Dairy producers might have to tighten their belts this year as record-setting milk prices decline as feed costs remain high. But global weather conditions, along with domestic and international economic trends, could play a huge role in how things eventually play out.

That's what Chris Wolf, professor of agricultural economics at Cornell University's Dyson School of Applied Economics and Management, said during the recent 2023 U.S. Dairy Situation & Outlook put on by Farm Credit East.

"It's a year that has a whole lot of uncertainty around it," Wolf said. "If feed prices stay the same but milk prices decline by $5 per cwt, that is certainly going to indicate it could be a very stressful year, financially, on dairy farms."

The all-milk price hit an all-time high of $27.30 last May. In addition, the price of Class III milk (cheese, dry whey) averaged just under $21 cwt for the entire year, which is significant because cheese products drive the industry by comprising the biggest use of milk produced in the U.S.

Class IV milk (butter) was also above average at almost $24.50 cwt.

"So, milk prices in 2022 were pretty spectacular by historic standards," Wolf said. "It would be if we didn't have the high cost of feed to go along with it."

However, USDA is now projecting a drop in the all-milk price from $25.55 to $20.70, while the price of corn stays flat at about $6.70 per bushel.

"That will depend a whole lot on how much gets planted and what the crop is like," Wolf said. "They're [USDA] continuing to think milk prices are going to languish in 2023. They're concerned about demand and consumption domestically."

Effects from recession

USDA estimates the Class III price will be down $4 from $21.94 to $17.90, while Class IV will drop off even sharper, down $6 from $24.47 to $18.45.

Much of this depends on whether the U.S. economy is headed for a recession. During recessions, people tend to eat out less. Consumption of cheese-related products, such as pizza, goes down.

On the contrary, fluid milk consumption, which overall has been in decline, increases when people stay home.

Right now, the low unemployment rate and strong wage growth indicate there won't be a recession. "Right now, there are two job openings for every person looking for a job, an historic high," Wolf said. "It's difficult to imagine having a recession when we're so fully employed."

But one of the leading indicators for a pending recession is the 10-year bond rate minus the 2-year bond rate — sometimes known as the 10-2-year treasury yield spread or the 10-2-year spread.

Whenever this is negative, a recession typically follows about 12 to 18 months later. This factor has been negative since July, meaning a recession might be on the horizon later this year.

"With full employment and the wage growth we've seen, it's difficult to see how it could happen anytime soon," Wolf said. "The earliest would be by the end of 2023. If it happens, it would affect dairy. That's part of the uncertainty that's hanging over dairy demand this year."

The other big question is, if there is a recession, will it be short-lived like the COVID-related one of 2020, which large amounts of federal stimulus helped end? Or could it be like the devastating, 18-month-long Great Recession of 2008-09, the country's worst financial crisis since the Great Depression?

With regard to milk production, USDA is projecting a modest 0.75% percent increase as weaker milk prices are expected to result in lower cow inventories.

New York falls

Texas has surpassed New York as the nation's fourth-leading dairy producer and could jump to the No. 3 spot, moving ahead of Idaho, if it continues on the same pace of growth as in 2023. "They have a lot of big new plants, increasing their ability to take in and process milk," Wolf said.

California and Wisconsin are the top two dairy states in the country.

Exports rise

Dairy exports have been steadily climbing for three years and the U.S. gained market share in 2022, as exports from other countries went down or stayed flat. New Zealand and the European Union are America's main competitors.

Milk production in New Zealand declined 3.1% last year in response to new environmental regulations mandating lower cow density. Severe drought also hurt crop production there.

The total export value of U.S. dairy goods rose 25% to $9.6 billion last year, despite only a 5% increase in solids. The higher value reflects higher milk prices domestically and internationally.

"So, it was a stellar year for exports from the U.S.," Wolf said. "Mexico is our most important trading partner, the place we send the most cheese to when exporting. When Mexico is doing well and importing, that's very good for us.

"To the extent that Mexico becomes more middle income than lower income, there's opportunity to export more cheese. Mexico is not a great place to milk cows, and the weather is bad for corn production. I think there's definitely room for growth into Mexico, especially if New Zealand production is down. We have a logistics advantage with getting things into Mexico."

China and Southeast Asia (nine nations) are also major buyers of U.S. dairy. China imports almost all of the skim milk powder (93.3%), cheese (88.6%) and butter (91.5%) it consumes.

"When China is in the market big, they're enough to tip things on international demand and bring everybody's price up," Wolf said.

Analysts are paying close attention to China's handling of COVID. "We're all kind of waiting to see what happens there with regard to international dairy markets," Wolf said. "Will people be staying home, meaning China won't be importing as much?"

Managing risk

Wolf suggested basic steps to take when making risk management decisions in the face of uncertain market conditions.

"I've always thought that step one is to get a handle on your cost of production," he said. "Step two, look at what you've got locked in for feed costs, particularly on the forage side, how much of your grain you've got prepaid and what that looks like.

“Then I would start with Dairy Revenue Protection, particularly what does look it like for six and 15 months out, and what does that look like relative to my cost of production and what I've got locked in? There will be opportunities on the risk management side, depending on what your cost of production looks like, and that's the first step."

Post writes from eastern New York.