Pasteurizing the Canadian Dairy Industry

The CBC reported recently that residents of Newfoundland and Labrador pay double for dairy products compared with Ontarians. In Windsor, Ontario, for example, one may expect to pay $3.65 per gallon, whereas in some rural Newfoundland communities, one can expect a similar price per litre. On average, in fact, the price of dairy in Canada is almost 43 per cent higher than in the United States.

For Canadians–including even the lactose intolerant among us–this deal is raw.

Since the 1970s, Canada has run a system of “supply management,” through which provincial marketing boards, sanctioned by the federal government, set the price of dairy products, protect the Canadian industry from foreign competition, and control supply in the domestic market. Each board determines a quota governing both entry into the market and production within it, and requires farmers to purchase producer rights. Producers must sell that milk back to the marketing board, which then distributes the product to stores. Furthermore, the government enforces import quotas and imposes high tariffs on foreign products to insulate domestic production from outside competition.

In essence, this process “protects” both consumers and producers from market fluctuations that come with globalized trade and the associated risk of shocks in the agricultural industry. It also promotes local agriculture and ensures product quality.

Despite these objectives, the reality is different. Firstly, Canadian consumers pay more for dairy products than do consumers in other countries. The Conference Board of Canada estimates that Canadian families can expect to spend $276 more per family on dairy than our counterparts in the developed world. Dairy Farmers of Canada (DFC) claims that Canada, unlike our trading partners, does not devote subsidies to agriculture, implying that consumers do not give domestic producers “special treatment.” Consumers do subsidize Canadian dairy, however, through paying artificially inflated prices: setting the price of dairy products, insulating our industry from foreign competition, and controlling its supply is an indirect subsidy to the industry. Moreover, limiting the supply drives prices upward and higher prices means additional income for those with producer rights. Lastly, limiting entry into the market, while simultaneously enforcing prohibitively high tariffs on foreign products, reduces competition, which affords Canadian farmers an advantage. Indeed, the World Trade Organization (WTO) restricts Canadian dairy exports specifically because they view supply management as a subsidy.

This variety of quota and regulatory system is, essentially, geared to make market entry incredibly difficult and concentrate power in the largest firms. First and foremost, one must purchase quota rights to begin producing. In Newfoundland and Labrador, a scarcity of inputs raises the cost of production even further, while the provincial government pushes aggressively for “pro local” policies, such as an initiative to allot land for homegrown feed, which is the chief expense of Newfoundland and Labrador dairy farms. Unfortunately, these developments have consequences for the market structure: Newfoundland has the most concentrated dairy industry in Canada, with just 34 farms and 174 cows per farm. Even Prince Edward Island, with 200 smaller farms, produces more than twice the milk of Newfoundland.

It is difficult to identify how supply management benefits Canadians. The system is not necessary to ensure quality, and although it may protect producers from unanticipated price fluctuations, several industries fare well without government protection. The foregone benefits of a deregulated dairy industry far outweigh the complications of price volatility. It seems the only remaining claim is that “locally grown, locally produced” is better–a dubious and subjective claim at the very least. After all, many consumers may believe milk imported from the Maritimes, or internationally, is “better.” In any case, it ought not to be the producer that decides what each consumer prefers. Supply management is a net loss for Canadians and a particularly grave loss for residents of Newfoundland and Labrador.

Leo Plumer is an AIMS on Campus Student Fellow who is pursuing an undergraduate degree in economics and political science at McGill University. The views expressed are the opinion of the author and not necessarily that of the Atlantic Institute for Market Studies

Supply management: a gift to farmers at the consumer’s expense

Supply management, the system by which Canada controls dairy, poultry, and egg production, helps farmers weather market fluctuations and shields them from international competition. However, by creating quota assets for farmers that increase production costs (while boosting income levels), it increases consumer prices for a number of agricultural products, disproportionately harming low-income Canadians.

In Canada’s supply management system, the national Dairy Commission stipulates a price range for various dairy products, which provincial boards use to set exact prices. These boards consider production costs and the “fair level of return” for farmers in setting these prices. The poultry and egg industries operate in a similar manner.

Without trade barriers, foreign competitors could undercut these prices. American dairy products, for instance, cost roughly 30 to 50 per cent of Canadian products. Consequently, the federal government has erected trade barriers for managed products in the form of prohibitive import tariffs.

If farmers could sell their products for higher-than-cost prices without further controls, they would overproduce and create a surplus of these products. This unpalatable possibility explains a third element of the Canadian supply management regime: production quotas. Farmers can purchase and sell these quotas on centralized exchanges made available by the government. By creating scarcity in the dairy, poultry, and egg markets, the government creates economic rents payable to farmers (in the form of higher consumer prices).

Economic rents include all payments to factors of production, whether land, labour, or capital, which rise beyond the minimum payment at which someone would supply the factor.

If, for example, Ottawa abandoned supply management, anyone with the proper resources could enter the dairy industry. Competition among different dairy farmers would drive prices down to a level near cost. The economic rent created by supply management per dairy product would be the price differential between this at-cost price and the actual price charged.

Why is this price higher?

In a roundabout way, it is because the costs are also higher. Supply management creates an implicit cost for producers–the rent attributed to their quotas, which they can sell on an exchange. The price consumers pay ultimately represents the cost of producing managed products–the labour, the feed, the physical capital, and the rent of the land–in addition to the market value of the quota for that given product.

Proponents of supply management claim that farmers deserve prices above cost to compensate them for their work. They also claim that subjecting Canada’s agricultural industries to international competition might threaten food security.

Oddly, Alberta Milk claims that supply management makes subsidies unnecessary. This contention concedes that dairy farmers receive enough revenue to produce under supply management. However, this is because consumers pay above-normal prices, instead of the government providing direct subsidies.

Farmers tend to be wealthy, largely because of the assets that government creates for them in the form of production quotas. In fact, the OECD reports that dairy farmers in the group gross more than $250,000 annually. Yet, higher prices for milk, eggs, and chicken hurts low-income Canadians more than any other group, as they spend a higher proportion of their incomes on these goods. Thus, supply management is a regressive arrangement.

Low-income Canadians are also more likely to spend their money on less healthy products. It is likely that many opt for a $1 two-litre bottle of pop, instead of paying $6 for two litres of milk.

New Zealand and Australia both axes their supply management systems and saw increases in domestic production paired with lower prices. Canada should follow these examples and buyout the quota assets the federal government created for farmers. This would lower prices and reduce the price of essentials for low-income Canadians, instead of subsidizing the farming industry.

Michael Sullivan is a 2013-2014 Atlantic Institute for Market Studies’ Student Fellow. The views expressed are the opinion of the author and not necessarily the Institute