As 2022 begins to draw to a close, it is instructive to look back at the factors responsible for the record All-Milk price that will be logged for the year. Although producers experienced record milk prices, farm profitability remains below record levels as higher input costs squeezed net returns.
It has been an interesting set of factors that have led to the combination of high milk prices and high input costs. It opens the question about the critical drivers of dairy producer profitability in 2023 and what signals producers should study to prepare for the risks in the coming months.
A look back at 2022
Demand for dairy products has been strong. Domestic and international consumers remained steady buyers of dairy products, which has driven butter prices over $3 per pound and cheese over $2.25 per pound at times during 2022. Per capita consumption of cheese is projected to grow by about 1 pound this year, and butter per capita consumption remains near year-ago levels, even in the face of high butter prices.
Feed costs moved to higher levels almost every month this year. Drought in major feed-producing areas has been one of the main drivers pushing feed costs higher this year. Global events, including the Ukraine-Russia conflict, have added to feed costs’ upward pressure. Europe’s limited natural gas supplies sent fertilizer prices skyward, and the continent’s breadbasket struggles to move grains to buyers throughout the world.
Feed availability problems have only added to dairy producers’ issues. Supply bottlenecks kept other input costs high this year. Interest rates moved higher as the federal reserve works to reduce decades-high price inflation.
Overall, 2022 milk production is projected to remain unchanged from the 2021 level at a little more than 226 billion pounds as fewer cows and only modest growth in milk yields have occurred this year. Do not overlook that weaker milk production has helped keep dairy and milk prices higher in 2022.
Risks to U.S. dairy prices
The 2023 outlook for general economic data, such as domestic income growth and the value of the U.S. dollar, could dim dairy demand growth. Current projections of U.S. real gross domestic product (GDP) show a slowdown to less than 1% growth after expanding by 1.7% in 2022. Also, 30-year home mortgage rates are projected to climb to around 5.5% in 2023.
Given the high retail dairy prices experienced in 2022, less GDP growth and higher interest rates could weaken domestic dairy demand and reduce dairy product prices. Consumers may need to reduce spending to keep checkbooks balanced. This risk to dairy markets appears to add more risk for lower dairy and milk prices, but a quicker economic rebound than current forecasts suggest could drive even stronger dairy demand in 2023.
The U.S. dollar is expected to strengthen an additional 1.8% relative to a broad index of countries in 2023. This will make U.S. dairy products more expensive to consumers in other countries. On the flip side, some countries important to U.S. dairy exports have experienced strong growth in their local currency, helping keep U.S. dairy products more price competitive. Although a stronger dollar may provide some headwinds to U.S. dairy exports in 2023, declining milk production in other dairy-exporting countries should be positive for U.S. dairy product exports.
Feed markets will remain tight. The corn stocks-to-use ratio for the crop harvested this fall is projected to decline to 8.5%, while the soybean stocks-to-use ratio drops to 4.5%, keeping upward pressure on both corn and soybean meal prices. Forages remain tight as drought conditions have reduced yields in many important areas of the country.
Although feed prices will remain strong in the near term, good crops in South America and a return to higher U.S. yields in the fall of 2023 could lower feed costs in the second half of 2023. The latest forecast by the Food and Agricultural Policy Research Institute (FAPRI) at the University of Missouri shows more than a $1 per bushel decline in the 2023 to 2024 corn price. However, premium alfalfa prices will likely remain at elevated levels for much of 2023. Although feed costs could move lower with a return to average weather, availability in some parts of the country may remain an issue as supply bottlenecks remain.
The outlook for milk yields could be important in 2023 milk prices. In both 2021 and 2022, milk yields have lagged the trend growth levels. High feed costs and a focus on milk components have been important in slowing milk yield growth; a return to trend milk yield growth could expand milk supplies more than currently projected and that would negatively affect milk prices. If dairy cow retention grows more quickly in the coming months, even more pressure on milk prices will unfold.
Time to manage risk
Some headwinds could arise to put more pressure on 2023 dairy farm profitability. However, tools are available for producers to manage many of these risks. Many input prices will remain elevated as supply bottlenecks and tight labor markets will keep inputs in short supply. Producers should keep an eye on the 2023 risks described above to make informed risk management decisions as 2023 unfolds.
For some producers, the Dairy Margin Coverage (DMC) program may provide all the risk management needed. Still, other producers will need to consider additional strategies to help avoid a tough return year. Each producer will need to pick a strategy that works best for their operation.
Although there may be more downside risk in 2023, there are reasons for optimism. Lower feed costs as yields return to trend levels with average weather and stronger international demand for U.S. dairy products because global milk supplies remain tight could lead to even higher profitability in 2023. My own crystal ball suggests lower milk prices, on average, in 2023 will more than offset the lower projected costs for next year and tighten margins for many dairy producers.