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Water & Milk Policy News

Geoff Vanden Heuvel

Director of Regulatory and Economic Affairs

Recent Groundwater Data Reveal Significant Overdraft

It’s dry. There has not been much moisture this past winter and surface water deliveries to the Central Valley this summer will be small to non-existent. Last winter was pretty dry too. Dry winters are not unusual in California. But now, access to groundwater – our reserve water supply – is regulated. The Sustainable Groundwater Management Act (SGMA) was passed in 2014 as a result of the last serious dry period. This legislation prompted the formation of locally controlled Groundwater Sustainability Agencies (GSAs) throughout California. The GSAs in the Central Valley have been established, Groundwater Sustainability Plans have been drafted by the GSAs, and those plans are now being implemented. An early action item in those plans is the tracking and reporting of water use in their jurisdiction to the state. On April 1, all the GSAs in the Central Valley reported their water use for the period October 2019-September 2020. You can see this information here.

Of particular interest in the reports is the change in storage number. This number is a gauge of overdraft. If the number is negative, more water was removed from the ground than was recharged. A positive number would represent an increase in groundwater storage. In the April 1 report, all the subbasins I am following (because they have a dairy presence) reported a negative change in storage. Cumulatively, those subbasins reported a negative change in storage of 3,453,081 acre feet. This was the first annual report since many GSAs put in place their monitoring and data collection protocols. The data is imperfect and can be spotty in some places. But the picture this gives is certainly a concerning one.

With another low surface water year upon us, the groundwater table will once again be tapped hard to maintain agriculture’s cropping demands. But change is coming. We do need to put in place the infrastructure to capture and recharge all the water that may be available in a wet year. There is a growing recognition that there needs to be public financial participation to make that happen. But business as usual is not sustainable. This challenge is very location specific. Some areas have much better access to surface water. And even though there will not be much surface water this year, when the rains return, those areas have the ability to recover. Areas without access to surface water are in a much different position. Many GSAs are working to attempt to supplement their water supplies, but there are some where the GSA is leaving it to landowners to fend for themselves. As far as I know, no GSAs are yet mandating a reduction in groundwater pumping, but many are putting in place allocation systems that will use financial tools to incentivize reduced groundwater usage. Learning about your situation and getting involved in your local GSA is a wise investment of effort. As always, I am happy to share what I have learned about your area if you want to contact me.

Class I “Higher of” vs. “Average of” Policy Debate Continues

The Class I formula is the topic of intense attention by the dairy industry right now. The Federal Milk Marketing Orders (FMMO) utilize a classified pricing system to regulate milk prices. Class I is fluid milk and is the only classification of milk that is required to both pay a minimum price and participate in the pooling of that revenue with all the participants in the order. Participation by the other classes of milk, Class II (soft products), Class III (cheese) and Class IV (butter/powder) is voluntary. Those classes participate primarily to obtain a share of the class I revenue. It is pretty easy to figure out that for this system to work, Class I prices need to be higher than all the other classes or there will not be any money to share. That is why when USDA reformed the system in 2000, creating a separate formula using product values for Class III and Class IV, it established the base price for Class I as the HIGHER OF either the Class III or the Class IV prices to make sure the Class I price stayed in its proper alignment.

The International Dairy Foods Association (IDFA) approached National Milk Producers Federation (NMPF) in 2018 and asked them to consider changing the “higher of” to the “average of” Class III and IV so that hedging Class I would be easier. NMPF was willing to consider this if IDFA was willing to support an add on to the Class I price to compensate producers for the elimination of the benefit of the “higher of.” The data since 2000 showed that the “higher of” policy resulted in a Class I price that was on average $0.74 per cwt. higher than it would have been if the “average of” was used as the base price. IDFA agreed to support adding $0.74 per cwt. to Class I price and Congress approved changing the Class I formula to the “average of” plus $0.74 through legislation. Then the pandemic hit.

The huge and unprecedented gap between Class III and Class IV prices in 2020 created all sorts of problems – not the least of which is that the new Class I formula, based on the “average of” Class III and IV produced Class I prices that were vastly lower than they would have been under a “higher of.” This led to significant misalignment of class prices and contributed to de-pooling and negative producer price differentials. It’s estimated that Class I prices under the “average of” formula were lower by more than $700 million. This has resulted in calls for change from the producer community.

NMPF is proposing to increase the $0.74 to a much higher number that would reflect the huge change in the relationship between Class III and IV during the past year. IDFA has rejected this approach saying the issue needs more study. NMPF appears likely to petition for a hearing at USDA to propose its change. Other voices in the producer community are suggesting different numbers or time periods. There are also voices in the producer community who are advocating going back to the “higher of” as the right approach.

My take is that the change that Congress made in 2019 had a huge negative impact on producers which in turn has raised all kinds of questions and doubt about the FMMO system. We need to recognize that there are constituencies in the dairy industry who would prefer a deregulated market. I am a big supporter of the value of the FMMO system to producers. The government plays an important role as the referee between producers and processors. Without FMMOs, I think the big box retailers would set Class I prices in America and producers who still must sell milk every day to a buyer who does not have to buy milk every day would be at a huge disadvantage at the milk price negotiating table. The FMMO system has been the referee and lasted 85 years by being based on solid economic and policy principles.

I believe how we react to this challenge will lay the groundwork for what follows. Tweaking adjusters to achieve a particular result as opposed to adopting policy based on principles could ultimately undermine support for the FMMO system and lead to its demise. That would not be a good result in my view, but some would cheer. We can be sure there is much more to come.

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