Comparitive Efficiency between Australian and New Zealand Dairy Industries and Implications for trans-Tasman Trade
SUMMARY AND CONCLUSIONS
Objectives and Scope
The aim in this report is to analyse comparatively the position of the dairy industries in Australia and New Zealand, and to assess the implications for the Australian dairy industry of trans-Tasman trade liberalisation.
- It should be emphasised at the outset that the report is not oriented toward assessing the net gains to the Australian and New Zealand economies from freer trade in dairy products across the Tasman.
- It is essentially concerned with the equity issue, i.e. assessing the possible disruption that could occur in Australia's dairying areas if freer trade were permitted.
- Basic factual information about the industry and details of government intervention in the two countries are also documented.
Trade relationships between Australia and New Zealand in relation to dairy products are determined more by informal agreements than by formal barriers such as tariffs.
- Such tariff barriers as do exist could be removed with little or no direct effect on trade.
- Mutual agreement has been reached to limit imports of cheddar cheese from New Zealand (presently at 1220 t a year), and to have inter-industry consultations in respect of all other cheese.
- Cheese is the only significant item of dairy imports into Australia, and imports from New Zealand account for about 5 per cent of domestic cheese consumption.
- There are no net imports of butter into either country.
Generally, the current level of dairy product imports from New Zealand is low and supplants an insignificant proportion of milk production in Australia (about 1 per cent).
The dairy industry is relatively much more important to New Zealand's economy than it is to Australia's, but the difference is small in terms of the total volume of milk produced.
- Milk production is trending downward in Australia but is generally stable in New Zealand.
- In Australia, there is a higher rate of farm exits from the dairy industry and a relatively slower growth in milk production per cow compared to New Zealand.
Subject to limitations inherent in the comparison of average estimates, it appears that New Zealand is a much more efficient producer of milk than Australia.
- Manufacturing milk production per hectare in New Zealand was 1.6 times the level in Australia as a whole and 1.3 times that in Victoria.
- The production cost per kilogram (butterfat) of manufacturing milk in New Zealand was 16 per cent lower than in Australia. In 1977-78 and 25 per cent lower in 1979-80.
- Much of this difference in production costs can be explained by New Zealand's resource endowments (mainly its favourable climate), with government protection contributing in only a minor way.
- If it were not for the higher on-farm cost subsidies to milk production provided by the New Zealand Government, on-farm costs of manufacturing milk production would have been 22 per cent lower in New Zealand than in Australia in 1979-80, as against the 25 per cent referred to above.
The effect of competition from New Zealand on the Australian dairy industry would depend on the extent to which the landed prices for dairy product imports from New Zealand were lower than the prices for domestic dairy products sold on the Australian market.
To explore the impact of New Zealand's price competitiveness on the Australian dairy farming industry, two analyses were undertaken for each of the different industry circumstances in 1977-78 and 1979-80.
- The analyses apply to two static sets of circumstances, and the results presented are meant to be indicative rather than predictive.
- The analyses apply to two static sets of circumstances, and the results presented are meant to be indicative rather than predictive.
- Although the results apply to the past, they reflect a range of probably circumstances which could apply in the future.
- 1977-78 results can be regarded as effectively providing a most pessimistic limit to the possible adverse effects of trade liberalisation.
- It is assumed that cheaper New Zealand imports, actual or potential, will force down Australian domestic prices and place an additional proportion of Australian farms and milk production 'at risk'.
- The farms at risk are additional to those already at risk because of low or negative incomes and the fact that farm numbers are continually declining even without trade liberalisation.
- It is crucial to note that farms identified as being placed 'at risk'will not necessarily leave the industry, or face a welfare problem if they did, for the reasons to be explained subsequently.
In 1977-78 circumstances, the landed prices of New Zealand imports into Australia were estimated to be 9 per cent lower than the Australian ruling domestic prices, when based on actual average (i.e. pool) prices received by New Zealand farmers from all markets.
- It was estimated that such a degree of competitiveness would have placed at risk about an additional 6 per cent of farms and milk production in Australia, unless affected farmers took countervailing measures to increase their productivity and incomes.
- This was the least disruptive possibility for Australia in 1977-78 circumstances.
To explore the impact on Australian industry had New Zealand exploited its competitiveness fully in the 1977-78 situation, landed prices based on marginal milk production costs in New Zealand were considered. This was the most disruptive possibility for Australia in 1977-78 circumstances, and corresponded to the effects of New Zealand competition if landed prices for New Zealand imports were based on prices prevailing in less profitable markets outside the EEC in 1977-78 circumstances. On this basis:
- New Zealand's competitiveness was associated with landed prices which were 24 per cent below the ruling Australian domestic price.
- About an additional 10 per cent of farms and milk production would have been placed at risk in Australia, unless affected farmers took countervailing measures.
In 1978-80 circumstances, when world market prices for dairy products and farm profitability in Australia were higher than in 1977-78, the extent of New Zealand's competitiveness, its competitive potential and the possible contractionary pressures on the Australian dairy industry were considerably reduced.
- The landed price for New Zealand imports in Australia, based on average prices received by New Zealand farmers from all markets, was estimated to ex eed the Australian domestic price in 1979-80, thereby implying that imports from New Zealand would not have been competitive on the Australian market in these circumstances.
Even New Zealand's potential competitiveness was reduced in the 1979-80 situation compared to the earlier period, because of the convergence between domestic and export prices in Australia.
If, on the other hand, it is assumed that New Zealand imports will not enter Australia at price levels equal to or below what Australia could gain for its own exports, New Zealand would not be able to use its greater efficiency in milk production to undercut Australian prices (by basing landed prices on its marginal costs of milk production).
- At this floor, namely, the level of unit returns on Australian exports, the maximum extent to which New Zealand could reduce its prices on the Australian market becomes confined to about 18 per cent below the ruling Australian domestic price, i.e. the difference between the Australian export and domestic prices.
- This was the most disruptive possibility for 1979-80.
- At this level of landed prices for New Zealand exports, an additional 3 per cent of Australian farms and milk production could have been placed at risk, unless affected farmers took countervailing measures.
- The effect in this situation is similar to that which could have resulted if New Zealand competition were based on prices in markets other than the EEC.
The significance of the comparison between the two periods lies in the fact that the 'least disruptive' possibility for Australia in the 1977-78 situation had more adverse implications for the Australian dairy industry than the 'most disruptive' possibility in the 1979-80 situation, in terms of the additional proportion of Australian farmers and milk production that could have been placed at risk as a result of free trade.
These results are sensitive to future exchange rate movements which are likely to favour New Zealand, and so enhance its competitive potential on the Australian market from the levels identified.
Structural Adjustment Implications
Although farms and milk production are said to be placed 'at risk' when lower prices due to competitive pressures cause total costs to exceed total returns, it does not necessarily mean that farmers would leave the industry beyond this apparent break-even point, for several reasons.
- The definition of costs adopted excludes the capital value of land, etc., but includes a return to operator labour at award rates.
- Farmers could take countervailing measures to increase their productivity and incomes.
- Farmers may get additional returns of a non-pecuniary nature, such as the rental value of a house, and the benefits from perquisites, which have not been measured.
Even if farmers are forced out of dairying, they may still not necessarily face a welfare problem because of the possible availability of profitable alternatives, particularly of beef production.
- There is historical evidence that ownership change does not occur in as many as 70 per cent of dairy farms which have left the dairy industry and that incomes tend to increase on farms subsequent to their exit from the industry.
- There is evidence that most (over 80 per cent) of the resources that left dairy in the past went into beef production because beef production involves many of the same inputs as milk production.
- Obviously, whether past experience is relevant to the future will depend on the future profitability and practicability of making the shift to alternative enterprises.
New Zealand's Export Capacity
New Zealand exports over six times as much milk as would be required to supply the Australian market in the most competitive situation referred to above, with about half of this quantity going to less profitable markets outside the EEC.
- Therefore, it is within New Zealand's capacity to meet the requirements of the Australian market under liberalised trading arrangements, given appropriate price relativities, even if New Zealand imports were based at the lowest (most competitive) level identified in the analysis, when up to an additional 10 per cent of Australian milk production could have been placed at risk.
Since New Zealand's exports to lower priced markets outside the EEC amount to almost three times the amount of milk required to supply the Australian market under even the most competitive circumstances considered, the New Zealand dairy industry would not be likely to need to attract additional resources from other industries in order to produce additional milk to supply the Australian market; it could simply divert dairy products from less profitable markets.
- In fact, it is conceivable for the New Zealand dairy industry to contract significantly and still have the capacity to supply the Australian market.
In 1979-80, the effective rate of protection for Victoria (the most comparable manufacturing region) was 16 per cent when the consumer transfer on market milk was excluded, as against 30 per cent for New Zealand when the EEC access benefit to New Zealand was excluded.
- When the EEC access benefit was included, the effective rate of protection in New Zealand changed from 30 per cent to 70 per cent in that year.
In butterfat terms, the level of protection to the Victorian dairy industry was not significantly different from that in New Zealand, when the consumer transfer on market milk was excluded for Victoria and the EEC access benefit was excluded for New Zealand.
- When the EEC access benefit was included, the level of protection in New Zealand exceeded that in Victoria by about $A 0.19/kg bf in 1979-80.
If New Zealand were to export to Australia at prices that are not less than those received for its exports to third markets in the market circumstances considered, it is unlikely that New Zealand government protection to production and marketing (i.e. the protection excluding the UK-EEC benefit) would enhance New Zealand's competitive ability on the Australian market.
If the higher levels of government protection to production and marketing in New Zealand were reduced to comparable Australian levels, the resulting increase in cost-based landed prices of between 12 per cent and 15 per cent would have meant that some 3 per cent fewer farms would have been at risk.
- This provides an approximate measure of the significance of New Zealand's additional competitiveness attributable to its higher levels of government protection to production and marketing i.e. to the point of export.
The economic significance of the higher levels of protection given to production and marketing to the point of export in New Zealand is small when placed in the perspective of other pressures that are likely to influence the prospects of the Australian dairy industry.
Context for Evaluating Results
The policy of trade liberalisation is fundamentally inconsistent with the present policy of protection to the price structure for dairy products on the Australian domestic market.
- Trade liberalisation to any degree automatically implies reduced protection to the domestic pricing structure in the longer term.
- The Australian dairy industry may prefer to lower its own prices to pre-empt the entry of cheaper imports from New Zealand, rather than allow the entry of imports and have to accept even lower prices on the export market, thereby implying a reduction of protection to the domestic pricing structure.
- If it is possible for the domestic pricing structure to be protected to some degree even after trade liberalisation, access to the higher prices paid by Australian consumers could be available to the New Zealand industry as well as the Australian industry.
Other factors that are independent of the trans-Tasman trade liberalisation process could have a major influence on the profitability of and prospects for the Australian dairy industry.
- Future world market developments, particularly policies in the EEC in relation to the CAP and New Zealand, and the devaluation of the New Zealand dollar could increase New Zealand's competitiveness in relation to Australian exports in third markets.
- If the present high prices for dairy products on the world market should prove to be short-lived and/or the outlook for beef production is relatively brighter than for milk production, there could be a movement away from dairy farming in Australia as a normal management response to market signals.
- New technologies, particulary UHT milk, could reduce the profitability of high-cost market milk farms in Australia.
- This could result in a reduction in the number of farms in dairying.
- But it could also increase the access, and therefore profitability, of farms previously excluded from the market milk market.
- If milk production falls further in Australia, the consequent reduction in the exportable surplus could be expected to increase returns to, and therefore the profitability of, remaining farmers, as a smaller proportion of milk is utilised on the lower priced export market and a larger proportion is diverted on to the higher priced domestic market.1
[NAA: Al313/113, 8211381, iii]