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So, what's the fuss about Canada's supply management program?

Friday, March 2, 2018   (0 Comments)
Posted by: Lauren Brey
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By Andrew M. Novakovic, The E.V. Baker Professor of Agricultural Economics, Cornell University

Before there was a NAFTA trade agreement between the three countries of North America, there was the CUSTA agreement, a bilateral deal reached between the U.S. and Canada in 1989.


The agreement came at a time when the U.S. dairy industry was still trying to dig out from a self-inflicted massive surplus problem that had been created by an overly aggressive price support policy in the late 1970s and early 1980s. The U.S. still had its price support program and very tight import quotas that were necessary to run those price support operations. Canada was well entrenched in its supply management program for dairy farms, having inaugurated the National Milk Marketing Plan in 1970.


When the U.S. and Canadian negotiators were at the table, neither side wanted to put dairy trade on the table. Indeed, it was a kind of gentlemen's agreement to "not bother you if you don't bother me".  This is exactly what happened. Trade in either direction was allowed to stay highly restricted. Fast forward 20 years and our side of the border has changed dramatically, and theirs basically not at all. The single most important reason why Canadian dairy farmers don't want to open the door, and why we would be so successful if they did, is the Canadian supply management system for milk.


Canada has a dairy industry that, as you might expect, looks a lot like that in states such as Wisconsin or New York.  Its natural assets and potential are more similar than different from the U.S., but Canada's industry has evolved quite differently because of the policy path it chose almost 50 years ago.


I can't imagine a more vivid picture of this than the chart showing U.S. and Canadian milk production (expressed as an index, Figure 1).  Prior to instituting supply management, Canada's growth in milk production was very similar to the U.S., basically following population increases. In 1971, Canadian production equaled 17.3 billion pounds. In 2014, it was 17.8 billion pounds. Over that same period, U.S. milk production rose from 120 billion pounds to 206 billion. Since 2014, Canada has allowed its milk production to increase more quickly, but that is part of the NAFTA story today. The longer history is that when they say they are supply managed, they really mean it.


Figure 1.


There are pluses and minuses to supply management as a system. Two distinctive features are price volatility and cost of production.  In comparing the average prices of farm milk in the U.S. and Canada, two things are obvious. One, the U.S. prices bounce around a lot more. A lot. The other is the Canadian price is a lot higher. A lot.


The volatility part speaks for itself. Under the U.S. system, milk prices are always moving up and down trying to find the right balance between a very dynamic supply-and-demand situation that is globally and domestically influenced. The reverse is true in Canada.


Higher prices, however, take a bit more explaining. Comparisons of financial performance between U.S. and Canadian farms tell us three things. First, direct costs of milk production in the U.S. and Canada are, on average, over time, very similar. Second, returns to family labor, management and capital are hilariously higher in Canada. But, third, most of those returns end up as the costs of pieces of paper farmers have to buy that give farmers the right to sell milk. On many Canadian dairy farms, quota value represents half or more of the farm's assets.


This has created a production model where 1) the dairy balance sheet holds a great deal of paper wealth for these farmers, 2) there are investments in capital, like parlors, on smaller farms that we see in the US, and 3) pounds of milk per worker is much lower than the US.  These can be seen as benefits of the Canadian system, but it also is undeniably a system that cannot be sustained in an economy open to worldwide competition. It is not hard to understand why those farmers are terrified by the prospect of losing those assets because their supply management system was undermined.


If the NAFTA debate were only about a couple of million pounds of milk exported from the US per day, we could probably find a deal. The Canadian dairy industry has come to see it as a full-scale frontal assault on their system. It has become a debate about sovereignty, not economics. For the U.S. dairy industry, Canadian trade is a fairly small economic issue, but for Canadian dairy farmers it feels like life or death. This doesn't make them right and us wrong, but it does help to understand why the NAFTA discussion is so hard.

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