1. Return to Competitive Pay Pricing For the Class III Formula Daniel Smith, Esq. Special Counsel, MDIA Ryan Miltner, Esq. Counsel, DPNM Paul Christ Consultant, MDIA

2. History of Competitive Pay Pricing 1961: Department adopts the M-W Pricing Series 1994: Department replaces M-W with BFP declines to adopt end product pricing formula 1996 - 2000 FAIR ACT Milk Market Order Reform: Department adopts end product pricing rejects competitive pay pricing 2007: MDIA Proposes Replacement of End Product Pricing with Competitive Pay Pricing

3. How Would This Competitive Premium be Used? Average competitive pay price would become the new Class III price. No change in protein or butterfat pricing. The other solids price would represent the residual value of the competitive pay price. The new Class III price would be one of the “higher of” values used to set Class I prices. Purchases of milk in competitive areas would be deregulated.

4. Part 1 Defining the Competitive Zones

5. How to Define Competition We chose to use the Herfindahl-Hirschman index (HHI). Used by the U. S. Department of Justice in antitrust enforcement.

6. Eight US Milksheds

7. Competitive Zone Definition 1 Representation of Most Competitive 25% Regional Production of Milk, By County (FMMOs)

8. Counties in FMMO Regions With Most Competition For Milk Comprising 25% of Region’s Milk Production (Dec 2008)

9. Map/Data Set Summary Largest County-Level HHI By Milkshed, Up to 25% of Pooled Milk Milkshed Counties’ % Share of Pooled Milk Largest County HHI Central25.42.44 Mideast25.07.31 Northeast26.20.24 Northwest28.31>.50 Southeast25.03.48 Southwest25.11>.50 Upper Midwest27.64.15

10. Competitive Zone Definition 2 Establish Governing Herfindahl Index of.33

11. Summary of Competitive Zone Data Milkshed NameLargest HHIShare CentralLess than.3317.85% Mideast0.3125.0% Northeast0.2426.20% NorthwestNone SoutheastLess Than.3310.23% SouthwestLess Than.333.55% Upper Midwest0.1527.64&

12. Central Region Milkshed Counties with HHI of.33 or less, and Representing 17.85% of Pooled Milk (Dec ’08) IllinoisIowaWisconsin Whiteside Buchanan Grant Cedar Chickasaw Clayton Dubuque Jackson Johnson Sioux

13. Mideast Region Milkshed Counties with Lowest HHI Comprising 25% of Pooled Milk (Dec ‘08) IndianaOhioPennsylvania ElkhartCarrollArmstrong NobleColumbianaButler WayneHighlandFayette HolmesLawrence Maryland HuronMercer GarrettKnoxWashington MahoningWestmorelad Ohio Paulding MichiganRichland AlleganStark BarryTuscarawas IoniaWayne Kalamazoo Montcalm Ogemaw

14. Northeast Region Milkshed Counties with Lowest HHI Comprising 25% of Pooled Milk (Dec ‘08) New YorkPennsylvania HerkimerBerks LivingstonBradford MontgomeryChester WayneCumberland WyomingJuniata Lancaster Perry Somerset Susquehanna York

15. Northwest Region Milkshed Counties with HHI Less Than.33 Comprising Some Portion of Pooled Milk (Dec ‘08) None Reported

16. Southeast Milkshed Milkshed Counties with HHI of.33 or less, and Representing Some Amount Less than 10.33% of Pooled Milk (Dec ’08) KentuckyNorth CarolinaVirginia AdairAlleghanyBedford BarrenDavieFloyd GreenIredellFranklin HartRowanWashington MetcalfeTennessee Wythe TaylorMarshal

17. Southwest Milkshed Milkshed Counties with HHI of.33 or less, and Representing Some Amount Less than 3.55% of Pooled Milk (Dec ’08) Texas Bailey

18. Upper Midwest Milkshed Counties with Lowest HHI Comprising 27.64% of Pooled Milk (Dec ‘08) Wisconsin BrownLafayette CalumetMarathon ClarkShawano DodgeSheboygan DoorVernon Fond Du LacWaupaca

19. Part 2 Impact Analysis

20. FMMO Pooled Milk Production (Bil. Lbs) and Percentage By Region

21. Does Competition Make a Difference? We compared blend prices for the largest competitive county in each region to mailbox prices for 36 months. We found consistent premiums. We asked the Market Administrators to compare the Federal Order statistical uniform price (at test) to gross payments to producers in the competitive counties. Any differences were weighted by milk volume and averaged to represent the region.

22. Competitive Counties Weighted Difference by Milkshed December 2008 Milkshed Name Difference Central $1.22 Mideast $1.02 Northeast $1.10 Northwest no data Southeast $1.09 Southwest ($0.72) Upper Midwest $1.14

23. National Impact We have competitive data for six of the seven Federal Order regions. These represented 93.71 percent of Federal Order milk in 2010. Using the premiums (and discounts) paid in the qualifying competitive counties in these regions, and weighting them by regional milk volume, the December 2008 premium was $.89.

24. The Class III price would go up. This would not affect cheese makers in competitive areas, because they will no longer be subject to Federal Order minimum prices, and most are already paying premium prices. Cheese makers who are outside the competitive areas will be subject to higher minimum Class III prices. The Class I price would go up whenever the Class III price drives the Class I price. Impact of the New Price on Buyers

25. The Federal Order blend price would go up as both the Class I and Class III prices went up. Producers in competitive areas (the Upper Midwest) would get about the same prices, since they already get the premiums. Producers outside the competitive areas would likely get more than they now do. The Producer Price Differential (PPD) would go down. Impact of the New Price on Producers

26. Estimated Impact of a Competitive Basic Formula Price on the Upper Midwest (F. O. # 30) Pool Estimated Cont. to 2008 PercentCont. to National Revised December Old Price Util.Blend PremiumNew Price Blend Class I$17.230.17$2.93$0.89$18.12$3.08 Class II$11.210.044$0.49$11.21$0.49 Class III$15.280.752$11.49$0.89$16.17$12.16 Class IV$10.350.034$0.35$10.35$0.35 Other Adjustments($0.22) Statistical Uniform Price @ 3.5$15.04$15.86 Change$0.82 Adjustments for Test$0.96 Statistical Uniform Price @ Test$16.00$16.82 Change$0.82 Producer Price Differential($0.24)($0.31) Change($0.07)

27. Estimated Impact of a Competitive Basic Formula Price on the Upper Midwest (F. O. # 30) Pool Assumed National Competitive Price Premium of $0.89 Estimated Cont. to 2012 PercentCont. to National Revised January Old Price Util.Blend PremiumNew Price Blend Class I$20.600.116$2.39$0.89$21.49$2.49 Class II$17.670.03$0.53$17.67$0.53 Class III$17.050.82$13.98$0.89$17.94$14.71 Class IV$16.560.034$0.56$16.56$0.56 Other Adjustments($0.02) Statistical Uniform Price @ 3.5$17.44$18.27 Change$0.83 Adjustments for Test$0.61 Statistical Uniform Price @ Test$18.05$18.88 Change$0.83 Producer Price Differential$0.39$0.33 Change($0.06)

28. Estimated Impact of a Competitive Basic Formula Price on the Northeast (F.O. # 1) pool Estimated Cont. to 2008 PercentCont. to National Revised December Old Price Util.Blend PremiumNew Price Blend Class I$18.680.441$8.24$0.89$19.57$8.63 Class II$11.210.175$1.96$11.21$1.96 Class III$15.280.233$3.56$0.89$16.17$3.77 Class IV$10.350.151$1.56$10.35$1.56 Other Adjustments($0.26) Statistical Uniform Price @ 3.5$15.06$15.66 Change$0.60 Adjustments for Test$0.96 Statistical Uniform Price @ Test$16.02$16.62 Change$0.60 Producer Price Differential($0.22)($0.51) Change($0.29)

29. Estimated Impact of a Competitive Basic Formula Price on the Northeast (F.O. # 1) pool Assumed National Competitive Price Premium of $0.89 Estimated Cont. to 2012 PercentCont. to National Revised January Old Price Util.Blend PremiumNew Price Blend Class I$22.050.412$9.08$0.89$22.94$9.45 Class II$17.670.231$4.08$17.67$4.08 Class III$17.050.233$3.97$0.89$17.94$4.18 Class IV$16.560.124$2.05$16.56$2.05 Other Adjustments$0.18 Statistical Uniform Price @ 3.5$19.37$19.94 Change$0.57 Adjustments for Test$0.89 Statistical Uniform Price @ Test$20.26$20.83 Change$0.57 Producer Price Differential$2.32$2.00 Change($0.32)

30. Estimated Impact of a Competitive Basic Formula Price on the Southwest (F.O. 126) Pool Estimated Cont. to 2008 PercentCont. to National Revised December Old Price Util.Blend PremiumNew Price Blend Class I$18.430.608$11.21$0.89$19.32$11.75 Class II$11.210.141$1.58$11.21$1.58 Class III$15.280.02$0.31$0.89$16.17$0.32 Class IV$10.350.231$2.39$10.35$2.39 Other Adjustments($0.73) Statistical Uniform Price @ 3.5$14.75$15.31 Change$0.56 Adjustments for Test$1.36 Statistical Uniform Price @ Test$16.11$16.67 Change$0.56 Producer Price Differential($0.53)($0.86) Change($0.33)

31. What About the Pacific Northwest? Two Options: 1. Ignore the competitive data for this region because it does not meet the standards of the other regions. 2. Use a special standard for this region. For example, select the largest milk production county among the most competitive 25% of the milk supply (Yakima County, Washington).

32. Conclusions It is possible to measure competition in the raw Grade A milk market. Significant competition does exist in some areas of each Federal Order region (except the Pacific Northwest). Actual competitive pay prices can be used to set Federal milk order prices.

33. Measures of Competition 1.Number of handlers from all orders buying milk in a county. 2.Herfindahl Index: Market share of each competitor is squared. Market Share MS Squared Firm 1.40.16 Firm 2.30.09 Firm 3.20.04 Firm 4.10.01 Herfindahl Index:.30