The dairy industry is devoting considerable resources developing proposals to update or reform the Federal Milk Marketing Orders (FMMOs). While many aspects of the orders are being scrutinized, the two facets perceived to have the greatest impact are the Class I price formula and make allowances.

However, a third important issue is receiving little attention. In 2021, only 61% of U.S. production was pooled in the federal orders, meaning 39% of production was marketed outside the regulated system. Why is this important?

One of the primary functions of the FMMOs is to establish minimum uniform prices for each marketing area by classifying milk by its end use.

The FMMO then combines the value of the order’s milk (this is referred to as pooling) and shares the value among those farmers whose milk is pooled.

While Class I milk is required to be pooled, manufacturing milk has the option to be pooled. From the beginning, federal order pricing was designed to have Class I be the highest-priced milk which, combined with a high volume of Class I sales, would entice Class III and IV to be pooled to share in the Class I revenue. However, milk market dynamics have changed dramatically in recent years. Fluid milk sales continue to decline and now represent less than 20% of total production. Therefore, Class I contributes less revenue to the orders’ statistical uniform prices than previously.

There are three broad reasons why manufacturing milk is not pooled.

1. No federal order exists where the milk is produced. The most obvious example is Idaho, the third-highest production state.
   
   
2. Increased demand for manufactured products, including exports, can increase Class III and IV prices to the point that, in many months, either the Class III or IV price will exceed an order’s statistical uniform price. Pooling Class III or IV milk when its price is higher than an order’s statistical uniform price would require the Class III or IV handler to share their revenue with the other pooled handlers. By not pooling their milk, handlers can retain the high-value Class III or IV revenue. Some handlers opt to pool manufacturing milk when they can draw from the pool but not pool when they would need to pay into the pool. However, not pooling high-value Class III or IV milk lowers prices paid to producers serving the Class I market and do not have the option of depooling.
   
   
3. An order’s Class I revenues consistently are not great enough to entice a manufacturer to meet the order’s pooling requirements.

Some manufacturers operate outside the orders all the time. This affords the manufacturer the flexibility to establish their own payment program independent of the order’s pricing. However, their pay price still needs to be competitive enough to attract a milk supply.

Why is this a concern? Not pooling high-value manufacturing milk lowers the orders’ producer price differentials (PPD) and thereby the orders’ statistical uniform prices. In turn, prices paid to producers are less. What can be done?

Seemingly, there are three options under consideration.

• Entice manufacturing milk to be pooled by raising Class I revenues. Current discussions focus on modifying and increasing the Class I price. However, it is important to note that revenues are a function of both price and volume. The issue of depooled Class III and IV milk cannot be addressed through the Class I price. Today’s lower Class I volumes mute the impact any Class I price increase will have on an order’s statistical uniform price. Even with a higher Class I price, it’s highly likely that many orders will still see months when either the Class III or IV price will exceed the statistical uniform price.
  
  
• Tighten pooling provisions. Each order has its own pooling rules, and most restrict how Class III and IV milk can rejoin the pool after it has been depooled. Making it harder for manufacturing milk to be re-pooled would increase the risk of leaving the pool.

Tighter pooling standards would discourage the practice of Class III or IV milk toggling out of the pool when it would be required to pay into the order and toggling back into the pool when it could draw from the order.

Keeping manufacturing milk pooled would also support the two original premises of creating federal orders, establishing minimum prices and sharing revenues.

However, the reality is: Tighter pooling standards may result in handlers opting to simply keep manufacturing milk out of the federal order pools permanently rather than pooling their milk to share in ever-declining Class I revenues. The option of mandating manufacturing milk be pooled just as Class I is required to be pooled was proposed for the California order and declined by the secretary.

• Ignore the milk that isn’t pooled and is, therefore, unregulated. Choosing this option is, by default, choosing for an increasingly unregulated milk market with no transition plan in place. As Class I sales continue to decline and overall production continues to increase, the percentage of milk marketed outside the federal orders will increase.

If the industry is headed down the path of more deregulated milk, a transition plan is needed to provide the numerous valuable federal order services other than pricing. These include ensuring payments to farmers are accurate and timely, and establishing or verifying tests of milk components (butterfat, protein, other solids) to ensure farmers are paid for the proper component levels in their milk. Furthermore, industry, academia and other government agencies rely on the dairy-related regional and national data collected and analyzed by the FMMO program. The weekly, monthly and annual publication of FMMO program data is a comprehensive and timely source of dairy information currently not reported by any other entity.

The 2023 Farm Bill could include enabling language to allow the FMMO program to collect the same data and to oversee the same payment, audit and testing functions on depooled milk as pooled milk for Grade A milk in their marketing territories. The data collected could be aggregated and published for each order but separate from the statistical uniform price.

As you attend industry functions this fall and federal order issues are discussed, be sure to ask if the missing 39% is a concern – and if so, what is being proposed to address that concern.

This article was reprinted by permission after originally appearing in the August 2022 National All-Jersey Equity News.

Read also: Milk marketings through FMMOs are falling and here’s why