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Penn State Professor Offers New Tool for Dairy Farm Managers

Oct 01, 2007

Penn State Professor Offers New Tool for Dairy Farm Managers

By John Rutherford, IDFA Assistant Director of Economic Analysis

The dairy industry is having a bit of a chicken/egg type of discussion over relatively high feed prices and relatively high milk prices. Did one really cause the other? Will they self correct? Are there new winners and losers in the world of high prices?

And more basically, at the producer level, the question remains: Is this high-price scenario a good thing for individual farms?

In a recent article titled "Tracking Milk and Feed Costs," Ken Bailey, associate professor of agricultural economics at Pennsylvania State University, proposes that producers can more effectively gauge the effects of high prices on their farms by calculating their income over feed costs (IOFC). In the article, Bailey provides the new method's derivation and ways to use it, and compares it to the traditional management alternative, the milk-to-feed (M:F) price ratio calculated by the U.S. Department of Agriculture.

According to Bailey, tracking income over feed costs at the farm level gives a more accurate read on the margin over feed costs that is available to pay the other expenses on the farm. Typically, feed for milking cows represents more than one-third of the costs to run a farm. Watching the milk-to-feed price ratio tends to overstate farm well-being in periods of lower milk prices and understate farm well-being when milk prices are higher. Using income over feed costs provides more accurate information, because the formula can be tailored for an individual farm situation, including the actual cost of feed, milk price received and production level (which can reflect both higher milk production and better feed efficiency).

The problem with using the milk-to-feed price ratio is that it is intended to be a farm policy tool, not a farm management tool. It really is a gross barometer of the production level of the dairy sector, so it only loosely applies to actual farm decisions.

By definition, the milk-to-feed ratio is the number of pounds of 16%-protein dairy feed that can be purchased with the value of one hundredweight of milk at the announced monthly all-milk price. Because few farms receive the exact all-milk price and 16%-protein dairy feed is just a standardized number for calculation purposes, the best use of the milk-to-feed price ratio is as a rough indicator of future production. Historically, when the milk-to-feed price ratio is relatively low, milk production declines in the following period; when the ratio is relatively high, a period of expanding production will follow.

To read Bailey's article, click here.

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Posted October 1, 2007

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