Column  Global Economy  2016.10.14

The shortage of butter due to the TPP would be serious-A tragedy caused by outdated measures in the promotion of dairy farming-

The article was originally published on Kinyu-zaisei Business on August 18,2016

In the past few years, there has been a shortage of butter due to controls on the production of raw milk related to the reduction in demand for powdered skim milk after a case of mass food poisoning in the Snow Brand Milk Products Company (now the Megmilk Snow Brand Company). This has not been regarded as important, even by people involved in agriculture, but the tariff on whey, an ingredient similar to powdered skim milk, is about to be considerably reduced and eventually abolished under the TPP negotiations. If powdered skim milk production is reduced due to an increase in whey imports, shortages of butter will be more serious. To avoid this, not only a reform of policy for dairy farming but a radical reform of agricultural policy as a whole is needed.

The true reasons behind the shortage of butter

There has been a shortage of butter since 2014. An agricultural economist said that one factor behind the shortage of butter is the abandonment of farming caused by financial difficulties due to the static raw milk price. The economist suggests that Japan should strengthen the protection of dairy farming.

However the move away from dairy farming is not a recent phenomenon. The number of dairy farmers dropped greatly, from 420,000 in 1963 to 30,000 in 2000, and then continued to drop steadily to the present number of 20,000. In the last 10 years; the number of dairy farmers has been falling by 4 to 5% each year. Although the number of dairy farmers has been falling, the number of cows per farmer has been increasing and the total in the number of milk cows is decreasing only by 1 to 2% each year. The amount of milk produced per milk cow has also been increasing so the abandonment of dairy farming has not affected the production of raw milk. In the long term, the number of dairy farmers has dropped from 400,000 to 20,000 in 50 years but the production volume has increased from 2 million tons to 8 million tons.

Additionally, it is not a problem of management which is causing the abandonment of dairy farming. Management has been in a good condition due to a rise in the milk price in 2009; calf prices have also risen considerably. The annual average income of a dairy farmer in the fiscal year of 2014 was 9,740,000 yen, which was more than double a rice farmers' annual average income of 4,120,000 yen.

There were some in the press who believed the economist's analysis, however many gave the following opinion.

Butter is made from raw milk produced by dairy farmers. Raw milk is supplied preferentially for high price drinking milk and the reminder supplied for dairy products such as butter and skim milk. Therefore, in cases when the rate of reduction in raw milk production is greater than the rate of reduction in drinking milk consumption, it has an exponentially negative effect on the supply of raw milk for dairy production such as butter and powdered skim milk. In 2013, the amount supplied for drinking milk fell by 1.1% compared to the previous year and the rate of decrease in the amount of raw milk production (2.1%) was higher. This caused a reduction in the supply of raw milk for dairy products such as butter and powdered skim milk of 8.1%.

However, they did not explain the following points.

First, the fall in the supply of raw milk used for dairy products such as butter and powdered milk was 11.6% in 2010 compared to the previous year; and 9.2% in 2011. In 2013 the fall was 8.1. The rate of decrease in 2010 and 2011 were higher than that in 2013. Then, why did a shortage of butter not occur in 2010 and 2011?

Second are the doubts over powdered skim milk. Powdered skim milk is produced from raw milk at the same time as butter is produced. When the liquids are taken from raw milk, fat and non-fat milk solid content such as protein and sugar remain. Butter is produced from the fat, and powdered skim milk produced from the non-fat milk solid content. Due to the fall in supply of raw milk for these dairy products, the amount of skim milk production fell to 12.6% in 2010; 9.3% in 2011; and 8.9% in 8.9%. However, why was there not a shortage of skim milk?

Third is the problem of international supply and demand. Since 2014, demand for butter in the international market has fallen considerably due to the increase in production caused by a warm winter in Europe and the fall in sales to China and Russia. The price of butter in October 2014 was half the price of the beginning of the year; 40% lower than the price in 2013. Why was there a shortage of butter in Japan while it was oversupplied in the international market?

Then what is the reason for the shortage of butter in Japan?

Graph 1 shows that although the amount of butter consumption remained constant, the amount of powdered skim milk consumption has been declining greatly since 2000. This was influenced by the mass food poisoning of Snow Brand Milk Products Company's skim milk. The demand for powdered skim milk had declined due to the damage to its reputation.

Graph1 : The shift in the consumption of butter and powdered skim milk
Axis: Consumption (unit: 10 thousand tons)
(The source-ALIC "Chart of demand and supply for powdered skim milk and butter etc.")

Milk is interesting. Fresh cream and skim milk separate from milk. Butter is made by stirring fresh cream, and powdered skim milk is made by drying skim milk. (Graph 2) If water is added to butter and powdered skim milk, they transform back to milk (recombined milk). Therefore in cases where butter and powdered skim milk are overstocked, recombined milk is overproduced, and the price of milk falls. Moreover, the price of raw milk for butter and powdered skim milk is lower than that for drinking milk, so the recombined milk can be supplied at a lower price than normal milk. In cases where there is the price difference between milk and recombined milk, the dairy maker can make higher profits by producing recombined milk.

Graph2 : Milk can be produced from butter and skim milk

If raw milk is produced to meet the demand for butter, the balance between demand and supply of butter is satisfied but there will be a surplus of powered skim milk. Then low fat milk, which is also a kind of recombined milk, is produced from the left over powdered skim milk and the price of drinking milk falls. As a result, dairy producers will be requested to lower the price of raw milk. In order to avoid this, raw milk has to be produced to match the demand for powdered skim milk. As a result butter is always in shortage.

Graph 3 shows the shift in the amount of imports of butter and powdered skim milk. Until 2001, powdered skim milk had been imported, but not so in case of butter. However, since 2002, the imports of powdered skim milk have declined greatly and it is butter which has been imported last 10 years.

In another words, before the consumption of powdered skim milk declined due to the Snow Brand Milk Products Company incident in 2000, raw milk had been produced to match the demand for butter, which tended to be overstocked, with resulting shortages of powdered skim milk which therefore tended to be imported. After the Snow Brand Milk Products Company incident, there is a fear that raw milk for powdered skim milk has been over-produced causing shortages of raw milk for butter which then needs to be imported.

Graph3 : amount of ALIC import (convert into the amount as raw milk)
Axis: Raw milk import amount (tons)

So since 2013, why has not enough raw milk been imported? Regarding butter, imports by private companies are effectively forbidden due to high tariffs and a Japanese national organization, ALIC (Agriculture & Livestock Industries Corporation) who control the low tariff import quota exclusively under the guidance of the Ministry of Agriculture. If the Ministry of Agriculture imports too much butter and eases domestic the supply and demand for milk and dairy products, it affects negotiations between dairy farmers and dairy companies over the price of milk. In cases where the dairy farmers are weakened in negotiations, the Ministry of Agriculture will be blamed. Aware of this, the organization does not have positive attitude towards importing butter.

Imports of butter were 16 thousand tons in fiscal year 2011, and 10 thousand tons in fiscal year 2012. However there were only 4 thousand tons of imports in fiscal year 2013 when butter production fell considerably. Even in fiscal year 2014, when the shortage of butter became a serious issue in Japan, only 14 thousand tons of butter were imported.

I guess the reason why the ministry of Agriculture imported only small amount of dairy products was the change of administration from the Democratic Party of Japan to the Liberal Democratic Party of Japan at the end of 2012. Under the Democratic Party administration, there were only a few party members with a connection to dairy farmers. As a result, the Ministry of Agriculture did not need to worry about being blamed by the Democratic Party if imports of dairy products were too high and had a negative effect on negotiations over the milk price.

Increase in imports of whey increased the shortage of butter

Japanese dairy products would experience some negative effects as a result of the TPP negotiations. Japan has to abolish the tariff on natural cheese such as cheddar and Gouda, which will become an ingredient of processed cheese sixteen years after the TPP starts. In return, Japan could maintain tariffs on butter and powdered skim milk under the condition that Japan has to establish import quotas of 70 thousand tons of raw milk for each product. As Graph 2 shows, butter and powdered skim milk are dairy products which need special attention.

However there is a dairy product called whey whose composition is similar to powdered skim milk. This is the liquid which gathers on top of yoghurt when it is left to sit. This is a by-product of cheese, and the US, who produce a large amount of cheese, had a big interest in the expansion of whey exports. The tariff on whey will be abolished in 21 years after TPP goes into effect, and will be reduced to considerably lower one in the first year of its implementation than the previous level. In addition even if the safeguard is taken, the applicable tariff rate is low and it will not help Japan stop the increase in whey imports. If imports of whey (which compete with powdered skim milk) increase, Japan cannot help but reduce powdered skim milk production. In keeping with this, raw milk production also has to be reduced. As a result, butter production will also be reduced and shortages of butter will increase.

Reform of the policy for dairy farming on the back of the TPP

The price of raw milk is set differently depending on the usage: drinking milk, butter and powdered skim milk, fresh cream, or cheese. They all use the same raw milk, but their prices are different. A deficiency payment law established in 1965 (a subsidy is paid to the producers of processing milk) was supposed to be a temporary policy to allow Hokkaido to change from an area for drinking milk production to one of processing milk production. The price of processing milk which dairy makers pay to producers is low compared to the price of drinking milk, so even large scale producers in Hokkaido cannot stay in business from the sales of processing milk. Therefore the Japanese government used subsidies to guarantee the price for farmers.

Normally, the price of one product cannot be changed depending on its use. This is because businesses would automatically target the most profitable finished product. Under the deficiency payment law, deliveries of milk are checked to stop processing milk to be used as drinking milk. This means there is a possibility that one product is set at several prices depending on the use. Before the law was established, the price of raw milk was the same for all uses. Under these conditions, producers of dairy products suffered losses due to the low price of these products. To make up for these losses, producers tried to have the price of raw milk cut in order make a profit selling drinking milk. As a result, there were always disagreements between dairy producers and dairy farmers who were asked to cut the price of raw milk. Under the deficiency payment law, the price of raw milk changes depending on its use, with the government paying a subsidy to prevent dairy producers from going into the red. As a result of this, the price of raw milk for drinking milk was raised considerably and the disagreement over the milk price calmed down.

In the beginning, the Ministry of Agriculture, Forestry and Fisheries explained that this subsidy was only a temporary policy, for about 5 years. However, it has been more than 40 years. 1.36 million tons of raw milk for fresh cream is produced and is almost at the same level as the production of raw milk for processed products such as butter and powdered skim milk (1.54 million tons). Under the deficiency payment law, the areas where more than the half of raw milk production is for processed production qualify for the subsidy. However, production of raw milk for fresh cream has been increasing in Hokkaido and so an end to the subsidy in this area should be considered. This means that this deficiency payment law has already achieved its aims.

A lot of raw milk produced in Hokkaido has been sent to the Kanto and Chukyoken areas in large, high speed ships. The largest amount was 530 thousand tons in 2003 (in 2013 it was 330 thousand tons). Separately from this, drinking milk packed in Hokkaido has been sent to several areas in Japan; the largest amount, 330 thousand tons in 2013. Hokkaido is becoming the milk supplying area.

The shortage of butter means that the deficiency payment law has been achieving its original target. If the raw milk production for processed production in Hokkaido drops, the subsidy paid by government declines. Moreover high tariffs on dairy products such as butter will not be needed nor will exclusive importing systems for dairy products by ALIC.

However, the deficiency payment system will not be abolished but strengthened as a countermeasure against the TPP. Raw milk for fresh cream is going to be included as a target for protection by subsidy. From that perspective, Hokkaido becomes a subsidised area once again.

The export of milk and the ideal policy

New Zealand is the biggest country in terms of dairy product exports but cannot export to China because of distance. Japan however is close to Korea, Taiwan, and China. Raw milk can be sent from Hokkaido to the Kanto area, so Japan should be able to export to China and nearby countries by sea.

In China, both consumption and imports of milk have been increasing. Moreover the value placed on Japanese milk and dairy products is high in China; a lot of Chinese travellers purchase powdered milk for babies in Japan.

Although New Zealand cannot export to China, Japan is close to China. New Zealand is superior in the production of basic dairy products such as butter and powdered skim milk but Japanese dairy producers have a high level of food-processing skill such as in powdered milk for babies. So Japan could produce low cost raw milk using the farming techniques of New Zealand in Hokkaido and export to China. Japanese dairy makers produce a high level of dairy products and foods using butter and powdered skim milk imported from New Zealand, could be exported to China. In this way, Japan would be able to have win-win relationship with New Zealand.

Originally Hokkaido had mainly produced raw milk for processed production. Then seeking new markets for liquid dairy products such as fresh cream and skim milk has been increasing production of these items. From now on, Japan should target overseas market for drinking milk. Dairy farming in Hokkaido should target demand for drinking milk in Asia.

How should Japan do this? Regarding the difference in milk price depending on use, setting a low price for raw milk for processed dairy production and a high price for drinking milk has caused a drop in demand for drinking milk. If Japan is to target Asian markets it not only has to prioritise the quality of production but also price competitiveness.

Under the present situation, where the international competitiveness of Japanese butter and powdered skim milk has not been improving, Japan should shift to a single milk price system as Australia did after reforms in 2000. In this way, Japan should reduce the production of raw milk for processed production and target the export of drinking milk to Asian markets. Due to the seasonal imbalance between demand and supply, butter and powdered skim milk have been produced in winter when there is a surplus of milk, with a return to producing milk in summer in Japan. This system is called surplus milk management and factories which operate only in winter have been necessary. However surplus milk management would not be needed if Japan were to target Asian markets. Japan could just export the surplus milk.

If the price of drinking milk drops, the popularity of different drinks, of which green tea is currently the highest, will change and drinking milk demand will increase. In such a scenario, ALIC can be abolished, tariffs on dairy products can be gradually cut and eventually abolished. In cases where there is a shortage of butter and the price rises, imports will be triggered automatically and the price will drop.

Japan should not have promoted livestock farming which relies on imported feed and does not contribute to international food security, but instead should have promoted livestock farming using domestic crops or resources. How about drafting an agricultural policy from the view of food security, not for protecting Japanese agriculture? Food security can be achieved in cases where agricultural resources are maintained. If so, the Japanese government just needs to pay subsidies only to guarantee farmland, instead of creating agricultural policy for individual products. The Japanese government should abolish both subsidies for reduction of rice acreage and the subsidy for dairy farming, and should introduce single direct payments for each area of farmland. The government should not interfere in what is produced in each area and should trust in farmers' originality and ingenuity. Such a single direct payment by the government is the ideal way to protect agriculture. The EU has achieved this after a transition period of 20 years. Except for Japan, countries who participated in the TPP, including developing countries such as Vietnam and Malaysia, had achieved 99% to 100% of liberalization of trade (abolition of tariffs). In the GATT and the WTO, there have been a series of round table negotiations for liberalization of trade. Also, renegotiation of the TPP is planned. If the tariff on Japanese agricultural products is abolished in the next TPP negotiations, the acreage-reduction policy will be abolished and Japanese national trade enterprises for rice, wheat and dairy products will fall into disuse. Japanese people will be able to consume food and agricultural products at a low price and shortages of butter will not occur.

(This article was translated from the Japanese transcript of Dr. Yamashita's column in "Kinyu-zaisei Business" on August 18,2016.)