Drought-borne diminished milk supply and ag production will continue to challenge U.S. dairy suppliers, according to the U.S. Dairy Export Council (USDEC), Arlington, Va.

The U.S. farming community remains mired in the worst drought since the 1930s, and this is having a “momentous impact” on food production and prices both here and abroad. As much as 40 percent of the contiguous United States was classified as being in “severe” drought or worse as of Oct. 2, USDEC notes — but this is an improvement over the previous two months.

These drought conditions forced monthly milk production in the United States to slip 0.3 percent in August 2012 vs. the same month a year prior, the first decline since January 2010. And, according to USDEC projections, milk output will drop 0.3 percent for the remainder of 2012 and remain in the red through the first quarter of next year, if not longer. What’s more, costs will put pressure on margins, discouraging expansion.

U.S. milk powder and butter will be hit the hardest by the decline, USDEC says. Nonfat dry milk and skim milk powder production will drop 8-10 percent over the next 12 months, which equates to about 90,000 tons, says Alan Levitt, vice president of communications and market analysis, USDEC.

“That could significantly impact U.S. milk powder exports — our largest volume product after whey proteins,” Levitt notes. “We estimate about half — 45,000 tons — could come from volumes earmarked for the world market, but the extent to which suppliers pull back from exports largely depends on price movements and the strategic position world markets occupy at individual companies.”

U.S. NDM/SMP price indices as of late September were nearly at parity with Oceania spot prices — a rare occurrence for the usually lower-priced U.S. product and a blow to U.S. competitiveness, USDEC adds. Cheese supplies are expected to be sufficient, but pricing also poses a challenge. Since early 2006, U.S. cheddar prices had only been above Oceania spot prices for a handful of weeks. Since July, however, the tables have turned, putting the United States at a cost disadvantage. U.S. suppliers will be challenged to maintain share and volume should conditions hold.

But there is good news: The fundamentals behind the long-term rise in global dairy consumption remain in place, USDEC says. Emerging market demand has been strong, despite slowing economic growth in key Asian markets. But whether demand growth continues at a strong pace into 2013 is another story.

Severe weather has stunted agricultural production in a number of regions, suggesting the world is due for another run-up in food prices that could erode consumer purchasing power, particularly in developing countries where a large proportion of income is spent on food. Downside risks, like a deepening of the European debt crisis, could heighten the situation. That does not necessarily portend a major demand pullback. The Food Price Index from the U.N. Food and Agriculture Organization grew 8 percent from June-September, yet demand held.

“Recent history has shown that emerging market consumers appear willing and able to maintain dairy consumption levels at relatively higher costs,” says Marc Beck, executive vice president, strategy and insights, USDEC. “With supply short and the price gap far thinner than normal, the United States could lose share of global NDM/SMP. But strong developing world demand, constrained supplies out of Europe and the prominent position the United States holds in global NDM/SMP trade — 30 percent of the market — suggests we will remain a significant player.”

How the United States ultimately recovers from the drought will heavily depend on when normal weather returns. USDEC expects U.S. milk output to bounce back in 2014 and 2015 with gains of 2.1 percent and 1.8 percent, respectively.

“U.S. processors and producers have received the message that if U.S. dairy is to continue growing at a healthy pace it must be an eager, active and committed player in international markets,” says Levitt. “Rising U.S. production is dependent on demand from outside our borders and to capitalize on that potential, we must face the challenges that come with serving that market, including the challenges caused by drought.”

Government predictions also point to less moisture overall. According to the National Oceanic and Atmospheric Administration (NOAA), College Park, Md., areas ravaged by extreme drought over the past year are unlikely to see much relief from drought conditions this winter. NOAA’s 2012 U.S. Winter Outlook (December through February) odds favor:

  • Warmer-than-average temperatures in much of Texas, northward through the Central and Northern Plains and westward across the Southwest, the Northern Rockies, and eastern Washington, Oregon and California, as well as the northern two-thirds of Alaska.
  • Cooler-than-average temperatures in Hawaii and in most of Florida, excluding the panhandle.
  • Drier-than-average conditions in Hawaii, the Pacific Northwest and Northern California, including Idaho, western Montana, and portions of Wyoming, Utah and most of Nevada.
  • Drier-than-average conditions in the upper Midwest, including Minnesota, Wisconsin, Iowa and northern Missouri and eastern parts of North and South Dakota, Nebraska, Kansas, and western Illinois.
  • Wetter-than-average conditions across the Gulf Coast states from the northern half of Florida to eastern Texas.

The rest of the country falls into the “equal chance” category, meaning these areas have an equal chance for above-, near-, or below-normal temperatures and/or precipitation, NOAA officials say.