"If you thought dairy prices were ugly before, they are horrendous now," said BNZ's Doug Steel.
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Weaker dairy prices have prompted analysts to pull back their expectations for Fonterra Cooperative Group's [NZX: FCG] payout to farmers this season, with most now expecting this year's payout will be below last year's, which is likely to put pressure on farm incomes and see debt levels rise.
The price for whole milk powder, New Zealand's key commodity export, dropped 13% percent to $US1848 a tonne in the GlobalDairyTrade auction overnight. Continued weakness in dairy prices is being driven by increased supply from New Zealand, Australia, Europe and the US amid lacklustre demand in China and an import ban in Russia.
"If you thought dairy prices were ugly before, they are horrendous now," said Bank of New Zealand economist Doug Steel. "We estimate aggregate prices are at their lowest level since 2002. This for New Zealand's biggest export product that accounted for nearly a third of goods exports last year and nearly a quarter of all exports. It will hit New Zealand's economic growth, lower the terms of trade further and widen the current account deficit.
"The very poor details in today's auction sees us lower our milk price forecast further to $4.30. A lower New Zealand dollar is helping at the margin but the degree of decline in international prices continues to swamp the currency effect on milk price."
Mr Steel said $4.30 per kg/MS represented BNZ's "best estimate of the middle of a very wide range of possible outcomes when the season's figures are finalised in over 12 months' time," which was "well below the cost of production for many New Zealand dairy farmers and low prices for two seasons in a row will be a major challenge for all farmers."
Most analysts have pulled back their forecast for Fonterra's payout for the current 2015/16 season following the overnight auction, with expectations now in a range of $3.75 a kilogram of milk solids to $5/kgMS. All but one of the estimates in a BusinessDesk survey are now below Fonterra's $4.40/kgMS payout for the 2014/15 season, just ended.
Dairy NZ estimates $5.70/kgMS is the industry average breakeven point for most farmers.
Auckland-based Fonterra has forecast a $5.25/kgMS payout for the current 2015/16 season but that is based on prices heading back toward $US3500 a tonne in the coming year. Fonterra's next opportunity to review its milk price forecast is at its August 7 board meeting.
"We are constantly monitoring the global situation and continuing to look at all the factors that impact the milk price across the current season, which has just started," Fonterra group director of cooperative affairs, Miles Hurrell said. "The global dairy market currently has a big imbalance between demand and supply."
Weaker dairy prices are weighing on New Zealand's economy, cited as a reason for decade-low rural confidence levels and deteriorating business confidence. They are on the radar of the Reserve Bank, which has begun cutting interest rates to bolster slowing growth.
"The prospect of two consecutive seasons of very low milk prices will have implications for the Reserve Bank," said Westpac's Michael Gordon. "We suspect that fixed-term interest rates will fall further as markets move to price in more aggressive interest rate cuts from the Reserve Bank."
Some economists are forecasting three further interest rate cuts this year, which would fully reverse the central bank's tightening in policy last year when it raised interest rates by a percentage point. The central bank is next scheduled to review interest rates next Thursday.
The outcome "heaps more pressure on the Reserve Bank to cut interest rates," said Mr Steel. "it looks to us that dairy prices are about 16% below where the Reserve Bank had factored into its June Monetary Policy Statement."
The continuing fall in dairy prices means farm debt levels are likely to rise, and rural communities are likely to suffer as farmer reduce spending to the bare essentials, said Susan Kilsby, a dairy analyst at AgriHQ.
A survey published by Federated Farmers yesterday showed a net 62% of dairy farmers expect their profitability to deteriorate over the next 12 months, while a net 60% expect to reduce spending and a net 49% expect to increase debt.
(BusinessDesk)
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