A trip to the dairy aisle grows costlier

Cattle Are Auctioned In Shadow Of Mad Cow Scare
The U.S. dairy herd is smaller than it has been since at least 1980. Overall milk production has fallen as well, but the amount of milk that the average U.S. cow now produces is far higher than two decades ago.Justin Sullivan / Getty Images file

You think high dairy prices are busting your budget?  Talk to Anthony Peluso.

His restaurant, Tolli’s Apizza of East Haven, Conn., needs 700 pounds of whole milk mozzarella every week to top its piping-hot pizzas, which account for 80 percent of his business. 

Tolli’s suppliers have raised mozzarella prices by $1.20 a pound in the past eight months; that's an extra $900 each week. While Peluso's customers eat slices, he eats the cost — but is getting ready to start raising prices.

“If it keeps up like this, I can’t afford to lose $900 a week,” he says. “We’re getting killed.”

It’s not just cheese. Milk, yogurt, ice cream — across the board, U.S. dairy prices are at record highs.  Nationally, a gallon of whole milk retailed last month at $3.02, 22 cents higher than a year ago; 2-percent milk was at $2.93, up 20 cents. Wholesale prices for blocks of cheddar cheese were $2.10 a pound by late April, up nearly 25 cents from a month earlier.

“We’re much higher than previous records,” says University of Wisconsin dairy economist Ed Jesse.

Price pressures
Late last month, the U.S. Department of Agriculture raised the wholesale price farmers are paid for raw milk by 52 cents per gallon: about $1.69 for May, up from $1.17 last month and 95 cents a year ago.

Some of those higher wholesale prices haven’t yet been reflected in the dairy aisle, so retail prices should keep rising through June. After that, the industry expects prices to slowly sink again through the end the year.

“We use Newton’s theory a lot,” says Jim Gordon, a sixth-generation dairy farmer in Elma, Wash., and executive director of the Washington State Dairy Federation. “What goes up will come down.”

Individual retailers ultimately must decide if they should raise prices, and by how much. Milk remains a key staple for supermarkets, and customers often use milk prices as a gauge of value for the rest of the store. Grocery stores face mounting price pressures as shoppers buy milk and other perishable items from discounters like Costco and Wal-Mart.

Everything dairy is likely to get more expensive, though food companies are hesitant to pass such costs onto price-sensitive customers.  Good Humor-Breyers Ice Cream, which sells over $1.2 billion in frozen treats a year, has kept prices the same for everything but its Klondike bars, which are up by 10 cents a package. But with summer coming soon, their margins may be squeezed.

While restaurant chains often sign long-term supply deals for dairy items, worries persist. Starbucks recently said higher milk prices could cost it as much as $15 million more this year, though latte prices aren't slated to spike. Pizza Hut hasn’t raised prices yet but says it's closely watching dairy costs.

As for owners of small ice cream parlors and pizza shops, most, so far, are swallowing their extra costs and debating whether customers will tolerate an extra quarter per scoop or slice.

“People would go, ‘Oh my God, you went up?” Peluso says. “Pizza, especially, for some reason is fixated in people’s minds. It’s cheap, it’s supposed to be cheap, and that’s it.”

More milk, fewer cows
When milk prices get so frothy, the first tendency is to point a finger at farmers. But the higher wholesale prices they’re receiving are based in part on demand, and in part on an unforeseeable combination of long-term difficulties.

  • The industry was hit hard in late 2001, with wholesale milk prices sagging for the next year and a half.  It began to recover by late last year, but many farmers had since gone out of business.
  • Demand for dairy is strong now, but fewer farmers means fewer cows. The U.S. dairy herd is now under 9 million cows, the smallest since at least 1980. Though overall production is down, per-cow production (the amount of milk squeezed from each cow) is at its highest ever.
  • Poor harvests have resulted in less high-quality feed and higher feed prices. Farmers rely on better feed to keep increasing the amount of milk each cow will provide.
  • Chemical firm Monsanto is facing a shortage of bovine somatotropin (BST), a hormone used to increase milk production in about a quarter of the nation’s cows.  Farmers’ BST supplies have been rationed, reducing milk output by an estimated 2 percent.
  • The supply of so-called “replacement cows” — younger cattle used to freshen herds and increase milk output — has dwindled since mad cow disease was discovered last May in Canada and the border was closed. Some older cows, which can’t produce as much milk, have remained in U.S. herds. Other cows were sold for slaughter last year amid record high beef prices.
  • High energy costs have added to the bottom line for farmers, distributors and retailers.

At the same time, dairy farmers' share of profits has been shrinking over the past 25 years.  They captured over 50 percent of the retail price for dairy items in 1980; now they get about a third.

When the dairy market grows, farmers usually bring in extra cows to increase production and capitalize on higher prices. But last year, there was almost no expansion. Farmers who had survived the downturn were tapped out of cash and couldn't expand, which further tightened supplies. And since most dairy operations are small and family owned, new farms are rarely started even in good times.

A long-term view
There may currently be a bit of sticker shock at the milk case, but it’s worth keeping prices in perspective.

In 1981, a half-gallon of milk cost $1.11, which comes to $2.29 in 2004 dollars. Even in 1996, a gallon of milk cost $3.02 in 2004 dollars, just about last month’s national average. An index of dairy prices maintained by the Bureau of Labor Statistics has been trailing inflation since the early 1980s. Though retail dairy prices may feel expensive, they are consuming a smaller slice of Americans’ overall income.

“They’re not even anywhere close to what we would’ve considered normal 20 years ago,” says agricultural economist James Miller of the USDA’s Economic Research Service.

Perhaps that’s why Jay Gordon, who milks his 150 cows for Northwest co-op Darigold, had a moment of déja vù last March when federally-set prices per 100 pounds of liquid milk (about 11.6 gallons) hit a bottom of $10.16.

“My grandfather got $10.18 in 1978,” he says. “If you factor in inflation, I’m either smart enough or stupid enough to stay in the dairy business with the same real dollars my grandfather did.”

While farmers like Gordon are expecting some extra zeroes in their monthly checks, they don’t expect it to last.

And the dairy industry is quick to point out that even with higher prices, their products remain a relative bargain. Says Chris Galen of the National Milk Producers Federation: “People complaining about $3 a bottle of milk is ironic, given the cost of a bottle of Evian.”

Organic market is stable
Notably, not every part of the business is so volatile. Prices for organic milk have remained stable — and though organic costs more, higher prices for other milk have narrowed the gap, which could make organic more appealing to some price-shopping consumers.

Organic dairy has remained stable because the factors that have hammered conventional dairy farmers have little impact on their organic counterparts. Organically fed cows spend more time grazing in pastures, so farmers require far less feed.  Hormone supplies aren’t an issue.

Organic farmers also receive more money for their milk; wholesale prices are often set annually, which means fewer price fluctuations.  Farmers in the Organic Valley co-op receive a baseline average of $1.76 per gallon, 7 cents above conventional farmers' current record price levels. That gap may be the thinnest ever; in 2002, Organic Valley producers earned 60 cents more per gallon than their neighbors.

“We see just how hard a lot of our friends who farm conventionally are struggling,” says Regina Beidler, who farms organic milk cows with her husband Brent on 150 acres in Randolph Center, Vt. “There needs to be a fair pay price for everybody.”