New Zealand dairy farmers learned Tuesday that their earnings for the 2014-2015 season will be worse than expected thanks to a boom in global production and a glut of dairy products in China.
Farmer-owned cooperative Fonterra, the world's biggest dairy exporter, announced a payout of 6 NZ dollars (5.11 U.S. dollars) per kilogram of milk solids, down from 8.40 NZ dollars (7.15 U.S. dollars) in the previous season, sparking concerns over the impact on the national economy.
The drop in payments would see total earnings by the country's dairy farmers, who produce the country's pillar export commodities, fall by 4.3 billion NZ dollars (3.66 billion U.S. dollars), or the equivalent of 1.9 percent of gross domestic product, the New Zealand Herald newspaper reported.
Fonterra chairman John Wilson said the payout reflected continuing volatility in the international commodity prices, with Fonterra's own GlobalDairyTrade price index dropping by 16 percent since the season opened at the beginning of June.
"We have seen strong production globally, a build-up of inventory in China, and falling demand in some emerging markets in response to high dairy commodity prices. In addition, the New Zealand dollar has remained strong," Wilson said in a statement.
Fonterra's milk collection across New Zealand last season reached 1.584 billion kg of milk solids, up 8.3 percent from the previous season.
Fonterra chief executive Theo Spierings said in the statement that the cooperative's forecasts anticipated some recovery in global dairy prices, but it is too early to predict how strong it would be or when it would kick in.
Federated Farmers, the industry lobby, warned politicians to " cut their cloth" in making pledges before September's general election as farmers prepare to cut costs themselves.
Federated Farmers dairy chair Andrew Hoggard said the drop in earnings is a surprise, although farmers have anticipated a fall in earnings.
"It means farmers will need to watch costs closely and cut their cloth accordingly. It means getting back on the computer to reforecast farm budgets. One thing for sure, the margin between operating costs and revenue has appreciably closed up," Hoggard said in a statement.
"Given half of what we get paid is spent locally, this will impact the towns, but the cities are not immune," he said.
However, farmers are confident that the payout would progressively rise later in the season as prices recovered.
"This is not the death of dairying and nor is it anything to do with food scares either. It simply reflects a near perfect production season in Australasia, North America and Europe," said Hoggard.
The payout comes on top of other bad news for the agricultural sector, including interest rates rising by a full percentage point to 3.5 percent since March and the stubbornly overvalued New Zealand dollar, although the dollar dropped to a seven-week low after the news on Wednesday.
In a report last month, the Ministry for Primary Industries warned that the 2014-2015 season could "prove challenging" for farmers who had invested in boosting herds and production on the back of record dairy prices driven by demand in China.
After next year, the ministry expects returns to begin increasing again, "based on the assumptions of a depreciating New Zealand dollar, a trend of increasing international dairy prices, and the growing demand for dairy products to exceed the increases in world milk production."
However, Goldman Sachs has reportedly forecast that annual global dairy output will exceed demand by 2 billion liters through to 2018, a five-year glut that will depress prices.
