Farm Bill Margin Insurance: Is It Worth It? Dr. Marin Bozic Elite Dairy Producers Conference Las Vegas, November 12, 2013

Markets Red in Tooth and Claw

Private Risk Markets Up To Task?

Many Faces of Risk Management

Source: Dr. Mark Stephenson, University of Wisconsin-Madison

Prices Are Not Predictable, Risk Is

Two Roads Diverged in a Yellow Wood…

Farm Bill Dairy Margin All-Milk (/cwt) x Corn (/bu) x Soybean meal (/ton) x Alfalfa hay (/ton) Feed ration per cwt of milk: 30 pounds of shell corn, pounds of corn silage, 14.7 pounds of soybean meal 27.4 lbs of alfalfa hay

Farm Bill Dairy Margin

Farm bill Dairy Margin Coverage Level SenateHouse <4mil4mil+<4mil4mil lbs

Consecutive Two-Month Periods 2012 Two-month Average January7.57 February March4.94 April May3.41 June July2.74 August September5.51 October Calendar year is divided into six consecutive two- month periods Average margin must be below the purchased coverage level in order for indemnities to be due. When Will Margin Insurance Pay Out?

Senate: Free $4.00: 80% of Milk Production Before Farm Bill (the highest of the last 3 years) $4.50-$8.00: Up to 90% of last year’s production House: Up to 80% of the highest annual production over the last 3 years. No Absolute Limits On Insurable Milk

How Subsidized is Margin Insurance? Crop Revenue Protection CoverageSubsidy 50%67% 55%64% 60%64% 65%59% 70%59% 80%48% 85%38% N/A Dairy Producer Margin Insurance Program (HR 2642) Coverage First 4 Mil lbs Above $4.00 $0.000 $0.030 $4.50 $0.010 $0.045 $5.00 $0.020 $0.066 $5.50 $0.035 $0.110 $6.00 $0.045 $0.185 $6.50 $0.090 $0.290 $7.00 $0.180 $0.380 $7.50 $0.600 $0.830 $8.00 $0.950 $1.060

Senate: Free $4.00: 80% of Milk Production Before Farm Bill (the highest of the last 3 years) $4.50-$8.00: Up to 90% of last year’s production House: Up to 80% of the highest annual production over the last 3 years. Dairy Producer Margin Insurance Program (HR 2642) Crop Revenue Protection Coverag e Coverage as % of Avg. Margin Coverage $ % 50% $ % $ % 60% $ % 65% $ % 70% $ % 80% $ % $ % N/A $ % N/A How Subsidized is Margin Insurance?

Senate: Free $4.00: 80% of Milk Production Before Farm Bill (the highest of the last 3 years) $4.50-$8.00: Up to 90% of last year’s production House: Up to 80% of the highest annual production over the last 3 years. How Subsidized is Margin Insurance? Dairy Margin Insurance (House) Crop Revenue Protection Coverage Premiums (Over 4 mil lbs) Expected Payout Expected Subsidy Coverag e Subsidy $4.00 $0.030 $0.0540% 50%67% $4.50 $0.045 $0.0845% 55%64% $5.00 $0.066 $0.1348% 60%64% $5.50 $0.110 $0.1942% 65%59% $6.00 $0.185 $0.2733% 70%59% $6.50 $0.290 $0.3925% 80%48% $7.00 $0.380 $0.5328% 85%38% $7.50 $0.830 $ % N/A $8.00 $1.060 $ %N/A Based on Newton, J.C. (2013)

A Game: What Would You Choose? Based on Newton, J.C. (2013) Year Pounds shipped mil mil 40 mil 1 43 mil 2 44 mil 3 45 mil 4 50 mil 5 55 mil

Year 1: Information Set Based on Newton, J.C. (2013)

Year 1: Information Set Based on Newton, J.C. (2013)

Year 1: Expected Return at Enrollment Date Coverage Level Fees & Premiums Expected Indemnity Expected Net Revenue $4.00 $0.03 $0.01-$0.01 $4.50 $0.04 $0.02-$0.02 $5.00 $0.06 $0.04-$0.02 $5.50 $0.10 $0.06-$0.04 $6.00 $0.17 $0.10-$0.07 $6.50 $0.27 $0.15-$0.11 $7.00 $0.36 $0.23-$0.12 $7.50 $0.80 $0.34-$0.47 $8.00 $1.05 $0.47-$0.58 Based on Newton, J.C. (2013)

Year 2: Information Set Based on Newton, J.C. (2013)

Year 2: Information Set Based on Newton, J.C. (2013)

Year 2: Expected Return at Enrollment Date Coverage Level Fees & Premiums Expected Indemnity Expected Net Revenue $4.00 $0.03 $0.21$0.18 $4.50 $0.04 $0.35$0.31 $5.00 $0.06 $0.54$0.48 $5.50 $0.10 $0.78$0.67 $6.00 $0.17 $1.04$0.87 $6.50 $0.27 $1.33$1.07 $7.00 $0.36 $1.65$1.29 $7.50 $0.80 $1.98$1.18 $8.00 $1.05 $2.33$1.28 Based on Newton, J.C. (2013)

How Subsidized is Margin Insurance? Dairy Margin Insurance (House) Coverage Premiums (Over 4 mil lbs) Expected Payout Expected Subsidy 2009 Expected Payout 2009 Expected Subsidy $4.00 $0.030 $0.0540%$0.2186% $4.50 $0.045 $0.0845%$0.3587% $5.00 $0.066 $0.1348%$0.5488% $5.50 $0.110 $0.1942%$0.7886% $6.00 $0.185 $0.2733%$1.0482% $6.50 $0.290 $0.3925%$1.3378% $7.00 $0.380 $0.5328%$1.6577% $7.50 $0.830 $ %$1.9858% $8.00 $1.060 $ %$2.3354% Based on Newton, J.C. (2013)

In The Long Run, No One Has a Clue

Corn Growing Phases Apr May Jun Jul Aug Sep Oct Nov Planting Starts Germination, Vegetation Silking Starts Blistering, Milking, Dough Grain Fill Harvest Starts Killing Frost Ends Growth

Dairy Market Stabilization Program

Not Likely to Curb Long-Run Growth Based on Newton, J.C. (2013)

DMSP Could Reduce Policy Cost Based on Newton, J.C. (2013)

DMSP Could Reduce Policy Cost Based on Newton, J.C. (2013)

DMSP Could Accelerate Margin Recovery Average Annual Simulated Margin DSA – if DSMP is Highly Effective Goodlatte- Scott How much more likely is scenario under G-S? Less than $ %8.86%6.1 $5.00-$ %19.96%1.9 $6.00-$ %29.68%0.8 $7.00-$ %23.98%0.8 Over $ %17.52%0.9 Based on margins forecasted with January 15, 2013 data. Elasticity of Demand: Milk Volume Participation: 75% Based on Newton, J.C. (2013)

What are the DMSP Penalties? –If margins were $5.00-$6.00: 98 percent of stabilization base 94 percent of the marketings of milk –If margins were $4.00-$ percent of stabilization base 93 percent of the marketings of milk –If margins were less than $ percent of stabilization base 92 percent of the marketings of milk

A Simple Numerical Example 2013 Expected production: 91,618 cwt Happy IOFC margin: $8.00/cwt Happy IOFC revenue: $732,944 Basic Production History: 89,821 cwt Annual Production History: 89,821 cwt Bad memories: 2009 IOFC margin: $ IOFC margin: $5.31 Based on Newton, J.C. (2013)

What would $6.50 coverage level mean under different margin scenarios if we get DSA Average Annual Simulated Margin ProbabilityDMSP Price Boost Shortfall for NON- PARTICIPATING farm* Less than $ %88, ,509 $5.00-$ %71, ,702 $6.00-$ %41, ,956 $7.00-$ %17,377-50,761 Over $ %5,45869,932 Based on Newton, J.C. (2013)

What would $6.50 coverage level mean under different margin scenarios if we get DSA Average Annual Simulated Margin Shortfall for NON- PARTICIP ATING farm Premium for $6.50 coverage Average Realized Indemnity DMSP Penalty Shortfall for PARTICIP ATING farm Less than $ ,509-13,803153,669-23, ,524 $5.00-$ ,702-13,80381,760-14, ,092 $6.00-$ ,956-13,80339,107-7, ,460 $7.00-$ ,761-13,80317,565-4,267-51,266 Over $ ,932-13,8037,141-2,19561,074 Based on Newton, J.C. (2013)

What would $6.50 coverage level mean under different margin scenarios if we get G-S Average Annual Simulated Margin Probabilit y Shortfall for NON- PARTICIPATI NG Premiu m for $6.50 Indemnit y Shortfall for PARTICIP ATING farm Less than $ %-329,350-14,439151, ,544 $5.00-$ %-222,392-14,43975, ,650 $6.00-$ %-136,595-14,43933, ,889 $7.00-$ %-49,389-14,43913,083-50,744 Over $ %71,576-14,4395,34262,480 Based on Newton, J.C. (2013)

Subsidies and Mailbox vs All-Milk price Map created by Newton, Thraen and Bozic

Policy Risk: Looking Inside Out vs. Looking Outside In

Final Thoughts Once the Farm Bill is passed and USDA issues the rules on annual enrollment processes, a new tool will be posted on dairy.wisc.edu where you will be able to enter your own production and price data and estimate if the new farm bill dairy programs would work for you. Please fill the survey now to help us estimate the participation rate. The results will be presented this afternoon just before the relocation panel.

Sources and References The analytical results presented here are based on a research project led by Dr. Cameron S. Thraen and John C. Newton, the Ohio State University. Primary reference: Newton, John C. Policy Options for a Modern Dairy Economy, Ph.D. Dissertation, Copyright The Ohio State University 2013.

Farm Bill Margin Insurance – Is it Worth it? Elite Dairy Producers Conference November 12, 2013 Dr. Marin Bozic Department of Applied Economics University of Minnesota-Twin Cities 317c Ruttan Hall 1994 Buford Avenue St Paul, MN