For a moment, economic growth in the New Zealand economy soared over Australia, helped by the biggest dairy boom in history, as well as a building surge based on the rebuilding of an earthquake-shattered Christchurch, and a high level of activity in Auckland.
Growth surpassed Australia’s, jumping past 3.1% in the 4th quarter of 2013 and is on track for 4% later in the year.
Exports have boomed, especially of dairy products to China. In some respects it was a mirror of what was happening in Australia but with iron ore.
In both cases, China has been the great magnet.
Now that’s coming to an end in Australia with iron ore prices under the $US100 a tonne and down more than 25% this year.
And this week the Kiwi dairy boom was punctured when Fonterra, the country’s dominant dairy group, revealed a sharp fall in its key milk solids price.
Driven by a 20% plus fall in world dairy prices in the past three months, Fonterra chopped its price from more than $NZ8 a kilo to $NZ7 for the next season.
The cut will hit economic growth later in the year and cut exports by more than $NZ2 billion and growth by up to 1% later in the year, according to pessimistic forecasts in NZ.
But it could be a blessing in disguise for the rapidly growing economy.
It could help cool it by enough to allow the Reserve Bank of NZ to put a hold on rate rises (two so far this year) and in turn, help lower the still too high value of the Kiwi dollar.
The cut in the new season price won’t stop NZ dairy farmers from receiving a record payment this year of more than $NZ13 billion, which will certainly help maintain growth, on top of the still solid housing boom.
But NZ dairy farmers are in for a $NZ2.24 billion pay cut next year, with Fonterra signalling the 17% price drop.
Fonterra this week forecasted a farm-gate milk price of $NZ7 a kilogram of milk solids next season, and cut this season’s forecast from a record $NZ8.65 to $NZ8.40.
The latest dividend from Foneterra to shareholder dairy farmers is 10 NZc a share, meaning the full payout for a shared-up farmer is $NZ8.50/kg.
This will mean a $US13.4 billion payout to farmers this year, dropping to $NZ11.2 billion for next year, based on last season’s production of 1.6 billion kilograms of milk solids.
The pain of the fall will be eased by a slight rise in the higher forecast milk supply of 1.62 billion kilograms of milk solids for the new season.
The $NZ7 estimate is still high, but it could again rise if there’s a disruption to global dairy markets through drought or production problems in a key producing country.
With an El Nino weather event forecast as increasingly possible for Eastern Australia in late 2014 and early 2015, that could help halt the recent fall in global dairy prices of around 23% since February.
The strong New Zealand dollar has also been a factor, remaining high against the US dollar, despite the drop in dairy prices.
FSF 1Y – Fonterra sets $7.00 milk price for new season
That’s much the same as in Australia where the dollar has remained at high levels, despite the 25% fall in global iron ore prices since the start of the year.
Fonterra chief executive Theo Spierings said this week the cut in the forecast price reflected the fall in global dairy prices since the they hit all time highs in early February.
Global supply and demand have rebalanced, especially with the US producing more dairy products.
"There is currently more milk available for the international market to absorb.
"We expect demand from China to remain strong. In Russia, there will be pressure on the balance between imports and local production," he said in a statement.
Fonterra’s 10,500 farmer-shareholders will earn an annual profit of $3500 per hectare (including dividend), which is close to three times the average since the 2007-08 season.
Economists in New Zealand expect the weakening global dairy price to start having an impact on the country’s exports from June onwards.
New Zealand reported a lower than expected trade surplus of $NZ534 million in April, thanks to lower volumes of dairy and meat exports.
According to a report earlier this month from Statistics NZ, exports of dairy product dropped in April, and was the major reason why exports for the month fell 6.5% to $NZ4.5 billion.
The drop in exports was driven by a 5% fall in volumes (for the second successive month) rather than prices which were actually up 3%, but the impact of the price falls are about to start cutting export values from next month, according to NZ economists.
A weaker Kiwi dollar will help offset that decline, but with the country’s Reserve Bank now on a rate rise trend, the currency is unlikely to fall enough to offset the expected drop.
Earlier this month, Reserve Bank NZ governor Graeme Wheeler said high global dairy prices had been expected to attract a strong lift in the supply from US, Europe and New Zealand which would push down international dairy prices for the next two to three years.
A growing concern in NZ is the high level of debt in the dairying sector. According to Mr Wheeler the level of dairy debt has almost trebled over the past decade, and currently stands at $NZ32 billion.
“It is concentrated among a small proportion of highly leveraged farms with around half of the dairy debt being held by only 10 percent of dairy farmers," he said in a speech at the start of the month.
Despite the prosperous outlook for the dairy sector, Mr Wheeler warned that even the most dynamic enterprises can lose competiveness and suffer losses in market share, so there are important challenges to manage.
“On the external front these include the oscillations in global dairy prices, increasing competition from other international suppliers, the risk of slower growth in China, and the need to continue diversifying our export markets, including positioning for the enormous longer term opportunities in the Indian market.
"On the domestic front, dairy farmers are conscious that high dairy prices can turn around quickly and will need to continue managing their cash flows and borrowings in a prudent manner," he warned.
