluid milk

supply at: http://abareonlineshop.com/

product.asp?prodid=12204. The U.S.

International Trade Commission has

reviewed this report in Conditions of

Competition for Milk Protein Products

in the U.S. Market, Investigation No.

332-453, Publication 3692, May 2004.

ftp://ftp.usitc.gov/pub/reports/studies/p

ub3692.pdf, p. 4-44 through 4-47.
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This report is a synthesis of the results of several studies by a team of dairy

industry experts including personnel of the Economic Research Service

(ERS) of the U.S. Department of Agriculture and researchers at several

universities. The quantitative analysis of farm sector impacts was undertaken by ERS, using the Food and Agricultural Policy Simulator (FAPSIM),

and by the University of Missouri Food and Agricultural Policy Research

Institute (FAPRI) using the FAPRI dairy model (Price, 2004; Brown, 2003).

The effects of dairy programs on farms were analyzed using the Farm Level

Income and Policy Simulator (FLIPSIM) model developed at the Texas

A&M University (Outlaw et al., 2003). The analysis of the effects of dairy

programs on the volatility of dairy prices was performed using a System

Dynamics model developed at Cornell University (Nicholson and

Fiddaman, 2003). Impacts of dairy programs on rural economies were

developed by ERS using an Input-Output model (USDA, ERS, 2004). The

analysis of the effects of dairy programs on farm viability was based on

ERS’ Agricultural Resource Management System (ARMS) data (Morehart

et al., 2000). The analysis of the impacts of cooperative efforts by States to

manage minimum prices was carried out using the University of WisconsinMadison Dairy Sector Interregional Competition Model (Cox and Dabidia,

2003). Knutson et al. (2003) contributed the summary of studies of the

effects of the Northeast Interstate Dairy Compact in “An Alternative Milk

Pricing Approach.” Contributors to “The Evolution of the Modern Dairy

Industry” and “Public Policy in the Dairy Industry” included researchers

from the Texas A&M University (Anderson et al., 2003; Knutson et al.,

2003); the University of Wisconsin-Madison (Cropp, 2003); Clemson

University (Harris, 2003); University of California, Davis (Balagtas and

Sumner, unpublished); and ERS (Blayney and Miller, 2003). ERS

personnel provided overall project coordination, established the guidelines

for analyzing the dairy program effects by defining the scenarios for

analyzing program effects, and produced the final synthesis report. 

The complete studies underlying many of the analyses presented in this

report may be found on the web site of the Cornell Program on Dairy

Markets and Policy (http://www.dairy.cornell.edu/CPDMP/Pages/Workshops/Memphis03/), and on the ERS web site (Price, 2004;

http://www.ers.usda.gov/publications/tb-1910).
The Evolution of the Modern

Dairy Industry

Understanding the current state of the U.S. dairy industry and how it has

changed over time is fundamental to a comprehensive economic evaluation

of policy effects on the industry. This chapter examines changing demand

for dairy products; changes in dairy processing, manufacturing, milk

assembly, and distribution; structural change at the farm level; and changes

in public policy—and identifies the forces underlying these changes. 

Consolidation has changed the structure at all levels of the dairy industry—

fluid processing, product manufacturing, producer cooperatives, and at the

farm level. Advances in transportation, distribution, communication, and

information technology have continued to expand the scope of dairy

markets, lead to greater market integration, and change the nature of dairy

markets from local markets for primarily fluid milk to national markets

where manufacturing milk is dominant. These advances have allowed the

market to be served by fewer, larger operations. Farm production systems

have changed, new production systems have emerged, and production

continues to be increasingly industrialized as labor is replaced with

machinery and equipment. Productivity growth has allowed more milk to be

produced with fewer cows, reduced production costs, and allowed producers

to realize efficiencies from economies of scale. Dairy farms have become

larger and more specialized in milk production, although there are still a

large number of small dairy farms. 

Changing consumer demand for dairy products has affected the structure of

dairy farms. Slow growth in demand for dairy products, coupled with

productivity growth, is driving this change. Since 1980, consumption of all

dairy products has increased by 1.4 percent per year, while milk per cow

has risen by an average of 2.1 percent per year (USDA, NASS). Fewer

cows are needed to satisfy demand, but new dairy technologies require

larger farms to justify the cost of adoption, resulting in fewer dairy farms

(Cropp and Stephenson, 2001). 

Regional shifts in milk production are a manifestation of some of the underlying forces shaping the dairy industry. The growth of milk production in

the Western United States and the emergence of large operations in this

region have resulted in increased regional concentration of milk production,

whereas farms remain more dispersed regionally. These shifts can have

important impacts on the long-term prospects of milk producers in regions

where production is declining.

Dairy policy has responded to structural change and the market conditions

that give rise to this change as policymakers address problems that result

from the effects of structural adjustment. National dairy policy has played,

and continues to play, a role in the industry’s evolution, but the importance of policy as an agent of change is surpassed by the influence of

these other factors. 

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1 Note: terms in bold italics are

defined in the glossary.

At the same time, policy has been influenced by changes in the dairy sector.

Institutions that comprise the U.S. dairy industry form an extensive and

highly interrelated system, and changes in any or all of these institutions can

require change in individual dairy programs (Hamm, 1991). Even though

many of the policies examined in this report have been in effect since the

1930s and 1940s, the programs designed to achieve the policy objectives

have been substantially changed in response to changes in market conditions.

The Changing Demand for Dairy Products

Changes in the demand for milk and dairy products have contributed to the

transformation of the dairy industry. Per capita consumption of dairy products

in the aggregate has risen over the past 20 years, while trends vary among

individual products—fluid milk consumption has declined and cheese

consumption has increased (table 2.1). Rising incomes, demographic shifts,

and changing preferences have contributed in varying ways to consumer

demand for individual dairy products. For example, fluid milk products,

1

which were once the major use for milk, now represent 36 percent of milk

utilization (fig. 2.1). Other products, especially cheese, are the primary source

of demand for milk. The shift in consumption from perishable fluid milk

toward more storable and easily transported manufactured dairy products has

contributed to the development of an increasingly national market for milk. 

Total sales of fluid milk are now virtually the same as in the mid-1970s,

while per capita consumption has declined. A number of factors have

contributed to this decline, including a smaller share of children in the

population, the increase in meals eaten away from home, children’s greater

control over their food consumption, and stronger and more diverse competition from other beverages, particularly carbonated soft drinks, fruit and

high-energy drinks, and bottled water. The negative effect of income on

milk consumption is due to the increase in meals away from home as

incomes rise. Since most fluid milk is consumed at home, fluid milk

consumption falls as consumers eat out more frequently. 

As incomes continue to rise, per capita consumption of fluid milk is

expected to decline further, while per capita consumption of cheese and

yogurt is expected to increase (Lin et al., 2003). Population growth is

projected to outpace growth in per capita consumption of other dairy products such that total consumption is expected to rise. 

Cheese has become a key element of dairy demand, with per capita

consumption increasing by 75 percent between 1980 and 2002. Rising

family incomes, the increased use of cheese as an ingredient in cooking, and

increased consumption of cheese-heavy ethnic foods (like Italian and

Mexican) have all expanded cheese use. The greater diversity and availability of cheeses has also fueled increases in total sales.

Less than half of all cheese is now sold at retail as cheese, but it is a major

ingredient in many other foods sold through restaurants and grocery stores.

The shift from at-home food preparation to consumption of partially or fully

prepared foods has benefited cheese sales. Pizza and similar products may

account for as much as one-third of total cheese use, and have been among

the most important contributors to overall demand for dairy products.
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Table 2.1—Dairy products: per capita consumption, 1980-20031

Evaporated and Frozen dairy Dry All

Cheese condensed milk products products products

Bulk and Other Dry Nonfat Dry Milk

Fluid milk Canned, Bulk, canned Ice Ice frozen whole dry butter Dry equivalent,

Year and cream2 Butter American Other Cottage whole whole skim cream milk Sherbet products3 milk milk milk whey4 milkfat basis

Pounds

1980 246 4.5 9.6 7.9 4.5 2.8 1.0 3.3 17.5 7.1 1.3 0.3 0.3 3.0 0.2 2.7 5431981 242 4.2 10.2 8.0 4.3 2.9 1.2 3.2 17.4 7.0 1.3 0.6 0.4 2.1 0.2 2.7 5411982 236 4.4 11.3 8.6 4.2 2.7 1.3 3.0 17.6 6.6 1.3 0.6 0.4 2.1 0.2 2.9 5551983 236 4.9 11.6 8.9 4.1 2.7 1.1 3.2 18.1 6.9 1.3 0.6 0.4 2.2 0.2 3.1 5731984 238 4.9 11.9 9.6 4.1 2.4 1.3 3.7 18.2 7.0 1.3 0.6 0.4 2.5 0.2 3.2 5821985 241 4.9 12.2 10.4 4.1 2.2 1.4 3.8 18.1 6.9 1.3 1.3 0.4 2.3 0.2 3.5 5941986 240 4.6 12.1 11.0 4.1 2.2 1.4 4.3 18.4 7.2 1.3 0.9 0.5 2.4 0.2 3.7 5921987 237 4.7 12.4 11.7 3.9 2.2 1.5 4.2 18.4 7.4 1.3 1.0 0.5 2.5 0.2 3.6 6011988 237 4.5 11.5 12.2 3.9 2.1 1.4 4.2 17.3 8.0 1.3 1.0 0.6 2.6 0.2 3.5 5831989 237 4.4 11.0 12.8 3.6 2.0 1.1 4.7 16.1 8.4 1.3 2.8 0.5 2.1 0.2 3.5 5641990 233 4.4 11.1 13.5 3.4 2.2 1.0 4.8 15.8 7.7 1.3 3.7 0.6 2.9 0.2 3.7 5681991 232 4.3 11.0 13.9 3.3 2.0 1.1 5.0 16.3 7.4 1.2 4.3 0.4 2.6 0.2 3.6 5641992 229 4.3 11.3 14.6 3.1 2.1 1.1 5.2 16.2 7.0 1.3 4.3 0.5 2.8 0.2 3.8 5661993 224 4.6 11.3 14.7 2.9 1.9 1.1 5.1 16.0 6.9 1.3 5.0 0.4 2.4 0.2 3.8 5691994 223 4.8 11.4 15.1 2.8 1.8 0.8 5.5 16.0 7.5 1.3 4.8 0.4 3.5 0.2 3.8 5801995 221 4.4 11.7 15.2 2.7 1.5 0.8 4.5 15.5 7.4 1.3 4.8 0.4 3.4 0.2 3.3 5761996 220 4.3 11.8 15.5 2.6 1.5 0.8 4.0 15.6 7.5 1.3 3.8 0.4 3.7 0.2 3.3 5661997 216 4.1 11.8 15.7 2.6 1.7 0.8 3.9 16.1 7.8 1.3 3.2 0.4 3.3 0.2 3.2 5671998 213 4.4 11.9 15.9 2.7 1.4 0.6 4.1 16.3 8.1 1.3 3.4 0.4 3.2 0.2 3.3 5721999 213 4.7 12.6 16.4 2.6 1.5 0.6 4.4 16.7 7.5 1.3 3.1 0.4 2.8 0.2 3.2 5852000 210 4.5 12.7 17.1 2.6 1.5 0.5 3.8 16.6 7.3 1.2 2.9 0.3 2.6 0.2 3.8 5932001 207 4.4 12.8 17.2 2.6 1.5 0.5 3.4 16.3 7.3 1.2 2.2 0.2 3.2 0.2 3.5 5872002 206 4.4 12.8 17.6 2.6 1.8 0.5 3.7 16.4 6.5 1.3 2.1 0.2 3.1 0.2 3.4 58620035 204 4.5 12.7 17.9 2.7 1.9 0.5 3.1 17.4 6.7 1.3 2.0 0.2 3.4 0.2 3.4 5941Based on total population except for fluid products (resident population).2Product weight of beverage milks, fluid creams, egg nog, and yogurt.3Includes mellorine. May not be comparable across time.4Includes modified whey products.5 Preliminary.

Source: ERS, from NASS data.
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However, the rate of growth in cheese consumption appears to be slowing

as the U.S. market approaches saturation. 

Demand for quality-enhancing ingredients is expected to grow along with

markets for pre-prepared foods. Milkfat and skim solids add flavor and

functional quality to many processed foods. Dairy components like whey

products and lactose have been a growth area in dairy demand, particularly

as intermediate ingredients in foods. Demands for milk-based fractions,

such as casein and whey proteins, and other dairy components have grown

due to their desirable nutritional and functional characteristics and the logistical and cost advantages associated with storage and transport of dry products. New markets are expected to emerge for milk protein fractions with

growing consumer and processor awareness of their benefits and increased

demand for products that incorporate them.

Another important aspect of changing demand has been the shift in

consumption from whole-fat to reduced- or low-fat milks and other dairy

products (fig. 2.2). These changes are consistent with increased public

concern about cholesterol, saturated fat, and calories. Increased consumption of reduced-fat milk has released butterfat that is used in ice cream and

cheese production without producing a corresponding amount of nonfat dry

milk. However, as cheese consumption has expanded, milkfat consumption

has increased despite the shift in fluid milk consumption.

The prices of milk and dairy products, both own prices and prices relative to

other food products, also influence consumption. The relationship between

price and quantity demanded can be expressed numerically by the concept

of an elasticity.2 Estimates of the demand elasticity for all dairy products

indicate that their demand is inelastic, or insensitive to price changes (table

2.2). When demand is inelastic, lower retail prices will result in a loss of

industry revenue. This response is transmitted through the marketing chanFigure 2.1

Milk utilization, 1975 and 2002

0

20

40

60

80

100

120

140

160

180

1975 2002

Other products

(25%)

Cheese

(25%)

Fluid milk

(50%)

(13%)

(51%)

(36%)

Source: ERS, from NASS, AMS data.

112.3

168.6

Billion lbs. milk

2An elasticity expresses the percentage

change in the quantity demanded of a

product that results from a 1-percent

change in its price. When quantity

demanded changes by less than 1 percent, demand is considered to be relatively insensitive to price change, or

“inelastic.” If quantity demanded

changes by more than 1 percent, then

demand is responsive to price change,

or “elastic.” The elasticity measure

allows the analyst to determine the

expected impact of a price change on

total revenue. If demand is inelastic, a

1-percent reduction in price will

reduce total revenue (while a 1-

percent increase in price will increase

total revenue). Elastic demand would

result in an increase in total revenue

from a 1-percent price reduction (and

a reduction in total revenue from a 1-

percent price increase).
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nels and ultimately affects producer returns. The empirical estimates of

demand responsiveness suggest that dairy price reductions, whether they

result from increased productivity or dairy policy actions, reduce aggregate

producer returns. 

Changes Beyond the Farmgate

The dairy sector is an interrelated and integrated market system in which

changes in the structure and organization of one part of the sector affect the

others. Developments in the processing, distribution, and assembly

sectors—fluid milk processors, dairy product manufacturers, and producer

cooperatives—are documented in order to explain the forces driving overall

change in the dairy sector and the changing policy environment. 

Dairy processing and manufacturing

Processing and manufacturing are considered as two separate subsectors.

Processing refers to production of fluid milk products and manufacturing

covers all the other dairy products. At every level of this sector, consolidation has resulted in fewer participants and larger unit size (whether the unit

6

8

10

12

14

16

18

1980 1985 1990 1995 2000

Figure 2.2

Consumption of beverage milk: whole fat and lower fat

Lower fat milk

Whole fat milk

Source: USDA, ERS, Food Consumption Data System.

Gallons per capita

Table 2.2—Selected estimates of price elasticity of demand for dairy

products

Product Elasticity estimate (%) Source

Fluid milk -0.63 Heien and Wessels, 1988

-0.076 Helmberger and Chen, 1994

Cheese -0.52 Heien and Wessels, 1988

-0.33 Huang, 1985

Butter -0.73 Heien and Wessels, 1988

-0.17 Huang, 1985
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is a cooperative, a plant, or a firm). Structural change in this sector has been

driven by both supply and demand factors. 

Throughout the processing and manufacturing sector, fewer plants process

fluid milk and manufacture dairy products. As advances in technologies

associated with milk handling, storage, processing, manufacturing, and

marketing have continued to create economies of scale and eroded dis

economies, profit-seeking firms have expanded production facilities to take

advantage. Plant size (measured by volume produced or sold) has grown

considerably, providing evidence that scale economies are important in all

segments of processing and manufacturing. Improved packaging, better

coordination among storage and distribution activities, and transportation

improvements have reduced the higher costs associated with increased plant

size, such as higher distribution costs resulting from an industry structure of

fewer and more centralized plants. 

Developments in information technology have also improved coordination

of product movement both within and between firms. Pressure from downstream businesses, including high-volume retailers, large restaurant chains,

and food processors, have spurred dairy processors and manufacturers to

grow large enough to serve customers efficiently; to satisfy requirements for

more retail and other support activities, adoption of compatible technologies, improved product quality and uniformity, and production to firmspecific standards; as well as to offset market power of the large

downstream entities (Kaufman, 2000; Blayney and Miller, 2003).

Structural change in processing and manufacturing has also been induced by

supply changes. Despite advances in transport and other technologies that

favor more centralized operations, many dairy processing and manufacturing

firms still prefer to have an adequate, readily available local milk supply for

plant operations. Farm milk production is geographically dispersed, and there

are still cost advantages in producing perishable products close to consumers.

Regional shifts in milk production have contributed to changes in the location

of processing and manufacturing. As a result of the growth of milk supplies in

Idaho, California, New Mexico, and Washington, butter, cheese, and nonfat

dry milk production are increasingly located in the West. 

Changes in consumer demand for dairy products have stimulated changes in

product mix, structure, and organization. Fluid milk processing has been

affected by changing demand for fluid products. Processors have struggled

with changing fluid milk consumption, and have aggressively restructured

in the face of sluggish fluid demand.3 The number of fluid milk processing

plants has declined continuously, while the average volume processed per

plant has increased (fig. 2.3).4 The number of firms has contracted as large

proprietary fluid milk processing companies have consolidated through

mergers and acquisitions. Over time, scale economies have been the major

factor influencing consolidation of fluid processing plants, as the minimum

efficient size continues to increase (Manchester and Blayney, 1997). New

technologies in fluid processing raise costs, requiring a larger volume to

cover costs. Fluid milk processing produces a homogenous product, with

little opportunity for product differentiation, so lower costs are critical to the

plant’s ability to compete (Manchester and Blayney, 1997). In recent years,

3For more information on structural

change in the processing and manufacturing sector, see Blayney and

Miller, 2003; Miller, 2002; and

Manchester and Blayney, 1997.

4This pattern of declining plant numbers and increasing plant size can be

seen in all segments of the dairy processing and manufacturing sector.

Similar figures for the other subsectors are not reproduced here, but can

be found in Blayney and Miller, 2003. 
fluid milk processors have consolidated in response to consolidation at the

retail level. The rise in supermarket mergers in the 1990s created incentives

for fluid processors to consolidate to meet the demands of large retail

accounts (U.S. GAO, 2001). 

In contrast, firms that produce cheese and other products used in ethnic,

prepared, and away-from-home food have benefited from the growth in

demand for these products. Fueled by changes in eating habits, U.S. production of natural cheese has more than doubled since 1980, and has shifted

from primarily American cheese varieties to other-than-American cheeses,

like Italian varieties (fig. 2.4). Shifts in milk use from primarily fluid milk

to primarily cheese have eased the constraints of distance, allowing product

to be shipped greater distances and permitting greater centralization of

manufacturing plants. Since 1980, the number of plants has fallen roughly

by half. Combined with rising production, the average plant size has more

than tripled (Blayney and Miller, 2003). 

Demand for ingredients that are high in protein or have other nutritional or

functional properties has expanded the market for dry products (e.g., nonfat

dry milk, whey, and casein), assisted by the development of new technologies that allow milk to be fractionated into its most basic components.

Manufacturers can isolate and use components with desired characteristics

in other manufactured dairy products or in a variety of nondairy foods. Dry

dairy products and components provide benefits to users by reducing

byproducts or waste, reducing costs associated with perishability, and

providing greater flexibility in plant location decisions (Stephenson, 2002). 

Concentration measures have risen for nearly all segments of the dairy

industry (table 2.3).5 However, concentration rates are not as high as for

other food processing industries, such as breakfast cereals and soybean

processing, where the market share of the top four firms is in the 80-percent

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Figure 2.3

Fluid milk plants and volume processed per plant, 1980-2001

0

200

400

600

800

1,000

1,200

1980 1985 1990 1995 2000

0

20

40

60

80

100

120

140

160

Source: USDA, AMS; Annual California Dairy Industry Statistics.

Plants

Volume per plant

Plants Million product pounds

5Fluid milk processing is primarily a

local or regional industry, and much

higher degrees of concentration characterize many local or regional markets (U.S. GAO, 2001). Also, the data

in table 2.3 predate the 2001 merger of

two large fluid milk processing companies, Dean Foods and Suiza Foods

(Blayney and Miller, 2003).
range. Concentration among dairy processors and manufacturers and their

customers has reduced the number of participants in the market and encouraged contracts or other forms of prearranged transactions. With fewer

buyers and sellers, participants have begun to produce to custom—rather

than standard—specifications, and are producing less of the commodity

products that are traded on markets.6

Dairy product manufacturing occupies a key role from a policy perspective—American cheese, butter, and nonfat dry milk are purchased under the

milk price support program (described in “Public Policy in the Dairy

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Figure 2.4

U.S. consumption of natural cheese, 1980-2002 

0.00

5.00

10.00

15.00

20.00

25.00

30.00

35.00

1980 2002

Miscellaneous

(20%)

Italian

(25%)

American

(55%)

(17%)

(41%)

(42%)

Source: ERS, from NASS data.

17.5

30.6

Pounds per capita

Table 2.3—Measures of concentration: market shares of largest U.S. dairy

manufacturers/processors, 1963 and 19971

Industry Year Share of total value of shipments of largest firms (%)

4 largest 8 largest 20 largest 50 largest

Creamery butter 1963 11 19 31 48

1997 57 76 97 100

Cheese, natural 1963 44 51 59 69

and processed 1997 43 55 74 87

Dry, condensed, and 1963 40 53 71 90

evaporated dairy 1997 69 78 87 96

products

Ice cream and 1963 37 48 64 74

frozen desserts 1997 39 54 76 90

Fluid milk 1963 23 30 40 48

1997 23 35 52 73

1For data sources and methods, see Blayney and Miller, 2003.

Source: U.S. Department of Commerce, Economic Census.

6For more information on structural

change in the processing and manufacturing sector, see Blayney and Miller,

2003; Miller, 2002; and Manchester

and Blayney, 1997.
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Industry”). The operations of processors and manufacturers, as they deal

with both milk producers and dairy product consumers, are influenced by

public dairy policies. For example, milk marketing orders affect the

minimum price that manufacturers pay for fluid-grade milk used in manufacturing and that processors pay for milk used in fluid products. In some

instances, milk processors’ prices are higher than they would be in the

absence of minimum pricing regulations. 

Dairy cooperatives

Cooperatives play an important role in the dairy industry as intermediaries

between member producers and their customers. Cooperatives are owned by

producers, and one of their principal functions is providing members an

assured market for their product. Some dairy cooperatives’ sole function is

marketing milk to fluid processors and dairy manufacturers and negotiating

the best price for their members (“bargaining” cooperatives). Others perform

many commercial functions, from milk assembly to milk processing and

manufacturing of dairy products to distribution. Milk’s perishability, the

constant flow of the product, the lack of synchronization between demand

and supply, and the inability to quickly adjust supply in response to demand

changes creates the need for short-term balancing of supply and demand.

Cooperatives have taken on much of the balancing function by coordinating

assembly and distribution of milk from producer-members among the

various users of milk and by processing it into fluid products or other products with longer shelf lives (like butter, nonfat dry milk, and cheese). In

2002, dairy cooperatives handled about 86 percent of farm marketings of

milk, a share that has grown over time and is larger than shares of other

commodity cooperatives (Kraenzle and Eversull, 2003; Ling, 2004). 

There are considerably fewer dairy cooperatives now than 20 years ago, but

they handle larger volumes of milk and serve wider geographic areas (table

2.4). Consolidation trends in the rest of the dairy industry have been a

primary reason for consolidation among cooperatives (U.S. GAO, 2001).

Consolidation among cooperatives usually followed consolidation among

handlers or distributors, which had unbalanced the established power relationship. Consolidation allows cooperatives to integrate their operations in

order to exploit economies of scale, more efficiently use manufacturing

capacity, and reduce administrative overhead and transport costs (U.S.

GAO, 2001). Dairy cooperatives are increasingly entering into strategic

alliances, including joint ventures with proprietary firms, to ensure outlets

for milk of their members.

A Federal law grants producer cooperatives limited exemptions from

antitrust regulations, which allows them to use collective action to achieve

and maintain market power. Thus, for example, cooperatives may be in a

better position to bargain with processors for prices that are higher than

Table 2.4—Number of dairy cooperatives and market share, 1980-2002

Year Number of dairy cooperatives Farm-level share of farm marketings (%)

1980 435 77

2002 196 86

Source: USDA, Rural Business-Cooperative Service.
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Federal-order minimum prices. These over-order premiums may be associated with quality and services and temporary changes in supply not considered in Federal-order minimum prices. Market power also derives from the

fact that, although cooperatives do not regulate producer-members’ milk

production, they control the disposition of the milk supply. In addition,

over-order premiums reflect short-term market conditions, which can

generate prices that exceed minimum prices.

Dairy cooperatives’ market power is closely tied to the treatment of cooperatives under Federal milk marketing orders. Federal-order minimum

prices give cooperatives a basis from which to negotiate for over-order

premiums (Cropp, 2003). Marketing orders allow cooperatives to vote on

behalf of all their members (bloc voting). Because the initiative for a market

order must come from producers, or from producers through cooperatives,

bloc voting enables cooperatives to have considerable say in the establishment of an order (Manchester, 1983). 

On the Farm—The Changing Structure 

of Dairy Farming

Dairy farming has undergone extensive structural change in the past two

decades. Many of the changes that have taken place in the dairy sector are

the result of market conditions (including those identified in the previous

section), technological change, productivity growth, economies of scale, and

regional shifts. Not all structural change is the result of policy, but these

changes may result in adjustment costs that can become policy issues. 

Dairy farming has several characteristics that distinguish it from other types

of farming and complicate policy responses to dairy farm adjustment issues.

Dairy farms have broad geographic distribution, reflecting the need to

produce a bulky perishable product (fluid milk) near consumption centers.

Much of the existing policy structure was initially developed to deal with

these localized markets. As dairy markets have expanded, dairy programs

have changed. For example, consolidation of Federal milk marketing orders,

which resulted in fewer and larger orders, was undertaken to reflect the

changing geographical boundaries of milk markets (USDA, RBS, 2002).

Dairy farming today is characterized by a multitude of production systems,

each with different capital requirements and cost structures. Dairy farming has

become a highly specialized type of agriculture, with specialized capital and

high labor inputs. As a result, adjustment to change may be difficult because

dairy farmers are less able to diversify as a strategy for managing risk. Dairy

producers are also more dependent on farm income as a major contribution to

household income than most other farmers, and are therefore less able to

cushion the effects of adverse price movements with nonfarm income. 

Structural change in dairy farming is of interest because of concerns about

the economic and social effects of different production systems. As large

industrial-style dairies have become increasingly important, concerns about

environmental impacts have grown. The increased size of dairy farms and

the declining share of smaller dairies have also raised concerns about

competition in dairy markets and the viability of small farms. Because many
of the largest dairies are in the West, where milk production is growing,

shifts in competitiveness and measures to deal with their effects have

become increasingly divisive regional issues. 

Milk production: more milk from fewer cows 

Driven by genetic and technological improvements, milk output per cow

since 1980 has risen by nearly 50 percent and production has increased by

nearly one-third, while cow numbers have declined (fig. 2.5). The number

of dairy farms has declined by over 70 percent and the average size of dairy

operations has increased, while the number of milk cows per farm has more

than tripled (fig. 2.6). In 1980, over 60 percent of all dairy farms were in

the smallest size class (1-29 cows). This share declined to less than 30

percent by 2002, while shares for larger operations increased (fig. 2.7). By

2002, dairy farms were more diverse in size, with farm numbers distributed

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Figure 2.5

Milk production and cow numbers, 1980-2002

100,000

110,000

120,000

130,000

140,000

150,000

160,000

170,000

180,000

1980 1985 1990 1995 2000

6,000

7,000

8,000

9,000

10,000

11,000

12,000

Cow numbers

Milk production 

Million pounds Thousand head

Source: USDA, ERS from USDA, NASS data.

0

50,000

100,000

150,000

200,000

250,000

300,000

350,000

400,000

1980 1985 1990 1995 2000 2003

0

20

40

60

80

100

120

Source: USDA, ERS from USDA, NASS data.

Dairy farms and average cows per farm, 1980-2003

Figure 2.6

Dairy farms

Dairy farms

Average cows per farm

Cows per farm
more evenly across all size classes. Although dairy farms with small herds

still outnumber farms with very large herds, production is increasingly

concentrated on the largest farms. In 2002, 70 percent of all milk cows were

on farms with 100 or more head (fig. 2.8), and farms with 200 head or more

accounted for the greatest share of milk production (fig. 2.9). Dairy operations with 500 or more head, which represent only 3 percent of all dairy

farms, now produce over 40 percent of the milk. 

Changes in the structure of dairy farms are the result of several factors, but

technological change, increased productivity, and economies of scale are the

most important. The interaction of these factors, combined with relatively

slow growth in demand for dairy products, has spurred the trend toward

fewer and larger dairy farms. 

Technological change over time allowed for increased production efficiency,

the substitution of capital for labor, and reduced per unit production costs.

Adoption of technologies that resulted in increased profits have allowed

dairy farmers to increase the size of their operations (Anderson et al., 2003).

At the same time, some new technologies require a larger farm to be cost

effective. Dairy farmers can increase milk output by expanding herds,

increasing milk production per cow, or both. Better understanding of

animal health and nutrition, improved genetics, improved management practices, and treatments such as the milk-stimulating hormone rBST have

helped increase milk production per cow. Since 1980, milk produced per

cow has risen by an average of 2.1 percent yearly, while milk consumption

(in all products) over the same time period increased by an average of only

1.4 percent—meaning fewer cows are needed to meet demand. 

Average herd size growth is frequently attributed to economies of size or

scale. Some producers are able to reduce average milk production costs,

and thereby increase profits, by increasing milk output. Fixed milk production costs contribute to decreasing average costs as output increases. Larger

operations may be able to use modern milking facilities more efficiently by

24

Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

U.S. Department of Agriculture

Figure 2.7

Distribution of dairy operations by herd size, 1980-2002

0

10

20

30

40

50

60

70

1980 1990 2002

1-29 head 30-49 head 

50-99 head 100+ head 

Source: USDA, NASS.

Percent of operations
spreading the fixed costs of equipment over a larger number of cows

(Jackson-Smith and Barham, 2000). Volume discounts on purchased inputs

(such as feed) and on milk shipping charges, and volume premia paid to

large milk producers, may also contribute to economies of size. Technological advances in dairy facilities, equipment, and management practices have

reduced the diseconomies associated with larger herds, allowing producers

to expand. Empirical evidence supports a claim of decreasing average

production costs for milk (Matulich, 1978; Moschini, 1998).

Federal feed grain policy has been a force behind the rise of industrial-style

dairy farms and has contributed to the shift of dairy production to the West.

Federal grain policy has for many years subsidized feed grain production

and encouraged abundant feed grain supplies. With the availability of subsi25

Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

U.S. Department of Agriculture

Figure 2.8

Distribution of milk cows by size of operation, 1980-2002

0

10

20

30

40

50

60

70

80

1980 1990 2002

Percent of milk cows

1-29 head 30-49 head 

50-99 head 100+ head 

Source: USDA, NASS.

Figure 2.9

Distribution of milk production by farm size, 1993-2002

0

10

20

30

40

50

60

70

1993 2002

1-29 head

30-49 head

50-99 head

100-199 head

200+ head

Source: USDA, NASS.

Percent of milk production
26

Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

U.S. Department of Agriculture

7Hamm, Larry G., Michigan State

University, personal communication.

dized feed grains, the dairy cow was altered from being a harvester of

grasses and legumes grown on marginal crop land and in locations with

marginal crop-growing weather into a consumer of energy in the form of

grains. Since 1985, reductions in support prices have made feed grains less

expensive due to Federal programs that increasingly relied on direct

payments rather than price support and acreage restrictions to maintain

grower returns. These changes helped make it possible to locate large dairy

farms in hospitable climates without the need for extensive land requirements.7

The distributional effects of dairy programs can vary with farm size. Price

supports without production limits, while available to all producers, provide

more support as the size of the operation increases. However, output-limited

payments like those provided by the Milk Income Loss Contract (MILC)

program provide greater relative support to smaller operations. Moreover, as

average herd sizes tend to vary by region, dairy programs may have

different regional impacts. 

Production systems may affect costs

Dairy farming is characterized by a variety of production systems. Some

production systems are more adaptable to some areas of the country than

others. Different production systems have implications for the competitiveness and longrun viability of dairy farms and regional dairy industries

because of the close association between production systems and production

costs.

Specialized dairy operations can be categorized in a variety of ways into a

few basic types of production systems. The following is a broad characterization that focuses on feeding and housing methods that affect production costs.

• Confinement feeding systems may range from small to intermediate

size operations, where feed is primarily homegrown and labor is 

supplied mostly by the family, to large operations (500 or more 

cows) with free-stall barns and extensive use of purchased feed and

hired labor. Confinement operations are characterized by high capital requirements in buildings and machinery and their size may 

affect both costs and productivity.

• Pasture-based operations rely on grasses and other forages as the 

primary feed source. Pasture-based systems are characterized by 

reduced feed purchases, lower labor costs (cows harvest feed), and 

lower investment in machinery and buildings. A variant of this system, intensive rotational grazing, generally requires additional management skill involved with managing the pastures. Milk output per

cow may be lower than in other production systems, but profit may 

be higher because of reduced costs.

• Dry-lot operations are relatively new, developing as dairying grew 

on a large scale in arid and semi-arid regions, particularly the West.

Dry-lot systems generally feature a large number of cows, heavy 

use of purchased feed, and intensive, rather than extensive, use of 

land. They are among the lowest cost production systems because 
of low capital requirements and large size that allows for 

economies of size.

Each basic production system may vary according to the use of homegrown

feed or purchased feed, the number of cows, the use of hired versus family

labor, and other factors. Operations may also combine features of different

production systems (e.g., part pasture, part confinement). The production

system used will depend on climate; capital availability; availability of

pasture, water, and land; costs of other inputs like feed and labor; and the

producer’s skill or preference. 

It is impossible to make categorical statements about relative costs by type

of production system—efficient, competitive farms can be found in each

category. However, size matters. Larger operations benefit from the ability

to spread capital costs over more units of production, and generally make

more efficient use of inputs as the size of operation increases. Milk

producers in the West have been found to have a significant cost advantage

over producers in other regions because their operations are significantly

larger (Short, 2004). Most dry-lot operations, which tend not only to be

large but also have lower capital requirements, are located in the West,

which may contribute to the West’s lower unit costs. 

In 2000, more Western dairy producers (50 percent) were able to cover total

economic (operating and ownership) costs than operations in the upper

Midwest and Northeast (30 percent each). An even smaller share (20 percent)

of operations in the Corn Belt and Appalachia covered total economic costs

in that year (Short, 2004). Declines in regional production shares have given

rise to concerns about how to improve cost competitiveness in these regions

(Eberle et al., 2003; Jesse, 2002; LaDue et al., 2003). Increasing herd size to

reduce unit costs, adopting elements of lower cost production systems, or

reducing input costs are some of the options considered.

Milk production growing in the West 

Milk is produced in all 50 States and the top five in 2003 were California,

Wisconsin, New York, Pennsylvania, and Idaho. These States now account

for over half the Nation’s milk output. The top 10 States accounted for 71

percent of all U.S. milk production in 2003 compared with 66 percent in

1980, indicating a slight increase in regional concentration of milk output.

During that time period, New Mexico and Idaho—two of the fastest

growing milk-producing States—replaced the Corn Belt’s Ohio and Iowa in

the list of the top 10 producing States. While the fastest growth in milk

production has occurred in the West and Southwest, the Midwest and Northeast remain important milk-producing regions.

Despite the nationwide decline in dairy cows, a handful of States in the

West and Southwest have added cows. Since 1980, the average herd size of

dairy farms has risen several-fold in the Mountain, Pacific, Southeast, and

Southern Plains and more modestly in the traditional dairy-producing

regions (fig. 2.10). Traditional dairy-producing regions like the Lake States

and the Northeast still account for high (but declining) shares of milk cows. 

27

Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

U.S. Department of Agriculture
Most of the increase in aggregate U.S. milk production between 1980 and

2003 has been concentrated in the Mountain and Pacific States (fig. 2.11).

These States’ share of milk output doubled, from 19 percent in 1980 to 38

percent in 2002. Coupled with long-term milk output growth in California,

strong growth in milk production in southern Idaho, eastern New Mexico,

eastern Washington, and southwestern Kansas contributed to the growing

importance of Western regions as major sources of milk supplies (Blayney,

2002-a). 

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Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

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Figure 2.10

Change in farm size by farm production region, 1980-2002

Note: Farm size is measured in average number of dairy cows per farm.

Source: USDA, ERS from USDA, NASS data.

Note: Units are million pounds of milk.

Source: USDA, ERS from USDA, NASS data.

Figure 2.11

Milk production shifts West
Although milk production and cows are increasingly located in the West, the

greatest number of dairy farms continue to be in the traditional dairyproducing regions (Lake States, Northeast, and Corn Belt) (fig. 2.12). While

all regions have lost dairy farms since 1980, the percentage decline in farm

numbers was smallest in these traditional dairy-producing regions and

highest in the Southeast, Delta, and Appalachia. 

Several factors were responsible for the growth of dairy production in the

West: less expensive land; lower production costs; favorable climate that

permitted large-scale, dry-lot operations with lower costs; availability of

production inputs other than land (including consistent and high-quality

forage that allows for nutrient planning and certainty); access to hired labor;

strong population growth that created demand for fluid milk and dairy products; and easy access to population centers that are markets for dairy products. (For a discussion of the factors that have influenced the growth of the

dairy industry in California, see box, “California’s Dairy Industry.”) Production of milk for manufacturing use is increasingly located in the West and

Southwest. As milk production there has grown, milk supply has exceeded

fluid needs. Fluid utilization rates are relatively low—for example, 18

percent in California, 35 percent in New Mexico, and less than 10 percent in

southern Idaho. Manufacturing plants base location decisions on proximity

to milk supply rather than milk markets because their products are less

perishable than fluid milk and easier to ship.

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Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

U.S. Department of Agriculture

Figure 2.12

Dairy farm numbers decline throughout United States

Source: USDA, ERS from USDA, NASS data.

U.S.
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Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

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Changing economics of the dairy farm

Changes in farm income and the farm price of milk result from both market

forces and changes in the dairy program. These factors are affecting the

economics of milk production and may be creating pressures for additional

change in the sector.

Farm income and profitability. Many agricultural policies and programs,

including those for dairy, are designed to raise the level of farm income.

ERS research has shown that as the economic activities of farm households

have broadened, household income, household wealth, and other measures

that focus on the farm household are better indicators of the well-being of

farm families than the traditional farm income measure (Mishra et al.,

2002). Between 1991 and 2001, dairy farm household income was slightly

lower on average than the income of all farm households—$48,500 versus

$51,000—and was close to average U.S. household income (data are from

California’s Dairy Industry

California became the largest milk-producing state in 1993 and has

continued to grow since. In 2003, it accounted for almost 21 percent of

total U.S. milk production, and was also the largest producer of butter,

nonfat dry milk, ice cream, cottage cheese, and whey protein concentrates.

Cheese production is approaching that of the leading state, Wisconsin, and

is projected to surpass it.

Climate, geography, natural resources, population, and technology have

contributed to milk production and industry structure in California. An

almost ideal climate provides a significant cost advantage relative to colder

dairy-producing regions, and encourages large-scale intensive dairy operations with related economies of scale. The climate also favors the production of high-quality alfalfa as well as a large variety of crops whose

byproducts are often cost-effective alternatives to conventional feeds. California milk production and milk and dairy product demand centers are

geographically isolated relative to the rest of the United States, which has

tended to constrain milk shipments into and out of the State. Thus, California has always had to assure itself of sufficient in-State fluid milk

processing capacity. California’s large and diverse population benefits the

State’s dairy industry by providing growing demand for dairy products and

thus an impetus for industry growth. California’s dairy industry has also

benefited from early adoption of technology. 

California suffers from irregularity of winter rain and snowpack that supply

the water to the State’s vast water storage and distribution system. Water is a

crucial input for growing alfalfa, an important feed input to the dairy

industry. Among crops that benefit from water subsidies, alfalfa receives

the largest water subsidy, about $70 million (Kuminoff et al., 2000).

Several factors could significantly change the trajectory of California’s dairy

industry, notably water issues and environmental concerns. Competition for

water supplies from a rapidly increasing population threatens agriculture’s

historic claims. Continued water availability in the future is likely a

constraint on, rather than an advantage to, dairy production in California.

Larger dairies, like those that are typical of California, tend to be more

heavily targeted for environmental scrutiny (Jesse, 2002). 
the Agricultural Resource Management Survey, or ARMS—see box, “Agricultural Resource Management System (ARMS) Data”). During this period,

dairy farm household income ranged from 75 percent of the average income

for all U.S. households in 1994 to 120 percent in 1999 and 2001. 

Off-farm income, which includes earnings from off-farm employment,

income from nonfarm businesses, pensions, and earnings from various

household assets, has become more important to U.S. farm households for

meeting household expenses (Mishra et al., 2002). Between 1991 and 2001,

dairy farm households received a smaller share of their income—about onethird—from off-farm sources, compared with almost 90 percent for all

farms. Larger dairy farms also receive a smaller share of household income

from off-farm sources. If the trend toward larger dairy farms continues, offfarm income could comprise an even smaller share of dairy farm household

income in the future. 

Dairy farming is labor- and management-intensive, leaving less time for offfarm work than many other types of farming. In 1997, 79 percent of dairy

farmers reported no off-farm work, compared with 42 percent of all farmers.

Of those reporting any off-farm work, dairy farmers were much less likely

than farmers in general (about 40 percent compared with nearly 70 percent)

to work off-farm 200 or more days—essentially full-time. 

In addition to income level, variability of farm household income and

household wealth can affect the household’s financial well-being. Owing to

their dependence on farm income and the variation in dairy prices, dairy

farm households experienced higher levels of income variation than the

other types of farms studied (Mishra et al., 2002). The wealth (net worth) of

dairy farm households was among the highest examined, but it is held

mostly as illiquid farm assets, reflecting the large investment in specialized

equipment.

Dairy farm households are less likely to have off-farm income to supplement returns from milk production, so profitability of the dairy enterprise is

important. A long-term concept of profitability is defined as the difference

31

Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

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Agricultural Resource Management System (ARMS) Data

The primary source of data for farm accounts, including household

income, production costs, and farm profitability is the Agricultural

Resource Management Survey (ARMS). The ARMS survey collects data

from a sample of commercial farms that provides information about farm

financial conditions and agricultural resource use and costs. ARMS survey

data provides valuable information on the financial condition of dairy farm

households, including income, assets, and debts from farming and from

off-farm sources. Examining the sources, levels, and variability of income

and other measures of well-being may provide information not available

by focusing on performance of the farm business on how farm families

will respond to changes in dairy policies and programs. 

For more information on the ARMS survey and data, see the ARMS

Briefing Room on the ERS web site at http://www.ers.usda.gov/Briefing

/ARMS/.
between total economic costs and total revenue. Economic costs must be

covered in order to sustain the farm business over the long run; they include

total cash costs plus an allowance for depreciation as well as an imputed

return to management and to unpaid labor of the farm operator and family

(Morehart et al., 2000). 

Table 2.5 compares total economic costs and total revenue and other farm

characteristics for dairy farms, based on ARMS data. Revenue includes

receipts from milk and dairy product sales and from sales of livestock,

receipts from crop sales, government payments, and other farm-related

income. The 2001 data include Dairy Market Loss Assistance payments but

predate the MILC program. 

The data can be used to evaluate the economic viability of dairy farms by

measuring the revenue necessary to cover economic costs in a given year.

Dairy farms are categorized as low-, mid-, or high-cost, according to their

economic costs per dollar of revenue. Low-cost farms are defined as those

that generate enough revenue to cover economic costs of production. In

2001, low-cost farms, while less than one-third of dairy farms, produced a

disproportionately large share of dairy output measured by value (table 2.5).

Mid-cost farms are close to becoming financially viable, and could achieve

longrun economic viability with higher milk prices, lower production costs,

and/or larger government payments. They accounted for the greatest share

(46 percent) of all dairy farms in 2001, but proportionately less of the value

of dairy production (34 percent). The high-cost farms represented the

smallest share of dairy farms (24 percent), and a much smaller share of the

value of dairy production (5 percent).8 These farms require other sources of

income or equity, such as retirement earnings or savings, to remain viable

(Morehart et al., 2000). Survey data show that farms in the high-cost group

have higher average off-farm earnings than either mid- or low-cost farms.

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Table 2.5—Characteristics of dairy farms by economic cost 

group, 2001

Economic cost group 1

Low-cost Mid-cost High-cost

Percent

Percent of farms 29 46 24

Percent of dairy value 

of production 61 34 5

Average number dairy 329 148 58

cattle (number)

Herd size:

Less than 100 25 47 88

100-299 52 46 NA

300-599 13 5 NA

600 or more 11 2 NA

1Low-cost farms have costs per revenue dollar less than 1; mid-cost farms’ costs per revenue

dollar are between 1 and 1.5; high-cost farms’ costs per revenue dollar are greater than 1.5.

Note: Percentages may not add to 100 due to rounding.

NA: Not available due to lack of observations, an undefined statistic, or reliability concerns.

Source: USDA, Agricultural Resource Management Survey (ARMS), 2001.

8Excluding the costs of imputed

returns to unpaid labor increases the

share of farms that are in the low-cost

category.
The percentage of dairy farms that are financially viable can change from

year to year, depending on the level of prices, costs, and government

payments. For example, in 2000 (a low milk price year), less than 25

percent of dairy farms covered economic costs, while a slightly larger

percentage fell into the mid- and low-cost groups than in 2001. This categorization does not predict the share of farms that will leave dairying. The data

presented are for 1 year, and market and other factors can change over the

course of several years. Also, many dairy farmers stay in business by

supplementing farm revenue with off-farm revenue, or by accepting a low

return for labor by themselves and other unpaid family members.

As structural change in the dairy sector produces a farm structure with

fewer and larger operations, larger operations account for an increasing

proportion of dairy farms and milk production. In 2001, dairy farms in the

low-cost group had larger herd sizes, on average—over 300 cows per

farm—while high-cost farms averaged fewer than 100 cows (table 2.5).

Table 2.6 shows the breakout of each size class by economic cost group.

Smaller farms tend to have a larger share of high-cost operations, while a

higher share of larger farms are in the low-cost group. As the average farm

size continues to increase over time, average dairy sector costs can be

expected to decline (McElroy et al., 2002). 

Milk price. Farm milk prices are influenced by a combination of market

forces and dairy policy. Supply factors contributing to declining real milk

prices include improvements in technology and management, increased milk

per cow, slow growth in labor costs, and lower feed prices. On the demand

side, growth in demand for milk and dairy products has been slower than

output-increasing improvements, including milk yields per cow. Policy

changes have also been a factor, including reductions in the milk price

support level since 1980. The all-milk price has trended very slightly

upward in nominal terms between 1980 and 2002, although it has declined

in real terms.

Price variability is a concern for a number of reasons. Increased volatility

adds challenges for farm business planning, debt repayment, and, in some

cases, solvency. Variable prices contribute to price or market risk—uncertainty about the prices producers will receive for commodities. An important

issue is whether the key concern is variation in prices or variation in

incomes, cash flow, or net margins. These latter depend on both the price

33

Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

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Table 2.6—Economic cost categories of dairy farms by size class, 2001

Economic cost group1 Fewer than 100 cows 100-299 cows 300-599 cows 600 or more cows

Percent

Low cost 14 38 58 76

Mid cost 43 55 40 22

High cost 42 NA NA NA

1Low-cost farms have costs per revenue dollar less than 1; mid-cost farms’ costs per revenue dollar are between 1 and 1.5; high-cost farms’

costs per revenue dollar are greater than 1.5.

Note: Percentages may not add to 100 due to rounding.

NA: Not available due to lack of observations, an undefined statistic, or reliability concerns.

Source: USDA Agricultural Resource Management Survey (ARMS), 2001.
and the quantity of a product sold and the cost and amount of inputs used.

For a dairy producer, variability in the milk price does not fully describe the

variability in net farm income, because milk production costs and expenses

also vary. These factors also need to be considered when understanding how

variation in milk prices affects the dairy producer’s bottom line. 

Price variation arises from changes in supply and demand relationships.

Variation in milk supply can arise from seasonality in milk production, variability in rainfall or other production conditions, input price variability

(prices of feed, labor, or other inputs like electricity), and variability in

producers’ or processors’ expectations of future prices. In the late 1980s,

milk and dairy product prices became much more volatile than the previous

two decades (fig. 2.13). Most analysts attribute this increased volatility to

changes in the price support program—a lower price “floor” allowed greater

downside price swings and reduced government stocks allowed greater

price movements (Nicholson and Fiddaman, 2003). Other factors that

contribute to increased price volatility include supply shocks (particularly

from Western States) and a more inelastic demand for milk products due to

rising incomes and increasing consumption of milk products in processed

foods and meals away from home (Jackson-Smith and Barham, 2000). 

Implications of changing farm structure

Change in the dairy farm sector over the past two decades has led to an

increasingly diverse farm structure, with a variety of sizes, production

systems, and cost structures. This diversity has complicated dairy program

design, because dairy programs can have different distributional impacts by

farm size and by cost structure. And, as farm size and production systems

34

Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

U.S. Department of Agriculture

Figure 2.13

U.S. all-milk, Class III, and support prices, 1980-2004

0.00

2.00

4.00

6.00

8.00

10.00

12.00

14.00

16.00

18.00

20.00

U.S. All-milk price Support price

Source: USDA, NASS, AMS, and FSA.

Dollars per cwt

Class III minimum price

Jan-80 82 84 86 88 90 92 94 96 98 00 02 04 
tend to vary by region, dairy programs can have different regional impacts.

Increased diversity has created new policy challenges to address the effects

of adjustment to changing market shares, new production patterns, and

increased competition for a market that is growing more slowly than milk

production capacity. 

Conclusions 

With per capita consumption flat or declining for almost all products except

cheese, higher output at the farm level has led to lower real producer prices.

Declining real prices have pressured dairy farmers to expand herds, adopt

lower cost production systems, or exit dairying, leading to continued structural adjustment. Attempts to shelter dairy farmers from a set of diverse,

powerful forces with a complex web of policies including price supports,

import protection, regulated minimum pricing, and direct payments have

done little to prevent structural change. The rate of structural change in the

dairy sector is likely to accelerate as new technologies appear, and other

factors (environmental regulation, land use, and contractual arrangements)

continue the pressure for further consolidation and structural change

(Anderson et al., 2003). 

35

Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

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Public Policy in the Dairy Industry

“National dairy policy,” as defined in the Congressional mandate, includes

the following U.S. dairy programs:

• Federal milk marketing orders,

• the Federal milk price support program,

• State pricing programs and State mandated over-order premiums,1

• interstate dairy compacts,2

• direct payments to milk producers, and

• export programs such as the dairy export incentive program 

(DEIP).3

The above list is not exhaustive, and excludes import protection; supply

management programs; demand enhancement programs; milk safety, sanitary, and environmental regulations; antitrust regulations (and limited

exemptions); programs affecting input pricing and availability (like the feed

grains program); and interactions with other commodity programs, among

others. These programs are assumed to continue in their present form in

order to isolate the effects of U.S. dairy policies identified in the mandate.

Export credit programs, while a type of export program, are not evaluated

because they are available for a range of commodities. 

Policy or program objectives underlay a comprehensive evaluation of the

economic effects of national dairy policy. Dairy program objectives, as

stated in public documents such as authorizing legislation or mission statements of implementing agencies, are usually broad statements of purpose.

Policy objectives may also be inferred from program provisions or operations. Generally, dairy policy seeks to enhance dairy producers’ incomes,

either directly through payments, or—more frequently—indirectly through

price; and to maintain rural farm communities by promoting value-added

agricultural activity (Hamm, 1991). Specific objectives vary according to

each program, and include the support and stabilization of dairy farm

incomes, ensuring stable and adequate supplies of milk and dairy products,

providing stable marketing conditions for farm milk, and developing export

markets for dairy products. 

Table 3.1 presents an overview of the main U.S. dairy programs discussed

in this report. Each program is related to its objectives, the main instruments used by each program, and the dairy products that each program

targets directly. 

Several existing dairy programs were originally designed to deal with the

industry structures and economic failures of the 1930s. While the details of

the programs have changed since then, their basic objectives and frameworks have remained largely the same. Seventy years ago, milk use was

dominated by fluid consumption, markets were predominantly local, and

many dairy enterprises were part of diversified farming operations. Today,

consumption of cheese (rather than fluid milk) is the major use for milk,

dairy product markets are increasingly national in scope, most dairy farms

are highly specialized, and many are large-scale industrial operations. These

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U.S. Department of Agriculture

1The qualifier “State-mandated” has

been added by the authors to distinguish over-order premiums regulated

by State dairy programs from marketgenerated over-order premiums that

are not part of any dairy program.

2Interstate dairy compacts are not part

of current dairy programs.

3This chapter is intended to provide an

overview only of the programs listed.

For detailed information on program

operations, the reader is referred to the

web sites of the USDA program agencies, provided in the References.
37

Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

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Table 3.1 Overview of selected U.S. dairy programs

Federal milk Milk price State pricing, Interstate Milk Income Dairy Export 

marketing support over-order dairy Loss Contract Incentive Import Promotion orders program premiums compacts (MILC) Program (DEIP) measures programs

Objectives:  Stabilize market conditions X X Producer price support X X X X Producer income support X X X X Develop export markets

X

 Protect domestic programs

X

 Increase demand X XProgram instruments: Minimum price regulation X X X Government purchase and storage X Direct producer payments 

X

 Export subsidies

X

 Tariffs, tariff-rate quotas

X

 Mandatory funding for product

X

 promotion, research,  and developmentProducts: Milk X X X X X X Butter X X X X NFDM X X X X Cheese X X X X Other dairy products X XX

Source: ERS, from various USDA sources.

Other
changes raise doubts whether, after years of technological and structural

change, existing policies still yield the same results as they did when they

were conceived.

While U.S. policies and programs have played a role in shaping the structure of today’s dairy industry, other driving forces including technological

change—from the farm to the retail store—and changes in consumer

demand have been even more important. Structural and technological

changes have been important factors influencing policy change. Programs

are modified when they are no longer relevant to the new market environment or to deal with the impacts of structural change at the farm level. 

Appendix B shows a compressed history of public intervention in milk and

dairy product markets, beginning with the 1930s. Even before the economic

and social repercussions of the Depression triggered massive Federal

government assistance to agriculture, State and local government agencies

had experimented with dairy market interventions. Since the 1930s, Federal

dairy programs have featured parity pricing and orderly marketing, measures to manage oversupply, and occasional introduction of more marketoriented program elements. 

Early policy interventions were concerned primarily with providing equitable income for dairy farmers, as evidenced by policies focused on parity

pricing and orderly marketing conditions.4 Later dairy programs addressed

chronic oversupply, including temporary use of voluntary supply management and, in the 1980s, linking the milk price support level to annual

government purchases. Since 1985, dairy policies have been characterized

by gradual introduction of greater, albeit still limited, market orientation

through gradual reductions in the support price to a lower, “safety net”

level. The pressure of Federal budget deficits led to the occasional use of

producer assessments to help defray the costs of the dairy program. More

recently, dairy policy has included ad hoc and countercyclical direct

payments. Some recent programs target specific groups, such as smaller

producers or producers in specific regions through compacts.

Since the 1930s, trade policy has supported domestic dairy programs

through restrictive import policies—quotas that were replaced by tariff-rate

quotas as a result of the WTO Agreement on Agriculture—and export subsidies (Blayney et al., 1995).5

Federal Milk Marketing Orders

Federal milk marketing orders (FMMO) establish minimum pricing rules

for the sale of raw fluid-grade (Grade A) milk from the producer to the

processor or manufacturer. Milk marketing orders were established in the

Agricultural Marketing Agreement Act of 1937 (amended). In 1999-2003,

between 65 and 76 percent of all milk marketed in the United States was

marketed under FMMOs (USDA, AMS).6

FMMOs establish monthly minimum prices that first handlers of Grade A

milk must pay, and verify that those handlers pay at least the minimum for

milk delivered to them. The prices that producers actually receive may be

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4According to Manchester (1983),

orderly marketing arrangements

sought to increase farmers’ purchasing

power by giving them market power

through cooperatives.

5There are several sources of more

detailed information on dairy policies,

including Manchester, 1983; the

Agricultural Marketing Service web

site (http://www.ams.usda.gov/dairy/

index.htm); the Farm ServiceAgency’s

web site (http://www.fsa.usda.gov); and

the Foreign Agricultural Service web

site (http://www.fas.usda.gov/excredits

/deip.html).

6Including milk marketed under State

marketing orders, the share of U.S.

milk marketed under regulated pricing

systems ranged between about 82 and

95 percent over the same time period.

(For an example of a State system of

marketing orders, see box,

“California’s Dairy Programs.”)
higher, depending on market conditions. The differences between actual

prices paid and the Federal order minimum price are called over-order

payments, are market-generated, and paid outside of the order system. 

A system of classified pricing establishes minimum prices for each end

use—the fluid (class I) price is the highest, reflecting the higher cost of

servicing the fluid market. Formulas relate the minimum prices for milk in

each class to wholesale market prices for dairy products, which in turn are

influenced by the milk price support program (fig. 3.1). The minimum price

paid to producers is a blend price of all uses at the FMMO minimum Class

prices (see box, “How Federal Milk Marketing Order Pricing Works”). 

Class I prices vary across the Federal milk order system. The Class I milk

price is the higher of the Class III or IV price plus a location differential

(Class I differential) specific to each pricing point in the country.7 Regional

differences among Class I differentials reflect the variation in the value of

milk across regions. Class I differentials are set to encourage the movement

of milk from milk-surplus areas into the milk-deficit areas (USDA, AMS,

1999). Despite that, substantial over-order premiums generated by the

market are frequently needed to move milk to where it is needed to satisfy

fluid demand. 

Federal milk marketing orders were established during the 1930s to deal

with the collapse of prices in milk markets and the seasonal loss of markets

for many producers. FMMO evolved to address concerns that arise from the

following characteristics of the milk market: 

• raw milk is highly perishable; 

• raw milk buyers are relatively concentrated compared with milk 

sellers; 

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7The Class I price differential is the

amount added to a manufacturing milk

price (the higher of the Class III or

Class IV price) to derive the Class I

milk price. It provides a minimum

price that is reflective of the location

value of milk.

Figure 3.1

Linkages between the milk price support program and the Federal

Milk Marketing Orders

Farm milk Market

price effects

Milk production Milk

(marketings) use

Milk production

Minimum blend

costs

price

Milk support price

Minimum

prices:

Support purchase Wholesale Class I

prices for products product prices

Milk price support program Class III

 Class IV

Federal Milk Marketing Orders

Source: Manchester and Blayney, 2001.

 Class II
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9For more information on how producer cooperatives interact with Federal

milk marketing orders, see the discussion of dairy cooperatives in “The

Evolution of the Modern Dairy

Industry,” and Cropp, 2003.

• fluid product and manufactured product demands are different, as 

are the costs of servicing those markets; and 

• quantity of milk produced and quantity of milk demanded have 

different temporal patterns.

For example, Class I prices under Federal orders are set high enough to

ensure that there will be sufficient supplies of perishable fluid milk to meet

peak demand, while stabilizing the price to producers despite seasonal,

weekly, or daily variability of production. In addition, requiring manufacturers and processors to pay minimum prices for milk was intended to

balance the market power between producers and processors. 

However, some of the characteristics of the milk market that gave rise to

the order system were more prominent in the context of the technology and

market structure of the early-to-mid twentieth century—advances in transportation and storage technologies, for example, have reduced (although not

eliminated) marketing problems associated with perishability. Consolidation

among dairy cooperatives and their increased share of milk marketings may

have gone a long way toward redressing the imbalance in market power

between milk sellers (producers, through cooperatives) and buyers (milk

processors and dairy product manufacturers).8 Cooperatives now bear

more of the costs of coordinating and marketing milk from farm to plants.

Other factors—like the disparity in timing between milk production and

demand—still characterize dairy markets, although their impact on market

flows is diminished. Because milk marketing orders—both Federal and

State—have been in effect for so long, it is difficult to determine the extent

to which these characteristics would emerge in the absence of FMMOs. 

FMMOs are fundamentally aimed at equalizing competition between

proprietary handlers and producers and promoting a greater degree of

stability in marketing relationships.9 Such a system effectively prevents a

concentrated processing sector from exercising noncompetitive market

power over milk producers by establishing minimum prices that all processors must pay for milk. Discriminatory pricing, to the extent that prices

differ by more than the additional transportation and other costs entailed in

meeting Class I demand, can increase revenue by charging a higher price in

a market with more inelastic demand (where consumption is relatively

unresponsive to price changes), and a lower price in a market with less

inelastic (more price-responsive) demand (Tomek and Robinson, 1972;

Manchester, 1983). Demand for fluid milk tends to be more inelastic than

the demand for manufactured products. Thus, increasing the fluid price can

increase total producer returns. 

Milk marketing orders can have important impacts on the consumption of

dairy products through their effects on prices. To the extent that classified

pricing under the Federal (and some State) milk marketing orders raises the

price of fluid milk and milk used in soft dairy products (cream products,

cottage cheese, ice cream and related products) above what it would be in

an unregulated market, the quantities demanded of these products are

reduced. This increases the quantity of milk available for manufacturing

uses (cheese, butter, and dried milk products), and lowers the price of

Grade A milk used in manufacturing, increasing consumption of manufactured dairy products. Pooling milk revenues from all uses also provides

8However, the processing industry has

further concentrated as well. See the

discussion of concentration among

cooperatives and processors in “The

Evolution of the Modern Dairy

Industry.”
incentives for production of manufacturing milk—a dairy farmer producing

mainly milk for manufacturing may receive a higher price because receipts

from the sale of manufacturing milk are pooled with receipts from higher

priced fluid milk sales (see box, “How Federal Milk Marketing Order

Pricing Works,” for an example of how revenue pooling works). This situation provides incentives for production of manufacturing milk and manufactured dairy products, resulting in lower prices and increased consumption. 

In the Federal Agriculture Improvement and Reform Act of 1996, Congress

mandated that the number of milk marketing orders be reduced and that

several pricing issues be reexamined. The reform of the Federal milk

marketing order system, effective January 1, 2000, reduced the number of

Federal milk marketing orders from 31 to 11 to better reflect movements of

milk, natural market boundaries, and existing institutional or market

arrangements (USDA, AMS, 1999). It also made changes to pricing provisions, establishing a new Class I pricing structure, and established new

minimum pricing formulas for Class II, III, and IV milk. The purpose of the

pricing provision changes was to provide incentives for greater structural

efficiencies in the assembly and shipment of milk for fluid milk products

while maintaining equity among processors of fluid milk selling in

marketing order areas and among dairy farmers supplying milk for fluid

markets (USDA, AMS, 1999).

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How Federal Milk Marketing Order Pricing Works

Two concepts form the core of Federal milk marketing orders: classified

pricing and market-wide revenue pooling. Classified pricing means that

milk is priced based on its end use or “class.” Under revenue pooling, all

producers selling milk under a particular milk marketing order share equitably in the market’s revenue through a “uniform” or “blend” price, adjusted

for location. Federal order minimum blend prices are the outcome of an

accounting of how much milk is purchased by regulated handlers, and how

that milk is used.

Classified pricing

Federal milk marketing orders establish minimum prices that regulated

handlers must pay for Grade A milk 10 based on its use. The prices set are

minimums—producers and/or their cooperatives are free to negotiate for

prices above the minimum with the handlers buying their milk (Blayney et

al., 1995). Market conditions and services provided by producers or their

cooperatives can and often do lead to prices higher than the minimums. 

There are four classes of milk under Federal orders; each class depends on

how the milk is used:

Class I: Beverage (fluid) milk.

Class II: Fluid cream products, yogurt, perishable manufactured 

products (ice cream, cottage cheese, and others).

Class III: Cream cheese and hard manufactured cheese.

Class IV: Butter and milk in dried form.

10Grade A milk is milk that is produced under sanitary conditions that

qualify it for fluid (beverage) consumption, although it may also be

used to produce other products. Grade

A is a quality designation, while the

class price is based on how the milk is

used.

Continued on page 42
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All class (minimum) prices are set by formulas that reflect market conditions

and prices are announced monthly by USDA’s Agricultural Marketing

Service. The highest minimum price is for Class I milk, recognizing the

higher costs associated with supplying fluid milk markets. 

The classified pricing formulas are based on the wholesale prices of dairy

products that are purchased under the Milk Price Support Program (butter,

nonfat dry milk (NFDM), cheese) and dry whey. Thus, if the wholesale prices

of these products are being supported through purchases under the Milk Price

Support Program, changes in the support price are reflected in the classified

prices (fig. 3.1). The Class I price is determined by adding a location-specific

differential to the price mover (the higher of the Class III or Class IV price), a

price that reflects average wholesale market prices for manufactured prices

(butter, nonfat dry milk (NFDM), and American cheese). The Class II price is

determined by adding a differential to the Class IV price. 

Revenue (price) pooling

Class prices are not paid directly to producers who deliver milk to the regulated handler. Milk receipts are pooled and a weighted average, or blend,

price based on milk uses is paid to producers (including producer cooperatives) each month. 

A simplified example based on a hypothetical order illustrates the procedure.

In the marketing order covering the area surrounding Emerald City, four

regulated 

handlers are pooled under the order: a fluid milk bottler, an ice cream plant,

a cheese plant, and a butter plant. Each handler is representative of one of

the four class uses described above. Four farmers sell milk to each of the

handlers, and all milk is Grade A.

Even though the producers sold their milk to different types of plants, they

will each receive the same (minimum) price for their milk. The monthly

minimum blend price is calculated by multiplying the class prices by the

amounts of milk used in each class (utilization rate) to determine the total

receipts under the order. The total receipts are then divided by the total quantity of milk (180,000 hundredweight) sold to the regulated handlers to determine the minimum blend price ($12.02 per hundredweight) each producer

receives for milk sold that month. 

Producer blend prices also vary regionally due to differences in the location

differential for Class I milk and due to differing utilization rates—a higher

rate of utilization of fluid milk, for example, will result in a higher average

price received by producers. Milk supply and demand conditions, and any

additional services provided by the producers, such as quality, timely

delivery, and seasonal accommodation, may generate premiums that are paid

outside of the order system. 

Farmer Sells milk to: Class Price1 Amount sold Receipts Minimum

(hundredweight) blend price

Brown Butter plant IV $10.89 37,000 $402,930

Jones Cheese plant III $11.41 80,000 $912,800

Green Ice cream plant II $11.81 15,000 $177,150

McDonald Fluid milk bottler I $13.96 48,000 $670,080

Total 180,000 $2,162,960 $12.02

1These hypothetical numbers are for illustrative purpose only and are not meant to reflect actual class

prices in any location.
Federal Milk Price Support Program

The Federal milk price support program was first authorized by the Agricultural Adjustment Act of 1933. Permanent authority for milk price support

was provided by the Agricultural Act of 1949. Under the 1949 Act, which

is currently suspended, the Secretary of Agriculture is directed to support

the price of manufacturing grade milk through Commodity Credit Corporation (CCC) purchases of manufactured dairy products (mainly butter, nonfat

dry milk, and cheese) at between 75 and 90 percent of parity (a price based

on the relationship between farm milk prices and prices of farm inputs in a

base period). These purchase prices are set at levels that enable manufacturers of average efficiency to pay farmers the support price for milk. 

Farmers can receive more or less than the support price, depending on

supply and demand conditions and market competitiveness. Plant location,

the type of product manufactured, the quantity of milk delivered, milk

composition, local competition between users of milk supplies, and plant

operating efficiency all play a role in determining the price individual dairy

farmers receive for their milk (Blayney et al., 1995). The dairy price support

program supports the price of all dairy products in the United States.

For the first several decades of the program, the milk support price was

established to maintain parity pricing. In the 1980s, concern over

burgeoning stocks and rising program costs led Congress to sever the link

between the support price and parity and gradually lower the support price.

In 1988-95, triggers related to quantities of products purchased were used to

prompt changes in the price support level.

The Federal Agriculture Improvement and Reform Act of 1996 (the 1996

Act) included a schedule for eliminating the support purchase program and

replacing it with a processor recourse loan program. In the late 1990s,

responding to low dairy prices, Congress instituted emergency supplemental

payments to dairy producers and extended the support price program annually. The 2002 Act authorizes the support purchase program at the fixed

support level of $9.90 per hundredweight through 2007 (see box, “Adjustments in Dairy Product Purchase Prices”). While there has been very little

change in the milk support price since 1990, overall it has declined over the

last two decades.

Outlays for product purchases and associated costs under the dairy price

support have been variable. Since the early-to-mid 1990s, expenditures

related to purchases of butter and cheese have declined substantially, while

expenditures on nonfat dry milk have risen (table 3.2). The decline in total

expenditures under the dairy price support program reflects the reductions in

the milk support price in the mid-to-late 1980s (see fig. 2.13 in “The Evolution of the Modern Dairy Industry”). Dairy product purchases were lower,

on average, in the 1990s than in the previous decade, although purchases of

NFDM have risen in the past several years (fig. 3.2).

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Table 3.2—CCC gross outlays for dairy products under the Milk Price

Support Program1

Butter and 

Fiscal year butter products Cheese Nonfat dry milk Total

Million $

1980 343.3 482.8 554.2 1,380.3

1981 559.1 813.4 728.5 2,100.9

1982 600.4 941.9 883.5 2,425.7

1983 700.0 1,289.4 982.5 2,971.9

1984 479.5 1,043.8 790.6 2,313.9

1985 592.0 877.8 722.8 2,192.6

1986 701.0 879.2 844.0 2,424.1

1987 287.8 412.2 496.4 1,196.3

1988 544.3 458.8 337.3 1,340.5

1989 685.5 48.9 7.0 741.4

1990 456.4 1.2 23.6 481.2

1991 522.0 62.0 292.2 876.2

1992 568.7 2.9 30.1 601.8

1993 433.1 31.3 29.5 493.9

1994 279.2 0.2 112.2 391.7

1995 52.7 0.0 46.5 99.2

1996 0.4 0.0 19.2 19.7

1997 0.0 2.1 24.6 26.7

1998 0.0 0.2 166.3 166.5

1999 0.0 0.0 193.8 193.8

2000 0.0 8.2 487.6 495.9

2001 0.1 16.3 458.7 475.2

2002 0.0 6.2 610.7 617.0

1Includes outlays associated with purchases, storage & handling, transportation, processing

and packaging, and other outlays. Exceeds total expenditures because sales proceeds,

assessments, and other receipts are not included.

Source: USDA, FSA.

Figure 3.2

Purchases of dairy products under MPSP

0

200

400

600

800

1,000

Butter Cheese Nonfat dry milk

1975/76 80/81 85/86 90/91 95/96 2000/01 

Million lbs.

1,200

Source: USDA, FSA.
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Adjustments in Dairy Product Purchase Prices

CCC purchase prices of cheese, butter and nonfat dry milk (NFDM) are set

to enable plants of average efficiency to pay producers the support price for

milk. A special provision for purchase prices of butter and NFDM allows

USDA to allocate the rate of price support for milk between butter and

nonfat dry milk by adjusting their purchase prices up to twice a year. Adjustments in purchase prices for these products should minimize Federal expenditures on the purchase of surplus dairy products, or meet other objectives

established by the Secretary of Agriculture. 

Unintended distortions can result if one of the purchase prices is set too

high. For example, if the purchase price of NFDM is set too high, NFDM

use and use of nonfat solids in products other than NFDM is reduced, and

production of NFDM increases. The excess NFDM ends up as large CCC

purchases. Because butter and NFDM are joint products, supporting the

price of NFDM leads to increased production and a reduced price for butter,

if the price of butter is above the support level. 

The Secretary of Agriculture is authorized to adjust relative purchase prices

of butter and NFDM twice during each calendar year. Because butter and

NFDM are joint products, USDA may reduce the butter purchase price and

offset the decline with an equivalent increase in the purchase price of NFDM

without altering the underlying support price for milk (Salathe, 1993). The

offsetting nature of these purchase price adjustments in the past few years is

illustrated in figure 3.3. Adjustments in relative purchase prices of these

products are colloquially referred to as the butter-powder “tilt.” 

The ability to adjust relative product purchase prices is important for

correcting imbalances in the purchases of milkfat and nonfat solids. Failure

to correct for such imbalances can create an incentive for producers to

expand production and may alter the flow of milk to alternative uses. Food

processors, who use significant amounts of milkfat and skim solids (the

major components of butter and NFDM), are generally reluctant to change

product formulations in response to price imbalances in the short run, but

can be quite flexible in the longer term, further reducing the demand for the

over-priced product.

Figure 3.3

CCC purchase prices of butter and NFDM, 1999/00-2002/03

0

20

40

60

80

100

120

1999/00 2000/01 2001/02 2002/03

NFDM 

Butter

Source: USDA, NASS and FSA.

Cents per lb.
State Pricing and State-Mandated 

Over-Order Premiums 

Individual States began to consider intervention in milk and dairy product

markets during the Depression following legal constraints on Federal

actions to regulate intrastate activity through marketing agreements

(Manchester, 1983).11 States focused first on price and income assistance

for dairy farmers, but many extended their reach to both wholesale and

retail milk and dairy product prices. State action to support fluid milk

prices was economically feasible because fluid milk was the major use and

fluid markets were primarily within State boundaries. 

The number of State milk pricing programs has declined significantly—

particularly since the 1960s—as interstate transportation of bulk and packaged milk made it more difficult for States to control in-State milk prices

(Alexander et al., 1998). In 1998, Alexander et al. listed nine States with

active State pricing or State-mandated over-order premium programs—California, Hawaii, Maine, Montana, Nevada, Western New York, North

Dakota, Pennsylvania, and Virginia. California is the largest major milkproducing State that currently has an extensive state-level milk-pricing

program (see box, “California’s Dairy Programs”).

States have used several methods to establish farm-level milk prices. Most

States use regulatory authority to set minimum prices or mandate over-order

premiums to be paid to producers above the Federal or State class price.

These programs usually adopted the minimum Class I price in a nearby

Federal order as the starting point for establishing the in-State Class I price.

Some States then added a mandated over-order premium to the Federal

Class I price to arrive at the State Class I price. These prices are, like

Federal order prices, only minimums. For States, it is easier to control milk

prices for fluid use because fluid markets tend to be more local in character.

Increasing market integration across State lines makes it difficult for individual States to operate over-order pricing plans.12 Today, Pennsylvania is

the only major dairy-producing State with over-order pricing. In addition,

Pennsylvania uses wholesale and retail price control to prevent processors

from undercutting Pennsylvania prices with lower-priced milk from other

States (Alexander et al., 1998). 

Interstate Dairy Compacts

A compact between or among States is an agreement to regulate some area

of commerce that must be approved in identical form by each party (State)

and authorized by the U.S. Congress. The authority for the Northeast Interstate Dairy Compact (NEIDC) was included in the 1996 Act, subject to a

finding by the Secretary of Agriculture of a compelling public interest in the

Compact region. Connecticut, Maine, Massachusetts, New Hampshire,

Rhode Island and Vermont were included in the NEIDC.

The NEIDC established a minimum price of $16.94 for Class I milk, the

milk used in fluid beverage products, in Boston, MA. The Compact price

was generally, although not always, above the Federal Milk Marketing

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11According to Manchester, “Since

nearly all fluid milk markets were

local in character and many were

entirely within one State..., there was

a question as to whether Federal marketing agreements...could be used.

Early court decisions found that

Federal regulation of purely intrastate

markets was not legal.”

12“An Alternative Milk Pricing

Approach” discusses some of the

issues involved in States operating

over-order milk pricing programs

through interstate compacts.
Order (FMMO) Class I price in Boston (see table 5.1 in “An Alternative

Milk Pricing Approach”). If the FMMO Class I price was below the

Compact Class I target price, processors were required to pay a Compact

Premium into the Compact region’s producer settlement pool, which was

distributed back to eligible producers through a pooling mechanism.

The NEIDC operated from July 1997 to September 2001, but was not reauthorized in the 2002 Act. A discussion of the issues raised by the Compact

and an analysis of the effects of such programs are the focus of “An Alternative Milk Pricing Approach.” 

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California’s Dairy Programs

California does not participate in the Federal Milk Marketing Order system,

but operates its own milk marketing order program with a classified pricing

system (minimum prices for milk by end-use) and, since 1969, revenue

pooling. Two differences between the Federal and California programs are

the class structure of the pricing system and the calculation of producer

prices through the pooling system. In addition, State fluid milk product

standards affect milk production, processing, and marketing. 

The producer milk price in California is priced based on five end-use

classes, as opposed to four in Federal orders. Similar to the Federal

marketing order system, pricing formulas relate class prices to milk components (fat and solids-not-fat). The California Department of Food and

Agriculture announces minimum prices for specific uses. Revenue pooling

depends on producers’ quotas. Quota is allocated based on historical sales

in Class I but can be freely traded among licensed California milk

producers. Individual producers in California receive one price for quota

milk and another price for nonquota milk.

In addition to a separate marketing program, California has unique standards

for fat and solids content in fluid dairy products. The standards were part of

a compromise in the early 1960s between producers and processors to pay

producers for the fat and the solids-not-fat content of their milk. Milk

containing 2-percent butterfat and 10-percent nonfat solids could be

marketed if producers were compensated for the higher nonfat solids content

of the milk. California standards for fluid milk have continued to evolve.

Today, fortification is required in all fluid milk products in California.

California’s fluid milk standards offer both advantages and disadvantages.

They provide consumers with a more nutritional product, albeit at a higher

price. The additional solids in California’s fluid milk benefit dairy farmers

in other States. The fortification requirement absorbs a large volume of

nonfat solids that would otherwise be released onto the market, which could

reduce the price of all U.S. milk if the nonfat dry milk price were above the

purchase price, or increase Commodity Credit Corporation (CCC) purchases

of NFDM. However, requiring that out-of-State milk meet the California

standard may reduce competition and limit the availability of lower priced,

although less nutritional, beverage milk products.
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Direct Payments 

Although Federal farm programs for field crops (corn, wheat, etc.) began to

shift from price support to direct payments beginning in the 1970s, direct

payments played a minor role in U.S. dairy policy until the 2002 Act. 

Dairy Market Loss Assistance (DMLA) programs in 1999, 2000, and 2001

provided funds for direct payments to milk producers to offset the effect of

low prices. In each case, quantity limits were set on production eligible for

payments. Direct payments were authorized in the 1980s but those

payments were fundamentally different. Milk producers participating in

two voluntary programs—the Milk Diversion Program and the Dairy Termination Program—had to reduce production or leave dairying to receive

payments.

The Milk Income Loss Contract (MILC) program, established in the 2002

Act, provides monthly payments to participating producers when the reference price (FMMO Class I price at Boston) falls below the target price of

$16.94 per cwt. The payment rate is calculated as 45 percent of the difference. An individual producer’s total monthly payment is determined by

multiplying the calculated payment rate by the amount of production

eligible for payment. There is an annual quantity limit of 2.4 million

pounds per producer on milk production eligible for payments. The quantity limit targets the program to smaller farms. Based on average yield in

2003, a farm with 128 cows would reach the production cap. Since

Congress made the program retroactive to December 1, 2001, there is also

a “transition” payment that covers the period from that date to the date the

producer signs up for the program (signup began in August 2002 and

continues until the program expires). The program is scheduled to terminate September 30, 2005.

Total payments under the MILC program since its inception, and payments

to selected States, are shown in table 3.3. Because the program limits the

quantity eligible for payments, States with a large number of smaller-sized

operations (e.g., Wisconsin, New York, Pennsylvania, and Minnesota)

receive a greater share of MILC payments than their share of milk production. States that tend to have large operations, like California, Idaho, Washington, and New Mexico, receive a small share of total MILC payments

relative to their share of production. 

Dairy Export Incentive Program

The Dairy Export Incentive Program (DEIP) was established in 1985. The

DEIP “helps exporters of U.S. dairy products meet prevailing world prices

for targeted dairy products and destinations” (USDA, FAS, 2003). Its major

objective is to “develop export markets for dairy products where U.S. dairy

products are not competitive because of the presence of subsidized exports

from other countries” (USDA, FAS, 2003). Under the program, USDA pays

cash bonuses to exporters, allowing them to export certain U.S. dairy products in targeted overseas markets. Commodities eligible for DEIP export are

nonfat dry milk, butterfat, and cheeses. The program has been extended by

all farm legislation since its inception, but since 1995 has been constrained
by U.S. commitments under the World Trade Organization (WTO)’s Agreement on Agriculture. The quantities of product categories shipped under

DEIP and the dollar value of awards since the beginning of the program are

shown in table 3.4. Milk powder has accounted for the largest share of

exports shipped under DEIP.

Other Dairy Programs

Import measures—protective tariffs and restrictive tariff-rate quotas (TRQs)—

isolate the U.S. dairy sector from international markets, raise prices to

producers, and prevent lower priced dairy products from compromising the

price support program. Restrictive import policies for most dairy products

reduce overall quantity demanded by keeping U.S. prices above world prices,

but raise the quantity demanded of domestic dairy products by raising the

price of imports to domestic consumers. Import protection, whether in the

form of import quotas or high tariffs, was a necessary adjunct to the dairy

price support program. Import policy supports domestic policy by maintaining

high tariffs on most dairy products, preventing the unrestricted flow of lower

priced substitute products from world markets. In the absence of border

restrictions, lower priced products would enter the U.S. market, and CCC

purchases at the higher support prices would rise to unsustainable levels.

Further, with world prices well below CCC purchase prices for cheese, butter,

and nonfat dry milk, the United States would have been directly supporting

milk producers and taxpayers in exporting nations absent import restrictions.

(For an illustration of the relationship between the domestic support programs

and trade measures, see box, “Milk Protein Concentrates.”) 

Dairy promotion programs raise producer revenue by increasing demand for

milk and dairy products. The Dairy and Tobacco Adjustment Act of 1983

authorized mandatory assessments on all U.S. dairy farmers and the Fluid

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Table 3.3—MILC payments, top 10 and selected States

MILC payments, total State share of MILC State share of milk

State to date1 payments production, 2002

Thousand dollars -------Percent-------

Wisconsin 375,578 20.7 13.0

New York 170,185 9.4 7.2

Pennsylvania 164,164 9.1 6.3

Minnesota 148,533 8.2 5.0

California 123,476 6.8 20.6

Michigan 76,419 4.2 3.6

Ohio 69,893 3.9 2.6

Iowa 61,054 3.4 2.2

Vermont 40,914 2.3 1.6

Texas 38,914 2.1 3.1

Idaho 33,370 1.8 4.8

Washington 30,847 1.7 3.3

New Mexico 11,531 0.6 3.7

Total, all States 1,813,202

1October 2002-January 2004.

Source: USDA, FSA.
Milk Promotion Act of 1990 authorized assessments on fluid milk processors. The assessments fund promotion (like the national “Got Milk?” advertising campaign) and research programs aimed at demonstrating or

improving the nutritional or functional qualities of milk and dairy products

(USDA, AMS, 2002). Several studies of the effects of generic promotion

on dairy product markets and on dairy farm revenue have found that promotion efforts funded by mandatory checkoffs have been profitable for milk

producers (Schmit and Kaiser, 2002; Chung and Kaiser, 2000).

Policy Conflicts

Because a number of dairy programs have been implemented over several

decades—each with a different objective—it is inevitable that conflicts

among programs arise. The price support program and the MILC program

provide an example of problems that can be caused by conflicting policy

outcomes. The price support program establishes a safety net floor under

milk prices—milk prices are allowed to fall enough to induce a correction in

oversupply or underconsumption. However, when the market price has

fallen toward the price support safety net and thus is calling for an adjustment in supply, the results are partially muted by the MILC program, which,

by providing production-linked funds to milk producers, may encourage

production and retard the supply adjustment. The result is that milk prices

stay lower longer than they otherwise would, increasing the likelihood of

larger CCC purchases, and raising government costs for both programs.

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Table 3.4—DEIP quantities shipped and total commitments, 1987-2003

Quantities Commitments,1

Butter and Nonfat dry milk Total, all all products

Fiscal year butteroil 2 Cheese and whole milk powder products

----------------------------------------Tons---------------------------------------- $1,000

1987 0 287 287 289

1988 0 10,660 10,660 8,050

1989 0 0 0 0

1990 5,015 0 5,015 9,246

1991 11,070 2,000 17,400 30,470 39,261

1992 18,045 3,772 56,072 77,889 75,996

1993 14,149 4,205 168,243 186,597 161,797

1994 28,602 2,013 102,909 133,524 117,615

1995 38,550 3,425 204,261 246,236 140,225

1996 0 2,491 22,472 24,963 20,424

1997 18,003 3,650 117,216 138,869 121,462

1998 6,959 4,017 107,098 118,074 110,160

1999 395 2,779 133,148 136,322 145,308

2000 5,298 6,012 83,694 95,004 77,322

2001 0 3,030 55,451 58,481 8,488

2002 0 1,222 85,251 86,473 54,615

2003 10,000 2,272 73,883 86,155 31,526

1Total of bonus amounts committed for each commodity.

2Includes anhydrous milkfat.

Source: USDA, Foreign Agricultural Service.
“The Effects of National Dairy Programs” will examine the interaction

between MILC and other dairy programs in more detail. 

Regional Effects of Dairy Programs

Although most of the programs examined in this study are national in scope,

many have effects that vary by region. The Milk Price Support Program

supports dairy prices in the entire country, and the market-expanding benefits of DEIP benefit producers nationwide. Federal Milk Marketing Orders

have different regional effects in those regions covered by orders. Class

prices are based on the use of milk, and the blend price reflects the mix of

uses in a region. Regions with low utilization of higher valued fluid milk

will tend, other things equal, to have lower blend prices than regions with

higher fluid utilization. Many of the fastest-growing milk-producing

regions, like Idaho and New Mexico, tend to have low fluid utilization rates. 

MILC, because of the limit on the quantity of milk eligible for payments,

favors regions with large numbers of smaller farms. States with very large

farms tend not to benefit as much from the MILC program, and may be

disadvantaged by the program altogether due to the supply-inducing effects

of MILC payments. 

State pricing, State-mandated over-order premiums, and interstate dairy

compacts may bolster dairy prices within the State or region covered by the

program. The direct and indirect effects of interstate compacts will be examined in detail in “An Alternative Milk Pricing Approach.”

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13The term MPC is used here to

include both liquid ultra-filtered milk

products and dry products. 

14MPCs may be used in the production

of nonstandardized cheese, or cheese

for which FDA does not regulate ingredients through its standards of identity

(GAO, 2001). 

Milk Protein Concentrates

Imports of milk protein products, including milk protein concentrates

(MPCs), casein, and caseinates, highlight the interrelationship between trade

policy and domestic dairy policy (Harris, 2003). While imports of casein

have been an issue for over 20 years, the recent surge in MPC imports has

driven the current debate.

MPCs and the U.S. Dairy Industry

In general, MPCs are processed milk products derived from skim milk.

Development of ultra-filtration, which removes most of milk’s fluid components and lactose while leaving a high concentration of milk protein, was

largely responsible for the commercialization of this product (GAO,

2001).13 Other forms of MPCs are manufactured by blending various products containing dairy proteins or manufactured through a precipitation

process (Cessna, 2004). MPCs may contain from 40 percent to 90 percent

protein and may be substituted for nonfat dry milk in some uses. 

MPCs also have functional attributes that make them preferred for use in

some products. For example, their low level of lactose enhances the efficiency of cheesemaking.14 They are also commonly used in other foods,

including frozen desserts, bakery products, and nutritional foods (highprotein sports drinks, energy bars, and nutrition supplements), and some

nonfood uses (GAO, 2001). Because there is limited U.S. commercial

production of MPC, and because these products enter the United States

essentially duty-free, demand for the product is filled almost entirely by

imports. Imports of MPCs increased rapidly in recent years, rising from

4,000 metric tons in 1989 to 65,000 metric tons in 2000, but have dropped

off in recent years. In 2003, U.S. imports of MPCs amounted to over 48,000

metric tons (Cessna, 2004). 

MPCs, Trade Policy, and Domestic Dairy Policy

The rise in U.S. MPC imports can be viewed as a secondary effect of U.S.

agricultural and trade policy—the milk price support program and tariffs—

and of technology and demand factors. The rapid rise in utilization and

imports of MPCs has been the result of increased demand from the processed

cheese industry, the U.S. nutritional foods industry and many other products

that use MPCs, and low tariffs (GAO, 2001; U.S. International Trade

Commission, 2004). 

Trade policy is a major factor contributing to the rise in MPC imports.

Under the World Trade Organization (WTO)’s Agreement on Agriculture,

U.S. import quotas were converted to tariff-rate quotas (TRQs) with

nominal within-quota tariffs that decline over time, and high over-quota

tariffs. These over-quota tariffs have continued to insulate the U.S. dairy

market. Prior to the WTO agreement, MPCs, in contrast to most other dairy

products, were not covered by Section 22 quotas, and therefore were not

subject to tariff-rate quotas under the WTO agreement (U.S. International

Trade Commission, 2004). 

MPCs were produced and traded in small quantities when the WTO agreement was negotiated, and consequently tariffs were low or nonexistent. The

improvement of ultrafiltration technology allowed MPCs to be produced in 

Continued on page 53
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commercial quantities at reasonable cost, leading to an increase in quantity

demanded of MPCs. MPC imports rose, taking advantage of the low tariffs.

Under the WTO agreement, all agricultural tariffs are bound—once established, they cannot be raised without compensating the affected parties.

MPC use has also been encouraged by the high purchase price of nonfat

dry milk (NFDM) under the dairy price support program that discouraged

domestic production of MPCs and encouraged manufacturers to use other

sources of protein, like MPCs. 

The U.S. International Trade Commission found that the higher support

purchase price for NFDM contributed to a higher return to processors on

NFDM production than on production of MPCs, and concluded that the

milk price support program created a disincentive to manufacture MPC in

the United States (U.S. International Trade Commission, 2004).

The effects of MPC imports on government purchases and farm prices have

been the subject of debate. Some analysts conclude that increased imports

of MPCs have not only displaced some NFDM use in the United States, but

have also resulted in an increase in government purchases over the past 5

years. The U.S. International Trade Commission estimated that imported

milk proteins (including casein and caseinates) may have contributed about

25-35 percent to the growth in CCC stocks of NFDM during 1996-2002

(U.S. International Trade Commission, 2004), but that the effect on the

farm price of milk was unclear. Bailey (2003) supports the hypothesis that

MPC imports did not likely displace large amounts of domestically

produced nonfat dry milk in cheese production during 2002 and concludes

that any direct effect on farm milk prices would have been minimal.

Dairy farmer groups are concerned that MPC imports are displacing

domestic milk used for cheesemaking and depressing farm milk prices.

Some groups have urged the government to examine trade policy options

for addressing MPC imports (Chite, 2001). Possible responses include

proposed legislation to impose TRQs or quotas on imports and to provide

Federal assistance to promote domestic MPC production.

The U.S. International Trade Commission (ITC) recently published the

results of a fact-finding investigation on U.S. market conditions for milk

protein products, focusing on MPCs, casein, and caseinate. For the full

report see ftp://ftp.usitc.gov/pub/reports/studies/PUB3692.PDF.

For additional information see:

Bailey, Kenneth. Impact of MPC Imports on 2002 U.S. Cheese Production.

Staff Paper 362. Dept. of Agricultural Economics and Rural Sociology, The

Pennsylvania State University. March 2003. 

Bailey, Kenneth. Implications of Dairy Imports: The Case of Milk Protein

Concentrates. Staff Paper 353. Dept. of Agricultural Economics and Rural

Sociology, The Pennsylvania State University. June 2002.

Bailey, Kenneth. Imports of Milk Protein Concentrates: Assessing the

Consequences. Staff Paper 343. Dept. of Agricultural Economics and Rural

Sociology, The Pennsylvania State University. November 2001.

Continued on page 54
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Economic Effects of U.S. Dairy Policy and Alternative Approaches to Milk Pricing

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Cessna, Jerry. Milk Protein Products and Related Government Policy

Issues. USDA, Agricultural Marketing Service. February 2004.

Jesse, Ed. U.S. Imports of Concentrated Milk Proteins: What We Know and

Don’t Know. Market and Policy Briefing Paper 80. Dept. of Agricultural

and Applied Economics, University of Wisconsin-Madison. February 2003.

U.S. General Accounting Office. Dairy Products: Imports, Domestic

Production, and Regulation of Ultra-filtered Milk. March 2001.

U.S. International Trade Commission. Conditions of Competition for

Milk Protein Products in the U.S. Market. Investigation No. 332-453,

USITC Publication 3692. May 2004.
The Effects of National

Dairy Programs

Introduction

Some of the dairy programs described in the previous chapter have been in

place since the 1930s in the United States (see appendix B). Consequently,

our understanding of their effects is limited because we have no observations of a “state of the industry” without programs.1 Analysis of dairy

programs’ effects is therefore often based on counterfactual or, as used here,

“modified” counterfactual approaches (see box, “Empirical Analysis of

Dairy Programs Using Baseline Models”). For the purposes of this study,

four national dairy programs are examined: Federal milk marketing orders

(FMMOs), Federal milk price support, the direct payments to milk

producers known as the Milk Income Loss Contract (MILC) program, and

the Dairy Export Incentive Program (DEIP). These are only a subset of the

programs that have been applied to the industry.2

Dairy Program Effects on National 

Market Indicators

The main focus of the results presented in this section is national, although

we can, and do, report some effects for key milk-producing States. The

methodological approach underlying the results is that the four national

dairy programs are eliminated one at a time, and a simulation of industry

indicators reflecting each removal is estimated. The final set of simulated

industry indicators represents the cumulative effects of the program

removals. In keeping with the mandate’s objective to analyze the effects of

programs, we compare the baseline simulation values to the final noprogram estimates of the industry indicators. No changes in State-level

programs are included, a potentially significant issue given California’s

position in the U.S. dairy economy (see box, “California’s Dairy Programs”

in “Public Policy in the Dairy Industry”). Nor are interstate dairy compacts

considered given the “current policy” emphasis of the baseline models.

Two empirical modeling frameworks, FAPRI (University of Missouri) and

FAPSIM (USDA, ERS) were used to estimate the effects of dairy programs

(see box, “Empirical Analysis of Dairy Programs Using Baseline Models”).

The two models are similar, but each offers advantages in terms of variables

included, regional detail, and links to other analytical frameworks.

Obtaining similar results from the two different frameworks provides

analysts with greater confidence regarding the reliability of those results.

The empirical analysis exposes both the marginal effects of individual dairy

programs and the cumulative effects of all the programs together. Further,

the use of baseline frameworks provides year-by-year results. Strictly

speaking, direct comparisons between the results derived from the two

modeling frameworks are not appropriate—different baseline assumptions

were used, a different order of program analysis was followed, and the averages are based on different time periods. The results are presented in terms

of the effects of implementing programs—not eliminating programs. Thus,

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1While we have no observations of the

U.S. industry in the absence of extensive dairy programs, the experience of

policy reform in other countries may

provide some insights. Australia's

deregulation of its dairy industry is

described in an ABARE report on the

impact of an open market in fluid milk

supply at: http://abareonlineshop.com

/product.asp?prodid=12204. The U.S.

International Trade Commission has

reviewed this report in Conditions of

Competition for Milk Protein Products

in the U.S. Market, Investigation No.

332-453, Publication 3692, May 2004.

ftp://ftp.usitc.gov/pub/reports/studies/p

ub3692.pdf, p. 4-44 through 4-47. 

2Two other elements of dairy policy

were enumerated in the 2002 Act study

mandate: State programs and overorder premiums; and interstate dairy

compacts. Compacts are discussed in

“An Alternative Milk Pricing

Approach.” We assume no changes in

State programs since extensive Statelevel detail is lacking in the models

underlying the analysis.
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Empirical Analysis of Dairy Programs Using 

Baseline Models

The questions posed by the study of the dairy industry mandated in the 2002

Act are wide-ranging. No single model can provide the comprehensive

analysis of the issues required by the Act. USDA marshaled, through cooperative agreements with Land-Grant University dairy economists, analytical

capabilities available through existing modeling frameworks to address the

questions. A major component of the analysis was utilization of “baseline

models.” Both the Food and Agricultural Policy Research Institute (FAPRI)

and the Economic Research Service (ERS) of the USDA have devoted considerable resources to developing baselines for policy and program analysis. The

FAPRI framework has a direct link to a farm-level analytical framework,

FLIPSIM, housed at the Agricultural and Food Policy Center at Texas A&M

University; the USDA model focuses on predominantly national questions.

The baseline models rely on a set of assumptions for a period of years into

the future. For example, milk production responses to price changes are

defined by fixed model parameters. Similarly, a set of parameters defines

the demand side of the industry. The assumptions underlying the baseline

values of dairy industry indicators are available at the following web sites:

http://www.fapri.missouri.edu/Publications/2003Publications/BriefingBk03/03BriefingBk.pdf (FAPRI), and http://www.ers.usda.gov/publications/waob031/ (FAPSIM). Appendix C shows the baseline values for key

dairy industry indicators used in the analyses. 

The baseline models are developed in the context of existing programs.

Baseline values reflect the assumption that current dairy programs are in

operation. Program effects are then estimated mechanically, by deriving

changes from baseline values in the absence of the programs. We hypothesized elimination of programs one at a time, an approach that uncovers

both marginal and total effects, subject to underlying assumptions

regarding program operations. No changes in border measures were

made—the mandate emphasized domestic dairy program relationships as

the priority.

Many analysts have noted that the annual basis for the baseline models can be

problematic for program analysis. Baselines embody the best estimates of

conditions that will exist in the context of program continuation and other

factors such as normal weather patterns. Programs may be adjusted during the

year. For example, the milk price support program may be altered by changing

the combination of purchase prices for butter and nonfat dry milk known as the

“tilt”. Annual baseline models do not capture such a change unless it is built in

from the beginning. More will be said on this point as needed.

The use of the baseline frameworks as described above is a modified counterfactual approach for determining dairy program effects. It is a modified

approach because two simulations are used, one a baseline which includes

program effects and the other a “without programs” alternative. A true

counterfactual analysis generally rests on comparisons of estimated values

of variables with actual values. Counterfactual approaches do not imply

support or criticism of any particular policy—they are only a means of

analyzing economic relationships under alternative hypothetical situations.

It bears repeating that the study mandate does not call for an analysis of

dairy program elimination. Elimination is only an artifice of the empirical

analysis to derive program effects. 
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this study analyzes the effects of dairy programs and does not provide any

recommendations regarding program elimination.

Table 4.1 shows the average effects of the package of four current dairy

programs. The similar results from the two independent analyses suggest

modest average program effects at the farm level (Brown, 2003; Price,

2004). With current dairy programs in place, the all-milk price is higher by

about 1.5 percent and milk production and cow numbers are higher by 1.5-2

percent. Readers are cautioned again that these results are based on a

comparison of estimated baseline and hypothesized scenario results, 

not a comparison of estimates and actual values of data. National dairy

programs were found to raise producer cash receipts by about 3-4 percent.

National dairy programs result in higher nonfat dry milk (NFDM) and

lower butter and cheese prices at the wholesale level. The combination of

price support and Federal milk marketing order programs influences allocations of farm milk to final uses that contributes to the wholesale product

price relationships. Higher milk production induced by higher milk prices

Table 4.1—National dairy program effects on industry indicators

Contribution1

Indicator/Variable FAPRI2 FAPSIM3

Percent

Milk production 1.9 1.5

Milk cows 1.8 1.4

All-milk price 1.5 1.6

Producer cash receipts 3.8 3.4

Dairy product production:

Butter 11.9 13.6

Cheese 0.7 0.3

Nonfat dry milk 31.8 28.0

Milk in fluid use NA -2.1

Dairy product prices:

Wholesale

Butter -16.5 -21.3

Cheese -2.8 -1.7

Nonfat dry milk 6.5 11.1

Class I milk price NA 8.9

Retail

Butter -8.9 -9.4

Cheese -1.8 -0.4

Fluid milk 7.7 3.4

1Effects as percentage (positive or negative) attributed to the four programs, relative to “Nopolicy” base, 5-year average.

2Food and Agricultural Policy Resarch Institute, University of Missouri

3Food and Agricultural Policy Simulator, USDA-ERS

Source: Brown (2003) and Price (2004).
results in greater availability of butterfat for both butter and cheese,

resulting in lower prices for both products. We would expect fluid milk

prices at wholesale to be higher due to classified pricing. The retail price

effects are similar to those at the wholesale level, a reflection of the assumption that processors and dairy product manufacturers pass through input

(milk or milk components) cost increases or reductions to consumers. Thus,

consumers see lower butter and cheese prices and higher fluid milk prices

than would appear in the absence of the programs.

As noted previously, the empirical analysis uncovers the marginal effects of

individual dairy programs and a shorter run perspective since the baselines

are established for a period of several future years (on an annual basis). The

marginal effects of individual programs are tied directly to the order they

are analyzed in each empirical model.3 Why is this important? Consider

the FAPRI model framework where the first program assumed to be eliminated is the MILC program. Since MILC is a direct payment program, it

could partially offset any negative effects associated with the hypothesized

elimination of one of the other programs first. When it is not available, the

effects of the next hypothesized program elimination, milk price support in

the FAPRI model, are unmasked. In the FAPSIM analysis, milk price

support (CCC) is the first program to be hypothetically eliminated. Since

MILC payments would still be made, they could mitigate milk price support

elimination to some degree.

The marginal and shortrun program effects from the FAPRI and the

FAPSIM analyses on milk production and the all-milk price are shown in

tables 4.2 and 4.3. The interpretation of both tables is the same—a detailed

discussion of the FAPRI model results illustrates how we can interpret these

results. The starting point for the following discussion is the effect on the

market indicators of the package of all four dairy programs. The 1.9-

percent production effect and the 1.5-percent all-milk price effect in the far

right column of table 4.2 correspond to the FAPRI model results shown in

table 4.1. Additional information presented in table 4.2 includes estimates

of the marginal contributions of each program to the cumulative average

effects of all four programs. Year-by-year changes provide the shorter run

measures of the effects. 

In table 4.2, the average production effect of 1.9 percent has been disaggregated into four components, one for each dairy program. The operation of

the Federal milk marketing orders contributed about 32 percent to the total

percentage change, DEIP about 16 percent, the price support program about

21 percent, and the MILC program about 26 percent. The marginal effects

of the programs for each year can be calculated as above. The annual effect

on production from 2003 to 2007 attributed to all four programs ranges

from 1.5 to 2.4 percent, with the larger impacts occurring early in the

period. The earlier effects result from baseline modeling assumptions

regarding production responses to the milk price changes associated with

programs. The production adjusts to the changed prices over time so that

effects of an initial change are diminished over time.

The average 1.5-percent all-milk price effect is decomposed in the same

way, but the results highlight the countervailing effects of individual dairy

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3The order of program removal followed in the FAPRI analysis was:

MILC (first), price support (CCC),

DEIP, FMMOs (last). The order for

the FAPSIM analysis was: price support (CCC) (first), DEIP, MILC,

FMMOs (last).
programs. That is, the programs have both increasing and decreasing

effects on the all-milk price. The argument that there is a basic incompatibility involved in operating both the price support program and the MILC

program simultaneously is supported by these results. However, the two

programs operate in fundamentally different ways. The milk price support

program is designed to affect prices through markets for manufactured dairy

products. MILC payments are made directly to individual milk producers.

Without the MILC program, the remaining dairy programs raise the all-milk

price by 3.8 percent over a 5-year period—when MILC is included, the

increase is only 1.5 percent. 

Annual estimates of all milk-price effects suggest there are significant

underlying shortrun effects of dairy programs that must be recognized. For

example, the effect of the milk price support program on the all-milk price

is larger in the first year than in later years as milk supply adjustments take

place. The differences in the annual baseline values of Commodity Credit

Corporation butter, cheese, and nonfat dry milk (NFDM) price support

purchases also play a significant role in determination of the price effects.

The FAPSIM results displayed in table 4.3 are interpreted in the same way.

However, two aspects of the model are different from the FAPRI approach:

the order of program elimination and the time frame for estimating longer

term average effects. Since MILC is a direct payment program, its effects

can offset negative effects associated with the elimination of other

programs. Even with the differences described, the following similarities

are seen: 1) the shortrun effects are greatest early in the time period of

analysis, and 2) the offsetting all-milk price effects of the MILC and price

support programs are present. 

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Table 4.2—Shortrun effects of selected dairy programs on dairy market 

indicators, FAPRI analysis

2003 2004 2005 2006 2007 Average

Effects on milk production

Scenario1 Percent change

MILC 0.5 0.9 0.6 0.4 0.2 0.5

CCC 0.5 0.6 0.6 0.3 0.2 0.4

DEIP 0.0 0.0 0.3 0.5 0.5 0.3

FMMO 0.5 0.9 0.6 0.6 0.6 0.6

All selected programs 1.5 2.4 2.2 1.7 1.6 1.9

Effects on all-milk price

MILC -2.1 -2.9 -3.5 -1.8 -1.2 -2.3

CCC 3.4 3.8 -0.9 -0.9 -0.5 1.0

DEIP 0.0 0.0 2.2 1.7 1.3 1.0

FMMO 3.9 4.3 0.2 0.2 0.3 1.8

All selected programs 5.4 5.2 -2.1 -0.8 -0.2 1.5

1 See text for scenario descriptions.

Source: Brown (2003).
As a general hypothesis, dairy programs would be expected to raise milk

producer revenues, increase costs to consumers, and raise Government

program costs. In table 4.4 the results of our empirical analysis in these

three cases are shown. As noted previously, the results are conditioned by

the model baseline values and the assumed milk supply adjustments over

time. For example, if the underlying baseline exhibited high prices

throughout the period of analysis, smaller or no impacts associated with the

programs would appear. 

Program implementations are estimated to add an average of about $1

billion annually to Federal Government outlays. These costs arise primarily

from dairy product purchases for price support, payment of DEIP bonuses,

and MILC payments. The costs relate directly to how programs are administered and whether program parameters are or are not changed (see box,

“Adjustments in Dairy Product Purchase Prices” in “Public Policy in the

Dairy Industry”).

The annual average change in producer revenue ranges from about $1.2

billion to $1.9 billion. There are clearly much larger revenue (and Government cost) effects in the early years of the time periods being analyzed. A

major factor in this “front-end” loading is the shortrun nature of the MILC

program as originally implemented and its associated costs. As production

adjustments to price changes implied by the models play out, the magnitudes of the effects diminish.

The estimates of changes in consumer expenditures on all foods are more

divergent between the two empirical modeling frameworks, ranging from

an annual average of about $1.8 billion to about $300 million. One reason

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Table 4.3—Shortrun effects of selected dairy programs on dairy market

indicators, FAPSIM analysis

2002 2003 2004 2005 2006 2007 Average

Effects on milk 

production

Scenario1 Percent change

CCC 0.5 1.0 0.9 0.7 0.7 0.8 0.8

DEIP 0.3 0.5 0.5 0.5 0.5 0.5 0.4

MILC 0.2 0.4 0.4 0.3 0.3 0.2 0.3

FMMO 0.1 0.1 0.1 0.0 -0.1 -0.1 0.0

All selected programs 1.0 1.9 1.8 1.6 1.4 1.4 1.5

Effects on all-milk price

CCC 6.0 7.4 -2.3 0.4 0.6 0.7 2.2

DEIP 4.6 0.4 0.5 0.5 0.3 0.3 1.1

MILC -1.4 -3.0 -2.2 -1.5 -0.7 -0.4 -1.5

FMMO 0.9 -0.2 -0.3 -0.3 -0.4 -0.3 -0.1

All selected programs 10.1 4.6 -4.3 -1.0 -0.2 0.3 1.6

1 See text for scenario descriptions.

Source: Price (2004).
for the wide difference is likely the hypothesized effect related to FMMOs.

Dairy economists generally agree that in the absence of the FMMOs there

would still be a premium paid for milk going into fluid uses. The question

is the size of the premium. A small premium would mean FMMO program

effects are large. Large premiums imply smaller FMMO effects. The two

baseline models reflect these hypotheses—FAPRI analysis assumes a $0.50

per hundredweight (cwt) premium while in the FAPSIM analysis the value

is $1.30 per cwt. These results highlight the difficulties encountered in

analyzing the demand side of dairy policy. Since dairy policies and

programs are fundamentally producer-oriented, the consumer effects are

indirect. Whether any change in dairy programs has large or small effects

on consumers depends on consumer food purchase patterns, tastes and

preferences for dairy products, ethnic background and other factors.

Neither modeling framework employed in this analysis has a detailed

demand component. 

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Table 4.4—Effects of dairy programs on producers, consumers, and Government expenditures

2002 2003 2004 2005 2006 2007 Average

FAPRI results Billion dollars

Producer Difference4 3.4 3.5 2.0 0.2 0.3 1.9

revenues1

Consumer Difference4 2.8 2.9 0.9 1.2 1.2 1.8

expenditures2

Government Difference4 2.6 1.5 1.5 0.6 0.3 1.3

expenditures3

FAPSIM results

Producer Difference4 3.0 2.4 0.3 0.7 0.3 0.4 1.2

revenues1

Consumer Difference4 1.8 0.8 -0.5 0.0 -0.1 0.1 0.3

expenditures2

Government Difference4 0.2 2.5 1.3 1.0 0.3 0.3 1.0

expenditures3

1Net revenue in FAPRI and gross receipts to milk producers in FAPSIM.

2Aggregate food expenditures in both FAPRI and FAPSIM.

3CCC net expenditures for dairy in both FAPRI and FAPSIM, fiscal year.

4Difference between “No programs” estimate and “Program in operation” estimate.

Source: Brown (2003) and Price (2004).
National Dairy Program Effects on Price 

Level and Volatility

Establishment of commodity price support programs is often tied to the

objective of commodity price stability. Gardner (2002) suggests the link is

not easy to uncover but that dairy price support has, at various times, stabilized milk prices. Since the late 1980s, milk and dairy product prices have

become much more volatile, a situation that creates challenges for farm

business planning, debt repayment, and in some cases, achieving or maintaining solvency. However, the milk price support program has put a floor

under dairy product prices and the volatility can provide attractive buying

and selling opportunities at low and high points in product price cycles.

Price volatility is examined using a system dynamics model developed at

Cornell University (Nicholson and Fiddaman, 2003). The perspective taken

for this component of the study is different from that taken in the previous

section. Rather than comparing a simulation of program elimination with a

baseline to provide estimates of program effects, this analysis uses simulations of changing dairy program parameters to generate estimates of effects

on price variability. Table 4.5 summarizes MILC and milk price support

program options and their effects on milk price variability. The FMMOs

were also examined but the results are not shown here. They can be seen in

Nicholson and Fiddaman (2003). 

Programs influence both the level and variability of prices. MILC payments,

which do not directly affect prices, have an indirect effect by increasing

milk production. The MILC program results in lower all-milk and product

prices, and lower price variation. Aggregate farm receipts (per cwt) are

much less variable under the MILC program than in the base case due to the

cushioning effect of direct payments.

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Table 4.5—Measures of variability under selected alternative policy options

Average1 Standard deviation1

Price Price

Base MILC2 support3 Base MILC2 support3

Farm milk prices Dollar per cwt Dollar per cwt

U.S. all-milk price 12.28 12.08 12.71 1.01 0.87 0.86

Farm receipts4 12.28 12.97 12.71 1.01 0.60 0.86

Wholesale product prices Cents per pound Cents per pound

Cheese 121.51 120.07 125.23 9.41 8.41 7.42

Butter 113.35 112.35 116.02 13.58 12.85 11.98

Nonfat dry milk 86.51 85.12 92.60 11.71 9.65 9.85

1Average and standard deviation measured over 60-month simulation horizon.

2Implementing direct payments as per MILC.

3Raising milk support price by $1.00 from current $9.90 per cwt level.

4For the MILC policy option equals the all-milk price plus direct MILC payments.

Source: Nicholson and Fiddaman (2003).
Milk price support program effects depend on the level of support relative

to market prices. Increasing the support price will increase average farm

milk and product prices if it results in government purchases and stockholding. However, government stockholding is not a long-term solution—

continual stock building with uncertain opportunities for disposal can

become problematic. Increased support reduces volatility of farm milk

prices, class prices, and dairy product prices. It would likely require very

high support prices to completely eliminate price variation. 

National Dairy Program Effects at

the State Level

There is minimal subnational detail in the baseline frameworks underlying

the analysis. The FAPRI model does include State-level production relationships on the supply side of the model. The effects of the selected dairy

programs on key milk-producing States are not uniform (table 4.6). Because

State pricing systems are unchanged, California producers are worse off

when national programs are in place that promote increased production that

pushes California class prices downward. Both the FMMO and California

class prices are linked to dairy product market prices that tend to be lower

when milk production is higher nationwide.

The all-milk price in all States reflects fluid milk prices and is linked to

fluid utilization rates. The all-milk prices are higher with national programs

in place, but key milk-producing States with less than 20-percent fluid

utilization do not benefit as much as States with fluid utilization in excess of

35 percent (table 4.6).

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Table 4.6—National dairy program's effect on all-milk price,

selected States

Change

from 

5-year average Fluid

"no programs" utilization

Baseline estimate rate1

$ per cwt Percent Percent

Wisconsin 13.23 4.8 20.2

New York 13.61 9.5 41.6

Pennsylvania 14.63 9.2 42.4

Minnesota 13.25 4.1 20.2

Idaho 11.82 0.4 19.7

New Mexico 12.09 6.5 41.8

Michigan 12.98 6.2 36.9

Washington 12.53 0.6 27.0

Texas 13.42 8.0 41.8

1Utilization rates from appropriate Federal milk market orders in 2002.

Source: Brown (2003) and USDA, AMS, Federal Milk Order Market Statistics, Annual

Summary, 2002.
The national dairy program effects on California’s all-milk price were found

to be negative (-3.4 percent). This apparently counterintuitive result is tied

to the fact that no changes in the California milk pricing system were

included in the model. Had California’s system also been altered in

response to Federal program effects, a positive change in the all-milk price

would likely have occurred there. Moreover, we would expect market

forces to generate premiums for milk in fluid uses that would at least

partially offset the loss of fluid milk differential under FMMOs. Thus the

effects in table 4.6 can be interpreted as maximum effects.

Effects of National Dairy Programs on Farms

An analysis based on a panel of dairy farms (table 4.7) suggests dairy

programs improved the financial well-being of most, but not all, individual

dairy farms (table 4.8). The results shown in table 4.8 show the total effect

of the four individual dairy programs based on the results provided by the

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Table 4.7—Selected characteristics of representative dairy farms, 2001

Annual milk 

Panel farms Financial condition Herd Gross receipts production eligible

State (region) with programs size Milk per cow per cow Cropland for MILC payments1

Number Pounds Dollars Acres Percent

CA Good 1,700 23,500 2,829 800 6

NM Marginal 2,000 21,400 2,879 400 6

WA Good 185 24,600 3,648 120 53

WA Poor 900 25,200 3,347 605 11

ID Poor 750 24,000 3,081 240 13

ID Good 2,100 23,500 2,933 560 5

TX (Northern) Poor 2,400 20,100 2,651 260 5

TX (Central) Poor 500 17,500 2,552 250 27

TX (Central) Good 1,300 21,400 3,152 460 9

TX (Eastern) Poor 330 15,000 2,230 600 48

TX (Eastern) Good 750 18,700 2,793 750 17

MO Poor 85 18,100 2,293 260 100

MO Poor 400 20,000 2,201 730 30

FL (Northern) Good 500 18,000 3,583 600 27

FL (Southern) Poor 1,500 16,000 2,770 400 10

WI Poor 135 23,500 3,423 600 76

WI Marginal 700 22,600 3,077 1,200 15

NY (Western) Poor 800 22,900 3,216 1,440 13

NY (Western) Poor 1,200 22,500 3,176 2,160 9

NY (Central) Good 110 23,700 3,771 296 92

NY (Central) Good 500 23,200 3,340 1,100 21

VT Good 134 22,000 3,307 220 81

VT Poor 350 23,800 3,327 700 29

Panel average 840 21,357 3,025 641 33

1A maximum of 100 percent of any farm’s production is eligible for payments.

Souce: Outlaw et al. (2003).
analysis using the FAPRI analysis presented earlier (Brown, 2003). The

change in longrun projected net worth over the 2003 to 2007 planning

horizon is estimated for each panel farm.

The effects differ by size of operation (Outlaw et al., 2003). Programs have

different effects on the individual farms for several reasons. MILC program

effects depend on the share of production covered. The 2.4-million-pound

cap on eligible production ranges from 5 percent of production on the

largest dairies in the sample to well over 100 percent for the smallest. In no

case may any producer receive payments on more than 2.4 million pounds

of milk, but a producer well under the cap could increase production and

receive added payments. The effects of the milk price support program and

DEIP would be expected to be positive for all farms in the sample. Effects

of the FMMO system, a fluid milk program, vary by location so that effects

of classified pricing are unevenly distributed. The four large western U.S.

farms that are less well off with programs (CA - 1,700 cows, WA - 900

cows, ID - 750 cows, and ID - 2,100 cows) is due in part to their location in

areas of low Class I use. The results for the panel farms indicate that while

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Table 4.8—Measuring dairy program effects at the farm level

Panel farms Herd Effects of

State (region) size programs

number dollars

CA 1,700 -210,220

NM 2,000 365,280

WA 185 10,110

WA 900 -26,870

ID 750 -13,710

ID 2,100 -62,230

TX (Northern) 2,400 417,000

TX (Central) 500 97,140

TX (Central) 1,300 240,990

TX (Eastern) 330 66,570

TX (Eastern) 750 130,580

MO 85 26,200

MO 400 71,950

FL (Northern) 500 168,790

FL (Southern) 1,500 465,900

WI 135 13,620

WI 700 21,610

NY (Western) 800 179,080

NY (Western) 1,200 242,340

NY (Central) 110 38,010

NY (Central) 500 111,630

VT 134 42,050

VT 350 97,330

Panel average 840 108,398

Note: The values in the last column are interpreted as follows:

A positive value means dairy programs have a positive effect on net worth estimates.

A negative value implies programs depress the net worth estimates of the dairy.

Source: Outlaw et al. (2003).
some program changes might be necessary to keep the production sector of

the dairy industry moving toward sound financial condition, not all

producers benefit from or even desire such changes. 

USDA’s ARMS data (see box, “Agricultural Resource Management System

(ARMS) Data” in “The Evolution of the Modern Dairy Industry”) provides

additional insight on the effects of national dairy programs on dairy farms

and their long-term profitability.4 Using the ARMS data, dairy farms can be

divided into three groups according to their economic costs per dollar of

revenue. Low-cost farms generate enough revenue to cover economic costs

of production (costs per dollar of revenue are less than 1). In 2001, an estimated 29 percent of dairy farms were in the low-cost group and they

produced 62 percent of dairy output measured by value. Mid-cost farms

(those with costs per dollar of revenue between 1 and 1.5) are those close to

becoming financially viable and could do so with higher milk prices, lower

production costs, and/or larger government payments. They accounted for

about 46 percent of all dairy farms in 2001, and 33 percent of the value of

dairy production. The high-cost farms (costs per revenue dollar of 1.5 or

higher) represented about 24 percent of dairy farms, but only 5 percent of

the value of dairy production. These farms require other sources of income

or equity, such as off-farm employment, retirement earnings, or savings to

remain viable (Morehart et al., 2000). The data show that high-cost farms

have higher average off-farm earnings than either mid- or low-cost farms.

One approach for assessing the viability of dairy farms in any given year is

to measure the revenue necessary to cover long-term economic costs. The

share of dairy farms that are financially viable can change from year to year,

depending on the level of prices, costs, and government payments. For

example, in 2000 (a low milk price year), less than 25 percent covered

economic costs, allowing them to sustain the farm business over many years.

A larger percentage fell into the mid- and low-cost groups than in 2001. 

Government policy can affect farm viability through revenue impacts

related to milk price (market receipts), and through direct government

payments. While ARMS provides data on government payments, it is not

possible to discern the influence of policy on price. The set of selected

national dairy programs—the milk price support program, DEIP, and

FMMOs—raises the all-milk price by an average 4 percent over a 5-year

period. Because ARMS data do not include MILC payments, the effects of

MILC on the all-milk price are excluded. 

A static analysis based on 2001 data shows that higher milk prices resulting

from national dairy programs improved the short- to medium-term profitability and viability of dairy producers. The share of dairy farms that

would cover longrun economic costs increases from 24 to 29 percent (fig.

4.1), and the share of farms that require other sources of income or equity to

remain viable declines from 26 to 24 percent. A targeted direct payment

program like MILC will improve the viability of mid- and high-cost

producers who have high percentages of their production eligible for

payments. Lower cost producers will always be profitable in the long run,

making it possible for them to expand production to gain market share. 

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4Long-term profitability is defined as

the difference between economic costs

and total revenue. Economic costs

must be covered in order to sustain

the farm business over the long run.

They include total cash costs plus an

allowance for depreciation as well as

an imputed return to management and

to unpaid labor of the farm operator

and family (Morehart et al., 2000).

Revenue includes receipts from milk

and dairy product sales, government

payments, and crop insurance indemnity payments. The 2001 ARMS data

includes Dairy Market Loss

Assistance payments but predates the

MILC program.
National Dairy Programs’ Effects on Food

and Nutrition Programs 

Effects of national dairy programs on food and nutrition (F&N) programs

(appendix D) arise through price effects on fluid milk and dairy products

either included directly in F&N programs or available with F&N program

assistance (GAO, 2001). The F&N programs involving large quantities of

fluid milk and other dairy products are affected most. Government costs for

dairy products provided by F&N programs are tied to individual dairy

product price indices and their contributions to the overall Consumer Price

Index. 

Only the Special Supplemental Nutrition Program for Women, Infants, and

Children (WIC) is structured in such a way that higher dairy product prices

might reduce the number of participants. This is because WIC is a discretionary program funded by annual appropriations tied to F&N program

costs. The other F&N programs are entitlement programs where anyone

meeting the requirements can receive the benefits. Higher dairy prices

increase the cost of other government F&N programs and affect consumer

choices on how to spend their food dollars, which is particularly important

for the Food Stamp Program.

As shown in table 4.9, there are both positive and negative price effects

related to national dairy programs. At the wholesale level, national dairy

programs, as currently administered, tend to keep butter and cheese prices

lower while the price of nonfat dry milk and fluid milk is higher. Retail

prices mirror the effects seen at the wholesale level but are smaller in

percentage terms—fluid milk prices tend to be higher while dairy product

prices tend to be lower. The net effect of programs on costs (both to the

Government and to F&N program participants) depends on two things: the

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Figure 4.1

Effect of 4-percent milk price increase on dairy farm 

cost distribution, 2001

0

20

40

60

80

100

0 0.5 1 1.5 2

Costs per dollar of revenue

With policy Without policy

Low-cost

farms cover all 

economic costs

Mid-cost

farms close to 

financially viable

High-cost

farms require other 

sources of income

29%

24%

Source: USDA, ERS from USDA, NASS data.

Cumulative percent of farms
shares of the products included in the programs and the consumers’ buying

behavior. 

F&N programs where fluid milk is a major component will have higher

dairy product costs, whether dairy programs are operating or not. It is critical to note that the full effects shown in table 4.9 are mitigated by how

food cost indices are affected. For example, in situations where the

Consumer Price Index for Urban workers (CPI-U) underlies program cost

calculations, fluid milk carries a weight of .308 (which represents 2 percent

of the food expenditure component of the CPI-U). Thus, a hypothetical 10-

percent retail fluid milk price change would represent a 2-percent change in

total food costs for the consumer. On the basis of the estimates in table 4.9,

the range of effects from changes in fluid milk prices at retail on the CPI-U

range from just under 1 to just over 2 percent. 

In cases where expected higher costs due to dairy programs threatened to

reduce participation, steps were taken to assure that program participants

were not adversely affected. For example, Northeast Dairy Compact rules

required reimbursements to the WIC program and the School Lunch

Program for higher milk costs that resulted from Compact pricing. There is

no corresponding requirement for Federal dairy programs.

National Dairy Program Effects on 

Rural Economies

U.S. dairy program impacts are felt not only on dairy farms but also in

communities dependent on them for economic activity. National program

effects on milk and dairy product prices and quantities derived from the

aggregate national analyses described in a previous section are used to estimate impacts on dairy processing and other sectors of the economy as they

are dispersed over regions of the country. The program effects on dairy

industry indicators are used in an input-output framework to estimate the

direct and indirect national impacts, and then distribute these impacts across 

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Table 4.9—Average wholesale and retail product price effects of dairy

programs

FAPRI FAPSIM

percent

Wholesale

Cheese -2.8 -1.7

Butter -16.5 -21.3

Nonfat dry milk 6.5 11.1

Retail 

Fluid 7.5 3.4

Cheese -1.8 -0.4

Butter -8.9 -9.4

Source: Brown (2003) and Price (2004).
State metro and nonmetro regions of the country. The effects of dairy

programs on nonmetro areas are an indicator of their effects on rural

economies.5

The estimated dairy program effects on milk and dairy product prices shown

in table 4.1 generate an estimated $800 million in additional sales by dairy

processors. Through inter-industry linkages, the added sales generate just

over $2.2 billion in revenues nationwide, including the additional dairy

product sales. Just over 25 percent of the additional sales revenue is by the

farm sector in the form of dairy farm products and the additional feed. The

added economic activity in the farm sector represents about 1.7 percent of

dairy farm base revenues and about 1.4 percent of dairy processing base

revenues (table 4.10). 

There are employment effects associated with the additional economic

activity generated by the dairy programs. The input-output model provides

the estimated direct and indirect jobs effects by industry. The largest

impacts are in the farm sector, which includes not only dairy farms but also

farms that produce feed crops. Most of the jobs created as a result of dairy

programs—over 65 percent—are in metro areas, but the impact in nonmetro

areas is also significant. While nonmetro areas account for only 18 percent

of all jobs in the U.S. economy, they account for 35 percent of the jobs

created by U.S. dairy programs. The largest nonmetro impacts are in the

North Central and the Plains regions, areas that are important locations for

dairy farms, dairy processors, and feed crop production.

The estimated job effects of dairy programs on total employment are small

on both national and regional levels, less than 0.1 percent in both cases.

The effect on jobs in the dairy industry is higher percentage-wise,

although still small. The added employment in dairy processing and

manufacturing would be about 1 percent, while dairy farm employment

increases by 1.5 percent. 

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5For definitions of “metro” and “nonmetro” see http://www.ers.usda.gov

/Briefing/Rurality/ruralurbancon.

Table 4.10—National, regional, and county effects of dairy programs

United States Regional and county

Economic activity Employment Economic activity Employment

Billion dollars 1,000 jobs Billion dollars 1,000 jobs

Total U.S. 2.20 13.1 Metro Nonmetro Total Metro Nonmetro Total

Farm 0.56 5.2

Dairy 0.37 3.4 Northeast 0.40 0.07 0.47 1.83 0.44 2.27

Livestock 0.00 0.0 North Central 0.42 0.26 0.67 2.15 1.87 4.02

Crops 0.19 1.7 Appalachia 0.12 0.07 0.19 0.59 0.38 0.97

Food processing 0.85 2.2 Southeast 0.19 0.07 0.26 1.01 0.42 1.43

Dairy processing 0.80 2.0 Plains 0.17 0.09 0.26 0.80 0.74 1.54

Other food processing 0.06 0.1 Mountain 0.09 0.05 0.14 0.48 0.39 0.87

Other manufacturing 0.32 1.2 Pacific 0.25 0.03 0.28 1.74 0.28 0.28

Trade and transportation 0.16 1.3

Other services 0.33 3.3 Total U.S. 1.6 0.6 2.2 8.6 4.5 13.1

Source: USDA, ERS.

Note: Totals may not add due to rounding.
Most of the economic activity due to national dairy programs is distributed

over the country in a pattern similar to the job effects (table 4.10). The

largest nonmetro impacts are again in the North Central region. The estimated economic impacts are small on both the national and regional levels.

However, even small effects for large regions may be important if they are

centered in nonmetro areas where smaller communities depend on economic

activity from dairy farms and dairy processing.

Summary

The quantitative analyses in this study examined national dairy program

effects on market and farm-level indicators, the well-being of dairy farms,

milk price volatility, food and nutrition (F&N) programs, and rural

economic activity. Several empirical approaches were used because there is

no comprehensive modeling framework available at this time that incorporates all of the relationships needed for the study.

The average effects of national dairy programs are modest. These results

suggest that most market indicators are not sensitive to program intervention in the longer term. However, the results show that there are larger (on

a percentage basis) shortrun effects in the early years as the industry adjusts

to change. The results reflect the difficulty of modeling dramatic program

changes when their effects are embedded in data and the assumptions and

parameters underlying the analytical frameworks. It is possible that a

market indicator, the all-milk price for example, might not differ from baseline values in the longer term as dairy programs are changed. Or, the divergence from baseline values might be significant. The key to making use of

this type of analysis is examination of the revealed changes in market indicators from baseline conditions and the direction of those changes.

The analysis presented here is limited to effects on market variables—price,

production, and consumption—and reveals little about program effects on

the structure of the dairy sector. Dairy programs are estimated to raise the

all-milk price by less than 2 percent on average over a 5- or 6-year period

while cash receipts increase by about 3 to 4 percent. To the extent that

higher prices keep some marginal milk producers in production, dairy

programs may slow structural change at the farm level, which is also driven

by technological advances and changing consumer demands. Technology,

changing consumer demand, and changes in upstream and downstream

sectors are more important determinants of the structural change seen in the

dairy industry.

Price levels are not the only concern of milk producers and other dairy

industry participants—volatility has become an issue as well. Price stability

is a goal of some dairy programs. The dynamic simulation analysis

provides some empirical evidence supporting that conjecture but more

extensive work is needed. The MILC and dairy support programs do appear

to reduce price volatility as measured by the standard deviation of selected

milk and dairy product prices.

The results give us a first cut at some of the distributional effects of dairy

programs. While the average effects of dairy programs may be small, the

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impacts are likely to vary according to the size and location of individual

dairy farms. Results of farm-level analysis show that, on average, dairy

farms are better off with dairy programs in effect. But that is not a

universal result. A second analysis of farm viability suggests that a higher

milk price would allow a larger share of farms to be profitable or viable in

the short to medium term. 

However, in the longer term, without dramatic changes in the cost structure

of dairy farms, low-cost farmers will be more profitable with higher prices,

but expanding production will drive milk prices lower. This result presents

a quandary—it is not likely that all farms will be willing or able to be in the

low-cost category. Given that situation, the solution to the long-term existence of medium- and high-cost farms may be direct payments to farmers

meeting certain criteria rather than market intervention designed to affect

prices. It is possible that budget exposure might also be reduced with a

direct payment program. In that sense, current milk programs, except for

MILC, may accelerate structural change.

Effects on food and nutrition (F&N) programs are mainly cost-related. In

only one case, the Special Supplemental Nutrition Program for Women,

Infants, and Children (WIC), is participation and cost linked in such a way

as to possibly reduce participation as costs rise. The other F&N programs

are entitlements and participation means essentially taking advantage of the

benefits of the programs to obtain dairy products. In the case of food

stamps, higher food costs affect consumer food demand which in and of

itself does not necessarily reduce program participation. Higher food costs

clearly could affect the share of food stamp dollars spent on dairy products.

In the context of regional economic effects, the modest national effects of

dairy programs are distributed throughout the U.S. according to the importance of dairy farming and dairy-related sectors in local economies. Not

surprisingly, the greatest effects are in areas where dairy farming and dairy

production are still significant economic sectors. Also of interest are the

measures of effects on metro areas where many milk processing or manufacturing operations are located. The fact that dairy programs affect change

in all the components of the dairy industry (producers, processors, or manufacturers) contributes to this result.

Finally, forces other than dairy policy and programs—such as technology

and changing consumer food preferences—are affecting the U.S. dairy

industry, the effects of which are embedded in model structure, parameters,

and data. These forces are likely to continue to move the dairy industry in

the direction exhibited by long-term trends. The effects of some of these

forces may be more important than the effects of national dairy programs on

aggregate dairy market indicators.

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An Alternative Milk Pricing Approach

Section 1508(A) of the 2002 Food Security and Rural Investment Act called

for USDA to “conduct a study on the effects of—(1) terminating all Federal

programs relating to price support and supply management; and (2) granting

the consent of Congress to cooperative efforts by States to manage milk

prices and supply.” It is not clear what “cooperative efforts by States. . .”

means specifically in the context of the request, but the Northeast Interstate

Dairy Compact (NEIDC, or the Compact) that operated from July 1997 to

September 2001 is a recent example of such an effort.1 The NEIDC was a

realization of the wide array of possibilities for defining compacts and their

objectives.

The answers to important economic questions regarding compacts rest on

assessments of benefits and costs to stakeholders in the industry. Who gets

the benefits and who bears the costs depends on the specific design of the

compact arrangements. Legislation to reauthorize dairy compacts has been

introduced periodically but not enacted. The congressional mandate in the

2002 Act offers an opportunity to review this program and to analyze the

effects of its potential reintroduction under a particular set of assumptions. 

The Northeast Interstate Dairy Compact

New York State legislators pressed for a dairy compact in the Northeast in

the late 1980s. By 1993, the six New England States had passed the legislation required to form a Compact and the governors were in agreement.

Congress consented to the Compact with the passage of the 1996 Federal

Agriculture Improvement and Reform Act. Connecticut, Maine, Massachusetts, New Hampshire, Rhode Island, and Vermont were authorized to enter

into the NEIDC as specified in section 1, Senate Joint Resolution 28 of the

104th Congress, subject to the Secretary of Agriculture finding compelling

public interest in the Compact region.

The objectives of the NEIDC included: 1) increasing dairy farmer income to

assure continued viability of dairy farming in the region; 2) assuring

consumers in the region an adequate local supply of pure and wholesome

milk; 3) encouraging the vitality of the region’s rural economy; and 4)

preserving open spaces. Farm milk price volatility and the effects of the

Compact on wholesale and retail milk prices were also concerns. Fluid

milk price regulation was the key—dairy farmers receiving a “fair and equitable” price for their milk would ensure an adequate local milk supply and

continued vitality of the dairy industry. A commission was established to

carry out the Compact’s objectives.

The Compact commission’s pricing authority was limited to Class I milk,

the milk used in fluid beverage products. Table 5.1 shows the average2

annual Compact price, the relevant Federal Milk Market Order (FMMO)

price for Class I milk, and the Compact premium—the amount in excess of

the FMMO price that processors were required to pay for Class I milk.

Revenue generated by the Compact regulation was returned to eligible

producers through a pooling mechanism.

1The NEIDC did not impose supply

management but the issue was raised

toward the end of its operation.

2Calculations and Compact payments,

when made, were on a monthly basis.

See http:\\www.dairycompact.org for

the monthly prices.
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3 Much of the material in this section

is from Knutson et al. (2003).

Under the 1996 Act, the life of the Compact was linked to reform of

FMMOs. Implementation of a reformed FMMO system as mandated by the

1996 Act would mark expiration of the Compact’s authority. Congress

broke this link by extending the Compact beyond the date the reformed

FMMO system was put in place in January 2000 to September 2001.

What did the Northeast Interstate 

Dairy Compact do?3

The NEIDC was the subject of many research efforts. The results of several

studies are summarized here and complete citations (or Internet links if

available) are provided in the References for those wishing to access the

original source material. The studies emphasized: farm-level effects, retail

fluid milk price effects, and other dairy product price effects.

Farm-level effects. Production increases in response to higher product

prices is an economic principle as applicable to dairy farms as to any other

business. Alexander and Nicholson (2002) found that the mandated

minimum NEIDC Class I price increased producer returns by an average

$0.53 per hundredweight (cwt) over the applicable FMMO blend price over

the life of the Compact. Nicholson et al. (2001) concluded that in its first

year of operation, the Compact increased the region’s milk production by

about 1 percent. Since the Compact States accounted for only about 3

percent of total U.S. milk production, national impacts were negligible. 

Expanding the area under Compact regulation would increase national

effects. For example, expanding the NEIDC to the 11 States named in the

1996 Act as possible members would cover 11 percent of national production. Cox et al. (1999) analyzed the interregional impacts of an expanded

NEIDC in the context of the dairy provisions as written in the 1996 Act.

They found that adding $2.00 to the relevant FMMO Class I differential for

the expanded NEIDC region would increase returns to the region’s dairy

farmers by $237 million but decrease returns in non-Compact regions by

$146 million—an interregional producer and consumer wealth transfer of

$383 million. Adding a southern compact would increase returns to the

combined compact region’s dairy farmers by $504 million but decrease

Table 5.1—Compact price, Federal order price, and Compact premium for Class 1 milk, annual average

Year Compact price Federal order price Compact premium

dollars per hundredweight

19971 16.94 14.91 2.03

1998 16.94 16.78 0.67

1999 16.94 16.90 1.20

2000 16.94 14.80 2.14

20012 16.94 17.45 0.34

1July-December.

2January-September.

Source: Northeast Dairy Compact Commission.
returns in non-Compact regions by $340 million—an interregional producer

and consumer wealth transfer of $844 million.4

Retail fluid milk price effects. Food prices tend to be “sticky” downward,

meaning they readily rise when farm prices rise but are slow to decline

when farm prices drop. Outlaw et al. (1994) and Hall et al. (1993) reported

finding little relationship between prices producers receive for their products

and retail prices. Brand (1963) and Padberg et al. (1993) found that pricing

decisions made by food processors, supermarket operators, and other food

retailers involve complex issues that have little direct relationship to farm

prices. Because of retail price stickiness, analyzing the effects of compacts,

particularly on consumers, may not be straightforward. 

If higher Class I milk prices to fluid milk processors are indeed passed on to

retailers, it is reasonable to expect higher consumer prices for fluid milk.

Studies verify that this happened in the NEIDC on at least a penny-forpenny basis. Lass et al. (2001) found that average retail price increases in

Boston, MA and Hartford, CT were about equal to increases in processors’

milk input costs. However, Cotterill and Franklin (2001) found supermarket

prices were higher than could be explained by increases in Class I milk

prices due to the Compact. Neither study analyzed milk prices or price

spreads over the entire Compact period.

There were occasions during the life of the Compact when the relevant

FMMO Class I minimum price rose above or fell below the minimum

Compact Class I price. Retail milk prices did not decrease as rapidly when

the prices fell—a consequence of stickiness as noted above. In any event,

the increase in the price of milk was estimated by Cox to result in less than

a 1-percent reduction in the region’s demand for fluid milk.

Retail prices reported by FMMO Administrators and processor/retailer price

spreads for whole and 2-percent milk for two Compact markets (Hartford,

CT and Boston, MA) and four non-Compact markets (Atlanta, GA,

Chicago, IL, Dallas, TX, and Seattle, WA) were analyzed for the period

between January 1994 and October 2002.5 When adjusted for labor and

fuel costs and seasonality, the processor/retailer price spreads were no

higher for either whole milk or 2-percent milk in the Compact markets than

in the non-Compact markets. Of the six markets studied, price spreads were

lowest in Boston (by $0.10 per gallon) and Hartford (by $0.09 per gallon)

during the Compact period. Following the Compact period, the

processor/retailer price spread widened by $0.068 per gallon on whole milk

and $0.074 per gallon on 2-percent milk as the cooperative price fell by

$0.12 per gallon in the Compact markets. However, it is important to note

that the spread increased even more in the non-Compact markets—by

$0.093 per gallon on whole milk and $0.108 per gallon on 2-percent milk.

These results suggest that retail prices indeed were sticky in the Compact

markets, but they were even stickier in the non-Compact markets (Knutson

et al., 2003).

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4The same type of interregional

wealth transfers occurs when FMMO

Class I price differentials are

increased. This occurs because of

regional differences in fluid utilization

among markets. While liberal pooling

provisions reduce the distortions in

producer revenues, they do not eliminate the distortions in product prices.

5Retail prices were those reported by

the USDA’s Agricultural Marketing

Service (AMS) which, because of limited sampling, may not reflect an average city or municipal area price. For

the Compact markets, the retail price

worksheets, provided by AMS, were

used to calculate the Compact price

differential, which was added to the

AMS’s cooperative Class I quoted

price. All city prices were adjusted to

the designated 3.25-percent or 2-percent butterfat and converted to a price

per gallon. The price spread was the

gallon retail price minus the milk cost.
Other dairy product price effects. The combination of increased milk

supply and reduced demand for Class I milk, both due to a higher Compact

price, affects not only fluid milk markets but other dairy product markets as

well. Increased production results in a spillover into manufacturing use,

which would be expected to reduce dairy product prices. Cox et al. (1999)

found that under alternative scenarios related to an expanded NEIDC, a

Southern Compact, and a combined NEIDC/Southern Compact, average

manufactured dairy product prices generally fell, particularly for American

cheese ($0.07 to $0.174 per pound) and nonfat dry milk ($0.115 to $0.384

per pound). Butter prices actually increased somewhat.

The previous analyses we have reviewed and summarized all concluded that

certain producers—those supplying milk to the Compact area—received

extra income through Compact premium payments. However, these benefits generated costs for other segments of the dairy industry both inside and

outside the Compact. Higher fluid milk prices inside the Compact raised

costs to consumers in the Compact area and led to efforts by the Compact

Commission to offset them, at least for some consumers (those in the WIC

program for example). Reduced fluid milk consumption due to the higher

prices made more milk available for manufacturing so that dairy product

prices, on the whole, declined somewhat. If production in the Compact

region expanded at a rate greater than the national average and price support

purchases were occurring, the Compact producers had to cover that added

CCC product purchase cost. Lower product prices also affected producers

outside the Compact(s) by lowering the value of milk in manufacturing

uses. Expanding the area under compact programs implied greater adjustments by non-Compact producers

Compacts in Lieu of Federal Dairy Programs

Termination of the NEIDC in 2001 did not quell interest in dairy compacts.

In January 2003, legislation was introduced in the House of Representatives

calling for restoring the consent of Congress to the Compact and granting

consent to a Southern Dairy Compact, a Pacific Northwest Dairy Compact,

and an Intermountain Dairy Compact.6 The analysis in this report is based

on a scenario similar to the January 2003 proposal. For our analysis, three

Compacts are defined: the Northeast, the Southern, and the Western. There

are non-Compact areas in the scenario we have chosen to consider. More

will be said about these areas in a following section. 

The analytical framework

The interregional impacts of alternative U.S. dairy policies and programs

have been examined using the University of Wisconsin-Madison Dairy

Sector Interregional Competition Model (UW-IRCM). The model is

designed to represent regional supply and demand conditions and dairy policies in the United States at particular points in time. It relies on the

FMMOs and California as the basis for spatial definitions and makes extensive use of milk component balancing and pricing.7

Two “policy bases,” 2000 BASE and 2001 BASE, were derived to characterize the U.S. dairy industry under recent low-price (2000) and high-price

(2001) supply and demand situations. The base-year models have been

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6The legislation, H.R. 324, was introduced January 8, 2003, by

Representative Vitter of Louisiana and

was referred to the Committee on the

Judiciary.

7Additional details about the UWIRCM can be found in Cox and

Chavas (2001) and Chavas et al.

(1998).
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adjusted to reflect current (2002) program features so that the empirical

results represent changes from a base that includes current programs. The

simulations of the base years include the following current policy or

program features: FMMO pricing as implemented in 2000 for 11 FMMOs;

support price at $9.90 per cwt with the butter-powder tilt as in 2002; California pricing rules and MILC payments as defined under the program.

The MILC payments were retained given the interpretation that the only

Federal program eliminated was milk price support. More will be said

about the implications of this assumption in the sections reporting empirical results. Trade-related policies and programs are unchanged from

those in place in 2002. The base-year simulations are calibrated to U.S.

and California production and prices in the base years as well as

commodity reference prices, an example being the Chicago Mercantile

Exchange price for cheese (Cox and Dabidia, 2003). 

Defining compacts for analysis

Several States have either expressed strong interest in or have passed legislation for participating in potential interregional dairy compact programs.

The UW-IRCM model cannot precisely incorporate some individual States’

potential participation in an interstate dairy compact. However, by allocating these States to the existing FMMO regions defined in the UW-IRCM

framework, Compacts may be defined.

The three Compact regions formed for our analysis are the Northeast, the

Southern, and the Western. The Northeast includes the six New England

States plus New York and Pennsylvania. The Southern is comprised of

North Carolina, South Carolina, Georgia, Alabama, Mississippi, Louisiana,

Arkansas, Tennessee, Missouri, Kentucky, Oklahoma, Kansas, Nebraska,

South Dakota, Iowa, Illinois, and Colorado. It is by far the largest

Compact, at least in terms of geographic area. Finally, the Western

Compact includes Idaho, Utah, Nevada, Washington, Oregon, and California. The Upper Midwest, Mideast, Southwest, Arizona and Florida

FMMO regions do not directly participate in the defined compacts.

There are other key issues involved with modeling compacts, including the

target Class I price, pooling provisions, and how milk from outside compact

areas is addressed. The Compact Class I target price is assumed to be

$16.94 per cwt in all three compact areas. If the relevant FMMO Class I

price is below the Compact Class I target price, processors must pay a

compact premium into the compact region’s producer settlement pool which

in turn will be distributed back to producers.

As for milk entering from outside compacts and compact pooling provisions, the UW-IRCM framework includes neither individual farms nor

plants, so the pooling provisions are difficult to model well. As the NEIDC

illustrated, milk produced outside the Compact area still entered that area

and was subject to Compact pricing rules. The analysis here is based on

assumed full compact border protection which simplifies the analysis and

provides “upper-bound” simulation results. There are also some restrictions

on movements of milk among areas within compact areas that limit extreme

results that run counter to well-established relationships. 
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Simulation results

The alternative dairy policy scenario posits elimination of the Federal dairy

price support program and authorization for three compacts to carry out

milk pricing functions (Cox and Dabidia, 2003). The empirical results

discussed here are presented in tables 5.2 through 5.4. The model solutions

represent intermediate run (3-5 years) adjustments to the base scenarios

induced by policy changes and/or supply- or demand-generated shocks The

implications for the farm level, the wholesale/processing and manufacturing

level, wholesale and classified prices, government costs, and welfare measures are described. For analyses such as the one presented here it is critical to remember that changes from the base year variable levels are

important, not the actual levels of the variables that appear.

Farm-level effects

The U.S. average farm milk price (the average over all classes and

including MILC payments) declines from the 2000 base by almost 3 percent

with the elimination of Federal price support and establishment of three

compact areas (table 5.2). The results are presented in terms of the FMMO

regions that still underlie the definitions of the Compact regions in the

model plus California. The nationwide manufacturing milk price declines

and fluid milk price declines in non-Compact regions outweigh the MILC

payment increases. Aggregate production rises by about 0.4 percent

(compact region increases exceed non-Compact region decreases), while

revenues (market returns plus MILC payments) fall by 2.5 percent. 

Relatively wide variations in percentage measures of change are observed

across the spatial regions in the model. California shows the largest price

decrease while the largest increase is in the Southeast. Recall that California’s State pricing regulations are unchanged. The implementation of a

Western Compact does not preclude operation of the State’s own classified

pricing plan, just as no elimination of Federal milk marketing orders is

proposed. The Compact-pricing rule refers to Class I utilization for a much

wider area. In addition, since such a large percentage of California production goes into manufactured products, the elimination of a program that

directly affects those products would be expected to have an impact.

Production, on a percentage basis, declines the most in Arizona and

increases the most in the Southeast. Regional revenue changes mirror the

price changes.

Compared with the 2001 base, reflecting a high-price situation, the average

U.S. price rises less than 1 percent, as do production and revenue. Price

declines in the non-Compact areas are smaller relative to the 2001 base situation (table 5.2) and regional price changes are smaller in percentage terms.

The price still declines most in California, but by only 2.5 percent, and

increases 10.4 percent in the Southeast. Changes in production and

revenues are also less than in the 2000 base case—only in the Southeast is

any production change greater than 1 percent in either direction. Revenue

falls most in Arizona (2.9 percent) and the increase is greatest in the Southeast (15 percent). 

The pattern of gains and losses among the regions exhibits one clear

feature—the Southeast subarea of the larger Southeastern Compact benefits
regardless of the initial price situation. The results for the other subareas of

the Southeastern Compact are mixed—all the subareas benefit in the lowprice case but in the high-price case the Appalachian subarea shows a

decrease in price. Regions without compacts (Florida, the Mideast, the

Upper Midwest, the Southwest, and Arizona) lose when compacts are initiated and Federal dairy price support is eliminated. Increased milk production in response to higher milk prices and reduced fluid milk demand in

compact areas have spillover effects in the manufacturing milk market

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Table 5.2—Farm level changes relative to bases under selected compact scenario

Base Scenario1

All-milk price Production Total All-milk price Production Total

+MILC revenues +MILC revenues

$ per cwt Million Million $

pounds Percent change from base

2000 (low-price year)

Northeast 13.92 29,460 4,101 2.5 0.7 3.2

Appalachia 14.97 6,492 972 13.9 9.0 24.2

Florida ** 15.39 2,852 439 -10.5 -4.3 -14.4

Southeast 13.40 5,429 733 23.7 9.6 35.5

Mideast ** 13.34 12,762 1,702 -7.3 -2.4 -9.5

Upper Midwest ** 12.46 33,665 4,195 -7.1 -2.3 -9.2

Central 12.73 14,089 1,794 2.6 1.1 3.7

Southwest ** 12.75 10,853 1,384 -8.6 -3.3 -11.6

Western 11.04 9,792 1,081 -3.7 -1.6 -5.3

Northwest 12.50 7,151 894 1.8 0.8 2.6

California 11.12 32,146 3,575 -13.0 3.3 -10.2

Arizona ** 11.59 2,943 341 -12.8 -4.9 -17.0

Aggregate U.S. 12.65 167,634 21,210 -2.9 0.4 -2.5

FMMO all-market uniform price 13.02 -0.7

2001 (high-price year)

Northeast 15.42 28,146 4,340 1.9 0.6 2.6

Appalachia 16.22 6,237 1,012 -0.3 -0.2 -0.5

Florida ** 17.01 2,365 402 -1.4 -0.5 -1.7

Southeast 15.12 5,104 772 10.4 4.1 15.0

Mideast ** 14.94 12,727 1,901 -1.7 -0.6 -2.3

Upper Midwest ** 14.17 30,808 4,365 -0.4 -0.1 -0.6

Central 14.50 13,142 1,906 0.7 0.3 0.9

Southwest ** 14.19 10,287 1,460 -0.2 -0.1 -0.3

Western 12.63 9,893 1,249 -0.1 0.0 -0.1

Northwest 14.21 6,972 991 1.9 0.8 2.6

California 13.01 32,619 4,244 -2.5 0.1 -2.4

Arizona ** 13.54 2,794 378 -2.1 -0.8 -2.9

Aggregate U.S. 14.29 161,094 23,020 0.1 0.2 0.3

FMMO all-market uniform price 14.61 0.7

1The scenario posits establisment of three Compact areas as defined in the text and elimination of the Federal price support

program. MILC is assumed to be in effect.

** denotes areas that are NOT under Compact pricing rules.

Source: Cox and Dabidia (2003).
which are no longer mitigated by price support activities. These impacts are

greater in a low-price supply and demand context, e.g. 2000, than a highprice context, e.g. 2001. Some of these 2000 (versus 2001) regional

revenue losses are substantial: the Mideast (-9.5 percent vs. -2.3 percent);

the Upper Midwest (-9.2 percent vs. -0.6 percent); and California (-10.2

percent vs. -2.4 percent).

Wholesale/processing and manufacturing 

level effects

Elimination of the dairy price support program results in decreased wholesale prices for all products except fluid milk and butter compared with the

base scenarios (table 5.3). All the prices are national averages, i.e. averaged

over all the regional results. Average fluid milk prices increase 11.9 percent

for the 2000 base situation and butter is up 3.2 percent. The higher fluid

prices in the compacts generate an average 1.6-percent decline in fluid milk

production (which generally is assumed equal to consumption). As more

milk becomes available for manufactured products, production increases,

but not in all cases. The price increases for fluid milk and butter are 7.6 and

2 percent, respectively, in the 2001 base situation, with fluid consumption

down 1 percent. 

The importance of the dairy price support program in a low-price year is

evident in the comparison of the reduction in American cheese prices (-12.9

percent in 2000 vs. -3.1 percent in 2001), and nonfat dry milk prices (-28.6

percent vs. -5.3 percent). American cheese production falls 4.3 percent in

the 2000 case and increases slightly in the 2001 case. Aggregate U.S.

wholesale dairy product revenues decrease 2.4 percent under 2000 market

conditions while increasing 0.6 percent under 2001 conditions. Fluid milk

processors’ revenues increase in both cases, by 10 percent for 2000 and by

6.5 percent for 2001. 

Classified prices

Given the drops in the wholesale prices of American cheese and nonfat dry

milk in the two scenarios, FMMO Class III and California Class 4b prices

fall about 17 and 13.4 percent, respectively, from the 2000 base, and 4.1 and

3.2 percent, respectively, from the 2001 base (table 5.4). FMMO Class IV

and California Class 4a prices fall by 15 and 16 percent, respectively,

(2000) and 2.7 and 2.7 percent (2001). These lower classified prices

generate considerably less regional price differences that are offset by larger

compact premiums and larger MILC payments. Assessing these offsetting

impacts analytically is very difficult. 

Government costs and economic

surplus measures

Because the scenario posits elimination of the Federal dairy price support

program, CCC costs drop sharply (-62.3 percent) in 2000, and are eliminated in 2001 (table 5.4). However, removing CCC purchase program costs

tends to raise other costs, including MILC program costs. Lower Class III

and Class IV (manufacturing milk) prices in FMMOs—the Class I price

movers—reduce relevant Class I reference prices in compacts, thereby

increasing both the compact premium and the MILC payment rate. MILC

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program costs rise by 57.5 percent from the 2000 base, and almost 24

percent from the 2001 base. Due to the increased compact premiums and

increased MILC payments, producer surplus increases slightly (0.6 percent

for 2000, 0.7 percent for 2001). Hence, while producer prices decline, other

programs operating under the scenario—compacts and MILC—can, at least

partially, offset this negative impact. 

Consumer welfare is negatively affected by higher fluid milk prices in

compact areas but lower classified and commodity prices mitigate the

effects. The net impact of these offsetting effects is a consumer surplus gain

(1.5 percent) in the 2000 case, but a loss (0.2 percent) in the 2001 case.

Given the change in government costs due to the MILC program, aggregate

U.S. welfare increases 0.8 percent under 2000 conditions but falls by 0.1

percent in the 2001 case. 

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Table 5.3—Wholesale level changes relative to bases under selected compact scenario

Base Scenario1

Production Price Revenues Production Price Revenues

Million Dollars Million

pounds per cwt dollars Percent change from base

2000 (low-price year)

Fluid 55,415 12.64 6,936 -1.6 11.9 10.0

Soft products 7,712 26.76 2,044 2.9 -6.9 -4.3

American cheese 3,837 112.00 3,965 -4.3 -12.9 -11.2

Italian cheese 2,664 78.59 2,079 4.1 -16.9 -13.5

Other cheese 1,312 93.87 1,415 8.4 -16.1 -9.9

Butter 1,214 131.48 1,542 -0.9 3.2 2.1

Frozen 11,976 20.80 2,465 2.3 -7.8 -7.1

Other manufactured 4,293 26.70 1,152 0.7 -3.1 -2.4

NFDM 1,365 81.53 633 4.1 -28.6 -21.8

Aggregate U.S. 22,231 -2.4

2001 (high-price year)

Fluid 54,569 13.03 7,105 -1.0 7.6 6.5

Soft products 6,924 30.21 2,090 0.4 -0.9 -0.6

American cheese 3,540 133.59 4,872 0.5 -3.1 -2.7

Italian cheese 2,704 110.23 2,921 0.8 -3.3 -2.5

Other cheese 1,338 126.38 2,045 1.7 -2.8 -1.4

Butter 809 162.46 2,029 0.1 2.0 1.6

Frozen 12,256 24.47 2,983 0.1 -1.3 -1.2

Other manufactured 3,892 41.22 1,318 0.8 -4.0 -3.1

NFDM 978 83.96 817 1.8 -5.3 -3.4

Aggregate U.S. 26,179 0.6

1The scenario posits establisment of three Compact areas as defined in the text and elimination of the Federal price support program.

MILC is assumed to be in effect.

Source: Cox and Dabidia (2003).
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Table 5.4—Changes in selected variables under selected compact scenario1

Base Change from Base Change from Base Change from

values base values base values base

$ per cwt Percent $ per cwt Percent Million $ Percent

2000 (low-price year)

Classified pricing Commodity reference prices Surplus-welfare measures

Class I 13.38 -12.3 NASS american cheese 111.33 -11.5 Producer surplus 17,216 0.6Class II 11.49 -14.4 CME american cheese 112.83 -11.5 Consumer surplus 56,466 1.5Class III 9.29 -17.1 NASS butter 132.25 6.0 CCC costs 591 -62.3Class IV 10.79 -15.3 CME butter 136.42 6.0 Other govt costs 1,290 57.5

NASS nonfat dry milk 80.10 -29.2 Total welfare 71,080 0.8

CA Class I 12.29 -13.5 CME nonfat dry milk 81.57 -29.2CA Class 2 11.02 -15.0 NASS whey 0.15 -33.3CA Class 4 10.89 -15.2CA Class 4a 10.53 -15.8CA Class 4b 9.47 -13.4

2001 (high-price year)

Class I 14.87 -2.2 NASS american cheese 133.90 -2.9 Producer surplus 18,695 0.7Class II 12.98 -2.5 CME american cheese 135.05 -2.9 Consumer surplus 67,908 -0.2Class III 11.93 -4.1 NASS butter 164.96 1.4 CCC costs 1 -100.0Class IV 12.28 -2.7 CME butter 168.26 1.4 Other govt costs 595 23.9

NASS nonfat dry milk 81.28 -6.1 Total welfare 86,007 -0.1

CA Class I 14.65 -2.3 CME nonfat dry milk 84.52 -6.1CA Class 2 11.96 -2.8 NASS whey 0.22 -4.5CA Class 4 13.01 -2.5CA Class 4a 12.21 -2.7CA Class 4b 11.75 -3.2

1The scenario posits establisment of three Compact areas as defined in the text and elimination of the Federal price support program.

MILC is assumed to be in effect.Source: Cox and Dabidia (2003).
Summary

The analysis suggests that compacts can generate substantive gains to their

regions and that these gains will be larger in years with lower prices.

Compacts increase Class I price differences among regions. To the extent

that compacts increase regional milk prices, regional milk production

increases while the higher Class I prices lead to reduced fluid milk

consumption. This generates more milk that must find an outlet in the

manufacturing product sector, hence reducing manufactured dairy product

prices. Regions with substantial manufacturing use generally suffer losses

due to this type of policy. Consumers of fluid milk in compact areas lose

due to higher Class I prices in the compact regions, while consumers of

manufactured dairy products tend to gain due to the spillovers of extra milk

on manufacturing markets, which lowers manufactured dairy product prices.

In aggregate, however, consumers lose due to higher expenditure on Class I

milk dominating reduced manufactured expenditures. 

Direct payment programs like the 2002 MILC program can partially offset

losses (or enhance the gains) due to compacts, but there is a cost. That cost

is borne by taxpayers in the form of the direct government payments.

Whenever the Class I price mover is reduced relative to the MILC target

price, then the MILC payments will be increased. This is evident in the

scenario presented here—eliminating the dairy price support program

results in lower prices for all classes of milk (by lowering both the Class III

and Class IV prices). However, with compacts in place, lowering the Class

I price mover will increase the compact premium and offset the lower

overall reduction in class prices in those regions with compacts. Under the

constraints we have placed on the empirical model here, it appears elimination of the Federal price support program, which underpins all producer

prices, results in price effects that Compact payments and MILC payments

do not offset. If the compacts were to try to address these negative price

effects, they would have the same options available to the Federal Government—they could operate a purchase program (unlikely) or attempt to

manage supply. Whether supply management could be implemented at

some subnational level is open to question.

The scenario employed in this analysis is similar to a proposal made in

January 2003 to reauthorize and expand compacts. The scenario envisioned

the existence of non-Compact areas and employed some rather restrictive

assumptions to derive empirical estimates of the effects on dairy industry

market indicators (e.g., prices and production). The net impacts of gains

and losses will vary by region, depending on several factors. Those factors

include whether the region has a compact; the magnitude of Class I sales

and/or utilization, the shares of milk going into manufactured products

(especially cheese and nonfat dry milk), the shares of milk production

eligible for MILC payments, and interregional competitiveness.

There are obvious alternative specifications of this scenario. It could be

hypothesized that compact pricing across the areas defined would not be the

same. There could also be more or fewer compacts defined. The retention

of the MILC payment program for all producers could be modified so that

only non-Compact producers, in cases where there are such areas, would

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receive them. Or, MILC payments could be eliminated. Each individual

scenario that might be considered has its own unique features to be incorporated in an empirical analysis. 

Even if compacts covered the entire country, there would still be gains and

losses. Compacts could not readily restrict commerce so that the prices

received by producers in any one area could be the result of marketing

activities in another. Compacts do not inherently alter sales patterns or

utilization rates. And, competitiveness among producers, regardless of location, will still be linked to local conditions that affect production costs. The

contrasts between the results for a low-price year (2000) and for a highprice year (2001) are as expected—contemplated or hypothesized dairy

policy changes have smaller effects in periods of strong prices.

Implications for State Pricing and 

State-Mandated Over-Order Premiums 

State pricing and over-order premium programs bear many similarities to

interstate compacts. Like State pricing programs, which operate in conjunction with, or in lieu of, Federal milk marketing orders, the Compact analysis

assumed that Federal marketing orders remained in effect. Most State

pricing programs, like the hypothetical compacts analyzed in this chapter,

establish Class I milk prices. 

The analysis of interstate compacts can provide some insights into the

effects of some State pricing and State-mandated over-order premium

programs. State pricing programs that establish Class I prices above the

prevailing Federal market order price in surrounding States raise the price of

fluid milk to consumers in the State and reduce fluid consumption. Higher

fluid milk prices may induce an increase in milk production, which finds an

outlet in manufacturing use. If the spillover to the manufacturing market is

large, manufacturing milk prices could fall, as they do in the hypothetical

compact example. In this instance, producers in States without pricing

programs would be adversely affected.

However, there are several important differences between compacts and

State programs. While the compact analysis assumed that all compacts used

the same price for Class I milk, existing State pricing programs may have

different prices. The compacts regulate only Class I milk, while some States

(like California) regulate other milk classes. And while the analysis assumed

that compacts augment the Class I price, some State pricing programs—

notably California—may result in Class I prices below those of the

surrounding Federal marketing order market areas. 

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Conclusions

Dairy Policy Has a Modest Impact

An examination of dairy program impacts suggests that Federal dairy

programs raise the all-milk price by only about 1 percent, and raise total

producer revenues (returns plus Government payments) by 3 percent, on

average, over 5 years. While producers are, as a whole, better off with

dairy programs, these programs do raise consumer costs, albeit modestly,

and increase Government expenditures. 

The analysis shows that current programs both increase and decrease the allmilk price. The Milk Income Loss Contract (MILC) program, by increasing

producer returns through production-linked payments, expands production,

and reduces the milk price. Without the MILC program, the remaining dairy

programs raise the all-milk price by a greater amount—4 percent as opposed

to about 1 percent—on average over 5 years.

Federal dairy programs, by increasing farm-level returns, may enable

high-cost farms to remain in business longer. But higher prices can only

improve the viability of high-cost farms in the short to medium term. In

the longer run, high-cost farms will have difficulty competing with lowcost dairy producers. Higher prices improve the profitability of low-cost

dairy producers, which may enable them to expand production and gain

market share. 

The stability of prices and returns is especially important to dairy farms

since, on average, they tend to be less diversified and more dependent on

income from the farm business than other farms. Intervention’s impact on

farms varies regionally. An analysis of dairy program effects on the financial conditions of representative farms around the United States reveals that

the current policy structure may lower the returns of some Western dairies. 

Dairy programs raise the retail price of fluid milk, which affects both

consumer expenditures on food and the cost of operating food and nutrition

programs. In the case of the Special Supplemental Nutrition Program for

Women, Infants, and Children (WIC), it is possible that higher fluid milk

prices could affect participation. Because WIC is a discretionary grant

program funded by annual appropriations, the number of participants

depends on the appropriation and the cost of operating the program. Other

food and nutrition programs are entitlement programs, and their costs are

indexed to price indices that increase Government outlays when dairy

programs raise product prices. Higher dairy prices are therefore unlikely to

affect participation, but could affect how food stamp recipients choose to

spend their food dollars. 

National dairy programs have almost no impact on aggregate economic

activity. Both nationally and at a broad regional level the industry’s impact

on employment is less than one-tenth of 1 percent of total employment. In

areas that are highly dependent on milk production, impacts are likely to be

greater. Because farm input (like machinery and fertilizer) production is

located in metropolitan areas—as is much of the upstream processing and

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distribution activity—dairy programs very likely have greater impacts on

metropolitan than on nonmetropolitan employment. 

State Management of Milk Supplies and Prices

Raises Difficult Issues

Unlike most other agricultural commodity markets, milk markets have a

long history of State intervention. However, as milk markets have become

increasingly integrated across State boundaries, the potential for effective

State-level intervention in dairy markets has diminished. Today, of the

major milk-producing States, only California and Pennsylvania set

minimum prices for milk to any great extent. 

The analysis of a State-level mechanism for managing milk prices extends

the model of the Northeast Interstate Dairy Compact (NEIDC) by hypothesizing the formation of three interstate compacts. The study assumes that

these compacts are implemented while eliminating the Federal milk price

support program (there is no Federal supply management of milk) but all

other programs—primarily MILC and Federal milk marketing orders—are

assumed to remain in place. 

In general, compacts establish a minimum price that processors are required

to pay for Class I milk, the milk used in fluid beverage products. When this

compact price is greater than the Federal Milk Marketing Order price, the

difference (or some share of it) is returned to producers selling milk in the

compact region. Higher returns to these producers lead to increased milk

production and lower fluid milk consumption as consumers react to the

higher retail prices. The resulting excess supply of milk above fluid requirements within the compact region spills over to the manufacturing milk

market. As a result, manufacturing milk prices decline, as does the price of

fluid milk in areas outside the compacts. These effects are greatest during

low-price years.

As long as fluid utilization is high enough, returns to dairy farmers

supplying the compact region increase as the higher fluid milk price more

than offsets any decline in the price of manufacturing milk. However, lower

manufacturing milk prices are felt nationally and the returns to dairy

farmers outside the compact region decline. Farmers in regions with higher

levels of manufacturing use for their milk suffer the greatest losses from this

type of program because they do not receive a MILC payment that dampens

the loss of revenues from fluid milk. 

Consumers both outside and within the compact region benefit from lower

prices for manufactured dairy products. However, consumers within

compact regions spend more on fluid milk, while consumers outside the

compact region would spend less on fluid milk. 

Regional compacts may substitute for price support within these regions, as

long as a large proportion of production is sold into the higher-priced fluid

milk market, but are unlikely to substitute for price support on a national

level. Extending compacts across the entire country would increase the

impact on national milk production. Without some form of supply control,

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higher fluid prices applied to all producers would induce increased milk

production that would spill over to the manufacturing milk market, driving

down the price of milk for manufacturing use even further. The average

producer price across all uses would decline further, rendering price

management efforts ineffective. 

This analysis raises questions regarding other means of State support. Were

States to pursue a support program similar to the Federal milk price support

program, States would need to address program funding, establish price

support levels, and, if product purchase programs were implemented,

dispose of surplus stocks. If supply control programs were adopted, additional considerations include establishing and enforcing quota levels and

penalties or incentives for compliance. Such systems raise questions

regarding cross-border issues—how to deal with milk flowing to areas with

different price support or quota levels. While State or regional management

of milk prices has received considerable attention as a possible alternative to

current policy, this analysis suggests that it likely raises even more difficult

issues than current policy.

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Price, J. Michael. Effects of U.S. Dairy Policies on Markets for Milk and

Dairy Products. U.S. Department of Agriculture, Economic Research

Service, Technical Bulletin No. 1910, March 2004. 

Putnam, Judy, and Jane Allshouse. “Trends in U.S. Per Capita Consumption

of Dairy Products, 1909 to 2001.” Amber Waves. U.S. Department of Agriculture, Economic Research Service, June 2003.

Reynolds, Bruce J. Cooperative Marketing Agencies-in-Common. U.S.

Department of Agriculture, Agricultural Cooperative Service, ACS Research

Report 127, January 1994.

Richardson, J. W., J. L. Outlaw, D. P. Anderson, J. D. Sartwelle, III, P.

Feldman, K. Schumann, J. M. Raulston, S. L. Klose, R. B. Schwart, Jr., and

P. Zimmel. “Representative Farms Economic Outlook for the January 2003

FAPRI/AFPC Baseline.” Texas Agricultural Experiment Station, Department of Agricultural Economics, Texas A&M University, College Station,

TX, Agricultural and Food Policy Center Working Paper 03-1, March 2003.

Salathe, Larry. “The Implications of Offsetting Adjustments in Government

Purchase Prices for Butter and Nonfat Dry Milk.” The Journal of Agricultural Economics Research. Vol. 45, No. 1, 1993, pp. 18-26.

Salathe, L., and J.M. Price. “Implications of raising the nonfat solids standards for beverage milk.” Southern Journal of Agricultural Economics, Vol.

24, December 1992, pp. 197-209.

Schmit, Todd M., and Harry M. Kaiser. Measuring the Impacts of Generic

Fluid Milk and Cheese Advertising: A Time-Varying Parameter Application.

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U.S. Department of Agriculture
NICPRE 02-03 R.B. 2002-06. Department of Applied Economics and

Management, Cornell University, Ithaca, NY, May 2002.

Short, Sara D. Characteristics and Production Costs of U.S. Dairy Operations. U.S. Department of Agriculture, Economic Research Service. Statistical Bulletin No. SB-974-6, February 2004,

http://www.ers.usda.gov/publications/sb974-6/.

Southard, Leland (coordinator). Livestock, Dairy, and Poultry Outlook.

U.S. Department of Agriculture, Economic Research Service. Electronic

Outlook Report (various), http://www.ers.usda.gov/publications/ldp/.

Sparks Companies, Inc. Imports of MPCs, Casein and Caseinates and

Market Impacts—A Special Study for the U.S. Coalition for Nutritional

Ingredients. May, 2003.

Stephenson, Mark. “Technology, Demand, and Lost Data.” Presentation to

Forces Shaping the Dairy Industry Workshop, U.S. Department of Agriculture, Economic Research Service, Washington, DC, September 25, 2002,

http://www.farmfoundation.org/projects/03-36DairyPolicyForumpresentations.htm.

Sumner, D.A., and N.L.Wilson. “The Development of California Milk

Marketing Laws: In Pursuit of an Adequate Supply of Healthful Milk.”

Paper presented at Agricultural History Symposium, Mississippi State, MS,

June 1999.

Sumner, D.A., and C.A. Wolf. “Quotas Without Supply Control: Effects of

Dairy Quota Policy in California.” American Journal of Agricultural

Economics, Vol. 78, 1996, pp. 354-366.

Tillison, Jim. “What’s the answer for MPC imports?” Hoard’s Dairyman.

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Cornell University Press, Ithaca, NY, 1972.

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Ongoing Dairy Program Initiatives Mandated in the Food Security Act of

1985.” Hearing before the Subcommittee on Livestock, Dairy and Poultry,

Committee on Agriculture, House of Representatives, 100th Congress, 1st

Session, Washington, DC, March 4, 1987.

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____________________________. “Federal Milk Marketing Orders,”

http://www.ams.usda.gov/dairy/orders.htm.

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____________________________. Federal Milk Order Market Statistics,

Annual Summary (various years). 

____________________________. “Milk Marketing Order Statistics,”

http://www.ams.usda.gov/dyfmos/mib/price_form_2003.htm.

____________________________. Packaged Fluid Milk Sales in Federal

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Method During November 2001. December 2002.

___________________________. Report to Congress on the National

Dairy Promotion and Research Program and the National Fluid Milk

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dairy/prb/rtc_2002/total_rtc_2002.pdf.

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No. 474.

___________________________. “Farm Financial Management Data:

Selected Farm Operator Household Financial Characteristics,”

http://www.ers.usda.gov/Data/farmfinancialmgmt/hhf_typmenu.htm.

__________________________. Food Consumption (Per Capita) Data

System. http://www.ers.usda.gov/data/foodconsumption/. 

___________________________. “Links to the General Economy and

Agriculture,” Food and Nutrition Assistance Programs and the General

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_______________________. Livestock, Dairy, and Poultry Outlook. LDPM-108, June 24, 2003. 

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_________________________. Dairy Products Annual Summary. 

Various issues.

_________________________. Milk Cows and Production. 1950-1998.

_________________________. Milk Production, February 2002.

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16, July 2002.

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U.S. Department of Agriculture
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Bureau of the Census. Concentration Ratios in Manufacturing. 1997

Economic Census—Manufacturing. June 2001, and previous issues.

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and Changing Market Structure. GAO-01-561, June 2001.

__________________________. Dairy Products: Imports, Domestic

Production, and Regulation of Ultra-filtered Milk. GAO-01-326. March

2001.

U.S. International Trade Commission. Conditions of Competition for Milk

Protein Products in the U.S. Market. Investigation No. 332-453, USITC

Publication 3692, May 2004.

Wisconsin Department of Agriculture Trade and Consumer Protection.

Wisconsin Dairy Facts, various years.

Wisconsin State Journal, September 1993.

Wolf, Christopher A., and Larry G. Hamm. “The Role of Cooperatives in

Milk Marketing.” Paper presented at the annual meeting of the American

Agricultural Economics Association, Salt Lake City, UT, August 2-5, 1998.

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Appendix A—Mandate for Dairy Study

from the 2002 Farm Security and

Rural Investment Act, H.R. 2646

SEC. 1507. STUDY OF NATIONAL DAIRY POLICY.

(a) STUDY REQUIRED.—The Secretary of Agriculture shall conduct

a comprehensive economic evaluation of the potential direct

and indirect effects of the various elements of the national dairy policy,

including an examination of the effect of the national dairy policy 

on—

(1) farm price stability, farm profitability and viability,

and local rural economies in the United States;

(2) child, senior, and low-income nutrition programs, including

impacts on schools and institutions participating in the

programs, on program recipients, and other factors; and

(3) the wholesale and retail cost of fluid milk, dairy farms,

and milk utilization. 

(b) REPORT.—Not later than 1 year after the date of enactment of this Act,

the Secretary shall submit to the Committee on Agricultureof the House of

Representatives and the Committee on Agriculture,Nutrition, and Forestry

of the Senate a report describing the results of the study required by this

section.

(c) NATIONAL DAIRY POLICY DEFINED.—In this section, the term

‘‘national dairy policy’’ means the dairy policy of the United States

as evidenced by the following policies and programs:

(1) Federal milk marketing orders issued under section 8c

of the Agricultural Adjustment Act (7 U.S.C. 608c), reenacted

with amendments by the Agricultural Marketing Act of 1937.

(2) Interstate dairy compacts (including proposed compacts

described in H.R. 1827 and S. 1157, as introduced in the

107th Congress).

(3) Over-order premiums and State pricing programs.

(4) Direct payments to milk producers.

(5) Federal milk price support program established under section 1401.

(6) Export programs regarding milk and dairy products,

such as the dairy export incentive program established under section 153 

of the Food Security Act of 1985 (15 U.S.C. 713a–14).

SEC. 1508. STUDIES OF EFFECTS OF CHANGES IN APPROACH TO

NATIONAL DAIRY POLICY AND FLUID MILK IDENTITY STANDARDS.

(a) FEDERAL DAIRY POLICY CHANGES.—The Secretary of Agricultureshall conduct a study of the effects of—

(1) terminating all Federal programs relating to price support

and supply management for milk; and

(2) granting the consent of Congress to cooperative efforts by States to

manage milk prices and supply.

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Legislation Federal milk Interstate dairy Over-order premiums Direct Federal milk Export programs

marketing orders compacts and State pricing payments price support

Agricultural Marketing agreements An ad hoc program 

Adjustment permitted--progenitor of loosely based onAct of 1933 orders Land O'Lakes butter

purchase activities

Agricultural Section 22 import

Adjustment Act quota authority givenamendments, 1935 to the President

Young Act (1935) California establishes 

minimum producerpricing

Agricultural Authorized and clarifiedMarketing Act marketing orders to of 1937 replace agreements if

necessary

Desmond Act (1937) California extends 

minimum producerpricing to all milk classes

Milk Control Act (1937) Milk industry regulation

made permanent inPennsylvania

Agricultural Act of 1949 Underlying foundations

of current milk pricesupport program codified

Agricultural Trade Groundwork for 

Development and use of surplus

Assistance Act of commodities in 1954 (PL-480) foreign and 

domestic food 

programs

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Continued on page 100

Appendix B—Summary of Legislation Affecting National Dairy Policy
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Appendix B—Summary of Legislation Affecting National Dairy Policy—continuedLegislation Federal milk Interstate dairy Over-order premiums Direct payments Federal milk price Export programs

marketing orders compacts and State pricing support

Gonsalves Milk Pooling California establishes

Act (1967) statewide pooling of

producer revenues using base, overbase,and quota system

Milk Control Act (1967), Pennsylvania Milk 

amended Marketing Board

(PMMB) becomesindependent agency(can pay over-orderpremiums)

Agriculture and Food Act Support level written into

of 1981 legislation, no longer 

based on parity, and linked to Govt. program costs and quantitiespurchased

Omnibus Budget Reconciliation Support level frozenAct of 1982 and assessments to pay

for program instituted (on farmers)

Dairy and Tobacco Adjustment Milk Diversion program Repeal of farmerAct of 1983 voluntary supply mgmt. assessmentFood Security Act of 1985 Class I differentials Authorized second DEIP authorized

written directly in supply mgmt. programlegislation Dairy Termination 

(Herd Buyout)

Continued on page 101
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Appendix B—Summary of Legislation Affecting National Dairy Policy—continuedLegislation Federal milk Interstate dairy Over-order premiums Direct payments Federal milk price Export programs

marketing orders compacts and State pricing support

Food, Agriculture, Fixed support price DEIP extended

Conservation, and Trade at $10.10 per Act of 1990 hundredweight

Uruguay Round Section 22 quotas Committed U.S. to 

Agreements Act of 1994 replaced by TRQs reduce subsidized 

exports of dairy products

Federal Agriculture Reform marketing Authorized Milk support purchase DEIP continuedImprovement Act of 1996 orders by reducing Northeast program to end after subject to WTO 

number of orders, Interstate support price goes to commitmentsrevisit pricing rules Dairy Compact $9.90 per cwt (1999)

Agriculture, Rural Dairy Market Loss I Extended 1 yr.

Development, Food and Drug, (Ad hoc emergency at $9.90 per cwtand Related Agencies assistance to milkAppropriation Act, 1999 producers)

Agriculture, Rural Development, Dairy Market Loss II Extended 1 yr.

Food and Drug, and Related at $9.90 per cwt

Agencies Appropriation Act, 2000

Agriculture, Rural Development, Dairy Market Loss III Extended 1 yr.

Food and Drug, and Related at $9.90 per cwtAgencies Appropriation Act 2001

Food Security and Rural MILC direct payment Milk price support DEIP extended

Investment Act of 2002 program program reinstituted

as longer term programat fixed $9.90 per cwt

Note: Entries in bold refer to State laws.

Source: Compiled by USDA, Economic Research Service.
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2003 2004 2005 2006 2007 Average

FAPRI

Milk production billion pounds 171.2 172.8 174.5 175.4 176.7 174.1

All-milk price dollars per cwt 12.19 12.24 12.27 12.52 12.58 12.36

MILC payments dollars per cwt 1.22 1.18 1.16 0.00 0.00 0.71

Cow numbers thousand head 9,067 9,011 8,965 8,896 8,841 8,956

Wholesale price

cheese dollars per pound 1.25 1.25 1.26 1.28 1.29 1.27

butter dollars per pound 1.19 1.25 1.26 1.33 1.35 1.28

nonfat dry milk dollars per pound 0.84 0.81 0.81 0.81 0.8 10.82

Per capita consumption

cheese pounds 30.1 30.5 30.8 31.0 31.2 30.7

butter pounds 4.7 4.6 4.6 4.5 4.5 4.6

nonfat dry milk pounds 3.3 3.4 3.4 3.4 3.5 3.4

fluid pounds 207.8 207.9 207.5 206.4 205.3 207.0

Govenment outlays million dollars, 2,586.4 1,524.4 1,501.3 579.9 268.0 1,292.0

fiscal year

2002 2003 2004 2005 2006 2007 Average

FAPSIM

Milk production billion pounds 169.2 171.8 173.2 174.9 176.7 178.6 174.1

All-milk price dollars per cwt 12.47 11.84 12.79 13.15 13.40 13.67 12.89

MILC payments billion dollars 0.90 1.20 0.90 0.60 0.00 0.00 0.60

Cow numbers thousand head 9,202 9,080 8,739 8,578 8,497 8,371 8,745

Wholesale price

cheese dollars per pound 1.20 1.17 1.29 1.33 1.35 1.38 1.29

butter dollars per pound 0.89 0.73 0.92 1.00 1.07 1.14 0.96

nonfat dry milk dollars per pound 1.04 1.03 1.04 1.04 1.04 1.04 1.04

Per capita consumption

cheese pounds 29.8 29.6 30.4 30.8 31.2 31.7 30.6

butter pounds 5.5 5.7 5.7 5.7 5.7 5.8 5.7

nonfat dry milk pounds 3.6 3.7 3.8 3.9 3.9 4.0 3.8

fluid pounds 195.5 194.0 191.2 188.1 184.3 181.6 189.1

Government outlays million dollars, 240.0 2,353.6 1,284.6 1,021.0 342.8 320.6 927.1

fiscal year

Note: The MILC payments are measured differently in the two models, per cwt in FAPRI, total in FAPSIM.

Source: Brown (2003) and Price (2004).

Appendix C—FAPRI and FAPSIM Baseline Values for Selected

Dairy Industry Indicators
Appendix D—Overview of

Nutrition Programs

U.S. Government food assistance programs influence demand for dairy

products. They target different populations with different needs. The Food

Stamp Program and the Special Supplemental Nutrition Program for

Women, Infants, and Children (WIC), together with the child nutrition

programs—the National School Lunch, the School Breakfast, the Child and

Adult Care Food, the Summer Food, and the Special Milk Programs—are

likely to be the most affected by changes in the national dairy policy. 

The Food Stamp Program enables low-income participants to obtain a

more nutritious diet by issuing monthly allotments of coupons or Electronic

Benefits redeemable for food at authorized retail food stores. The Food

Stamp Program is available to most households that meet income and asset

criteria. Food Stamps can be used to purchase most types of foods

including dairy products, and recipients choose the combinations of

approved foods they purchase.

Food stamp benefit levels are based on the cost of a market basket

containing multiple food items that models how a low-income household

can achieve a low-cost diet plan that meets dietary standards. Benefits levels

are sensitive to changes in the price of dairy products since milk accounts

for about 10 percent of the value of the market basket. 

The Food Stamp Program entitles those who meet the eligibility criteria to

receive benefits, so changes in dairy product prices do not affect the provision of benefits. An increase (decrease) in the price of dairy products

resulting from a change in dairy policy would increase (decrease) the cost of

the market basket resulting in an increase (decrease) in cost of the Food

Stamp Program to the Federal Government. In addition, the purchasing

power of individual food stamp households may be affected to the degree

that they purchase dairy products with their food stamps. 

The Special Supplemental Nutrition Program for Women, Infants, and

Children (WIC) provides nutritious supplemental foods at no cost to lowincome pregnant and postpartum women, as well as infants and children up

to their fifth birthday who are determined by health professionals to be

nutritionally at risk. Participants can redeem WIC food vouchers at retail

food stores for specific foods that are rich in the nutrients typically lacking

in the diets of the target population. In fiscal year 2000, dairy purchases

accounted for almost 40 percent of the total (after rebates) WIC food costs. 

WIC is a discretionary grant program funded by appropriations law on an

annual basis. Therefore, the number of participants that can be served each

year depends upon the annual appropriation and the cost of operating the

program—the program provides services to as many eligible people as

funding allows. Consequently, an increase in WIC food costs resulting from

an increase in dairy prices will not increase Federal costs. However, an

increase in the cost of the WIC food packages, if not offset by the Government, would result in fewer people being served if the composition of the

food packages remain unchanged. In the case of the Northeast Interstate

Dairy Compact (NEIDC), higher dairy prices did not increase government

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costs or reduce benefits. The NEIDC compensated the WIC program in the

six New England States $3.8 million from 1997 through 2000 for increased

milk costs due to the Compact. 

The National School Lunch Program provides lunches to children in

public schools, nonprofit private schools, and residential child care institutions. Schools receive cash and entitlement commodities from USDA to

offset the cost of food service. In return, the schools must serve lunches

that meet Federal nutritional requirements and offer free or reduced-price

lunches to needy children. Schools that participate in the National School

Lunch Program must offer milk with the lunch. Milk is also one of the

options for a snack in the afternoon snack service in the National School

Lunch Program. 

The commodity subsidy is indexed to the Price Index of Foods Used in

Schools and Institutions. This index is computed using five major food

components in the Bureau of Labor Statistics Producer Price Index—

including dairy products. Increases in the indices resulting from higher

dairy prices would result in higher government costs. The NEIDC compensated the six New England States $662,606 for the 1998-1999 and 1999-

2000 school years for increases in milk prices incurred by the National

School Lunch, School Breakfast, and Special Milk Programs. 

The School Breakfast Program provides low-cost breakfasts to school

children, with students from low-income families receiving free or reducedprice meals. USDA provides schools with cash assistance to offset the cost

of food service. In return, the schools must serve breakfasts that meet

Federal nutrition standards. Milk must be offered at each breakfast, and may

be served as a beverage, on cereal, or both. Reimbursements in the School

Breakfast Program are indexed to a Consumer Price Index, and increases in

the index resulting from higher dairy prices would result in higher government costs.

The Special Milk Program provides funding for milk in public and

nonprofit schools, child care centers, summer camps, and similar institutions

that do not participate in any other federally assisted nutrition program.

Participating sites provide milk either free or at low cost to all children.

USDA reimburses participating schools and institutions for part of the cost

of the milk served to children. Reimbursements are indexed to the Producer

Price Index for Fluid Milk Products. 

The Child and Adult Care Food Program (CACFP) provides healthy

meals and snacks to children in participating child care centers and in

family and group day care homes as well as to adults in adult day care

centers. In child care and adult day care centers, children and adults from

low-income families are eligible for free or reduced-price meals. Independent centers and sponsoring agencies receive cash reimbursement for each

meal served. Child care centers participating in the CACFP have the option

of receiving commodities or cash in lieu of commodities. Milk must be

offered at each meal served in the child care segment of the CACFP and

with the adult breakfasts and lunches. Milk is also one of the options for a

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snack in the CACFP. Cash reimbursements for meals and commodity subsidies are indexed to one of the Consumer Price Indices.

The Summer Food Service Program provides free meals to children (age

18 and under) and handicapped people over age 18 during school vacations

in areas where at least half of the children are from low-income households.

Milk must be offered at each meal and is an option for the snacks served in

the program. The program is operated at the local level by sponsors who

are reimbursed by USDA. Sponsors are reimbursed for each meal served

and for their documented operating costs. Reimbursements in the program

are indexed to a Consumer Price Index. 

USDA also buys and supplies surplus food to the National School Lunch

Program, the Child and Adult Care Food Program, and the Summer Food

Service Program. Schools participating in the National School Lunch

Program receive commodity foods, called “entitlement” foods. Schools can

also get “bonus” commodities, through USDA’s price support and surplus

removal programs. Entitlement foods available for these Child Nutrition

Programs in the 2002-2003 school year include cheese and nonfat dry milk.

The type and quantity of bonus commodities distributed by USDA in a

given year is dictated by agricultural surpluses and market conditions.

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Glossary

All-milk price—The average price of all the milk sold to plants and dealers.

The price received by the producer is lower, reflecting handling and other

marketing costs.

Balancing—A service, usually provided by cooperative associations of milk

producers, that involves directing milk movements between producers’

farms and handlers’ plants and diverting supplies in excess of handlers’

needs to alternative outlets such as manufactured dairy product plants.

Blend price—A weighted average price based on the proportion of Grade A

milk in a pool allocated to each of the use classes. Producers participating in

a pool receive its blend price with adjustments for butterfat content and

plant location.

Casein—The major protein contained in milk and the primary protein in

cheese. Also, a protein curd or dried product made from milk casein curd.

Class I differential—The amount added to the Class I price mover (the

higher of the advanced Class III or Class IV pricing factors) in a Federal

milk marketing order to obtain a county’s Class I price. Class I differentials

vary by location, with a differential specified for each county in the country.

The purpose of the Class I differentials is to assure an adequate supply of

milk for fluid use by encouraging movement of grade A milk for fluid use

from production areas to fluid milk plants.

Classified pricing—A structure of prices that differ according to category of

use; the Federal order pricing system under which regulated processors pay

for Grade A milk according to the class in which it is used.

Commodity Credit Corporation (CCC)—A wholly owned federal corporation within the U.S. Department of Agriculture, subject to the direction of

the Secretary of Agriculture. Price support purchases, the Milk Income Loss

Contract (MILC) program, and many other commodity program activities

involving expenditures of funds are conducted by the CCC.

Compact—An agreement between or among States to regulate some area of

commerce. A compact must be approved in identical form by each party

(State) to it and authorized by the U.S. Congress.

Cooperative—A firm that is owned by its farmer-members, is operated for

their benefit, and distributes earnings on the basis of volume of milk.

Dairy Export Incentive Program (DEIP)—Helps exporters of U.S. dairy

products meet prevailing world prices for targeted dairy products and destinations by provding cash bonuses to exporters, allowing them to sell certain

U.S. dairy products at prices lower than the costs of acquiring them.

Economies of scale/size— Economies of scale are increasing returns as all

inputs are increased in equal proportions. Economies of size are increasing

returns as use of inputs is expanded in least-cost combinations. 
Elasticity—A numerical measure of the proportional change in quantity

demanded (or quantity supplied) in response to a change in price or income.

FAPRI—Food and Agricultural Policy Research Institute. Refers both to

the research institute, located at both the University of Missouri and Iowa

State University, and, in this report, the modeling system used by this

research institute to analyze the effects of dairy policy.

FAPSIM—Food and Agricultural Policy SIMulator. FAPSIM is an annual

econometric model of the U.S. agricultural sector developed by the

USDA’s Economic Research Service and used to simulate the effects of

different policies.

Farm Act—The omnibus agricultural legislation that sets farm policy for a

period of 4 or 5 years. 

Federal milk marketing order—A regulation issued by the Secretary of

Agriculture specifying minimum prices and conditions for the purchase of

milk from dairy farmers within a specified geographic area.

FLIPSIM—Farm Level Income and Policy SIMulator. FLIPSIM is a simulation model developed at Texas A&M University used to simulate the

economic activities of a representative or actual farm. 

Fluid grade (Grade A) milk—Milk produced under sanitary conditions that

qualify it for fluid consumption. Only Grade A milk is regulated under

Federal milk marketing orders.

Fluid milk—Packaged dairy products used as beverage milks.

Fluid products—A term traditionally used to define products including

beverage milks, fluid cream items, and drinkable yogurts.

Grade A milk—Also called fluid grade milk. Milk produced and processed

under the strictest sanitary regulations prescribed, inspected and approved

by public health authorities. Milk used in any product intended for

consumption in fluid form must meet this inspection standard.

Grade B milk—Also called manufacturing grade milk. Milk produced and

processed with sanitary regulations prescribed, inspected, and approved by

public health authorities for milk to be used for manufactured products only.

Not to be confused with “milk used in manufacturing,” which can include

grade A milk.

Handlers—Generally refers to fluid milk processors but can include manufacturing plants and cooperatives that supply fluid processor needs.

Mailbox price—The price actually received by producers. Includes all

payments received for milk sold and all costs associated with the milk. 

Make allowance—The allowance to cover the cost of manufacturing that is

administratively set to attain CCC purchase prices for butter, nonfat dry

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milk, and cheese that will enable manufacturing plants to pay, on average,

the support price of milk to farmers.

Manufactured dairy products—Includes all dairy products except fluid

milks: all cheeses, butter, evaporated whole milk, condensed whole milk,

condensed skim milk, whole milk powder, nonfat dry milk, ice cream, ice

cream mix, frozen desserts, creams, and whey products.

Manufacturers—Generally refers to the producers of cheese, butter, nonfat

dry milk, and other storable dairy products.

Manufacturing milk—Grade B milk or the Grade A milk used in the

production of manufactured dairy products.

Market power—The ability of buyers or sellers to influence prices above or

below the prices that would have been set in a competitive market.

Milkfat—The fat normally occurring in cow milk. Milkfat consists of shortchain fatty acids that make it easy to digest. Also referred to as butterfat.

Milk Income Loss Contract (MILC)—Compensates dairy producers

through direct payments when domestic prices fall below a specified level.

Payments are made to a producer up to a maximum of 2.4 million pounds

of milk produced per fiscal year. 

Milk marketing area—A geographically defined fluid milk demand area

for purposes of Federal milk marketing regulations. If a designated portion

of a handler’s milk is sold in the milk marketing area, all milk of that

handler is “pooled.” 

Milk protein concentrate (MPC)—Protein product derived from skim milk.

Milk-based fractions—Separated milk components with specific functional

properties. By separating milk into different fractions, processors can select

the specific functional and nutritional qualities needed for a particular food

product.

Multiple component pricing—A way of pricing milk that determines its

value based on the values of butterfat and nonfat solids (nonfat dry milk,

protein, lactose, or other nonfat solids) used in manufactured dairy products. Component values are related to the prices of butter, cheese, and

nonfat dry milk.

Natural cheese—Cheese made directly from milk (or whey in some

instances). Processed cheese is made by combining natural cheese with

other ingredients, heating and mixing them to make a creamy, smooth

product.

Nonfat dry milk (NDM or NFDM)—Product obtained by removing water

from pasteurized skim milk. Also referred to as skimmed milk powder

(SMP) in international markets.

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Northeast Interstate Dairy Compact (NEIDC)—A formal agreement

between the six New England States, enacted through State and Federal

legislation, that allowed for the establishment of a regional pricing mechanism for fluid milk sold in the New England States.

Over-order premium—Payment or price above Federal (or California’s)

order minimum prices. Over-order premiums that are generated by the

market could result from costs of services provided to handlers, tightened

supply conditions, or market power. State-mandated over-order premiums

regulate payments or prices above Federal order minimum prices. 

Parity price—The price which gives a unit of a commodity the same

purchasing power today as it had in a base period.

Pooling (revenue, price)—A method for determining how revenues generated in a market are returned to producers. With a classified pricing system

such as that used in Federal and State orders, processors pay different prices

for milk in each category of use. Producers are paid a weighted average, or

“blend,” price for all uses of milk in a particular order or market. 

Processors—Generally refers to firms that process raw Grade A milk into

fluid dairy products.

Raw milk—Farm milk that has not been treated in any way. Raw milk is not

pasteurized, separated, standardized, or homogenized.

Skim solids—The solids in milk other than milk fat; e.g., protein, lactose,

and minerals. Sometimes referred to as nonfat solids or solids-not-fat

(SNF).

Soft products—A category of manufactured products with relatively short

shelf life; i.e., cottage cheese, sour cream, ice cream, yogurt, buttermilk, etc.

Solids-not-fat—See skim solids.

Supply management—Variety of plans that attempt to keep milk production—either nationally or in a specific market—from exceeding commercial

market needs. Can be used as an alternative to low prices as a way to control

production in periods of surplus or as a long-term approach to pricing.

Tariff-rate quota (TRQ)—A two-level tariff where the tariff rate charged

depends on the volume of imports. A lower (in-quota) tariff is charged on

imports within the quota volume and a higher (over-quota) tariff is charged

on imports in excess of the quota volume.

Utilization rates—The relative use of each class of milk in a region or order.

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