Statement of

John E. Frydenlund, Director

Center for International Food and Agriculture Policy

Citizens Against Government Waste

Washington, D.C.

Committee on Agriculture, Nutrition and Forestry

United States Senate

February 9, 2000

Mr. Chairman and members of the committee, on behalf of Citizens Against Government Waste (CAGW), thank you for the opportunity to testify on the subject of whether there is a need for a federal dairy policy.

CAGW is a 600,000-member, nonprofit, nonpartisan organization, which grew out of President Reagan's Private Sector Survey on Cost Control, better known as the Grace Commission. The organization's mission is to work for the elimination of waste, mismanagement, and inefficiency in the federal government, with the goal of creating a government that manages its programs with the same eye to innovation, productivity, and economy that is dictated by the private sector.

The Center for International Food and Agriculture Policy institutionalized CAGW's long-standing goal of dismantling Depression-era agricultural price supports and regulations. In addition to a belief that Congress should build on the accomplishments of the 1996 Freedom to Farm Bill and achieve a truly free market for agriculture, the Center advances the philosophy that the best way to wean America's farmers off the federal dole and assure them a prosperous and secure future is to promote a more open global food economy by dismantling barriers to free trade.

CAGW applauds Chairman Lugar for holding this hearing, particularly for asking the right question: "Is there a need for a federal dairy policy?" It is appropriate to begin a discussion of dairy policy with such an examination, rather than the traditional assumption that there should be a dairy program, which then simply moves to a debate of what that program should be and how much money should be allocated on its behalf.

It is now well past sixty years since the federal government first determined that it needed to be involved in milk-pricing in order to "ensure a wholesome, stable supply of milk for the entire country." The result was the creation of a dairy price support program and the federal milk market order system. There may arguably have been some justification for federal subsidies and management of dairy production way back then before vast technological progress, modern production techniques to maximize output, efficiency and quality, and advancements in the nation's infrastructure made these policies obsolete.

Despite technological and scientific advancements, improved transportation, refrigeration and delivery systems, shifts in consumer demands and preferences, and an inevitable march toward a global marketplace, some in the dairy industry would like to remain frozen in time. In fact, during seven decades of modernization and change outside of Washington, the federal government's stranglehold on milk's pricing structure has remained constant.

As we enter this new millenium, it is still the policy of the federal government to artificially prop up dairy prices for certain dairy producers at the expense of taxpayers, consumers, dairy processors, and even a significant number of other, less politically-connected dairy farmers. Unfortunately, the industry has chosen time and again to cling to a system which stifles any future ability to compete.

Just as is the case in every other industry, technological innovations have allowed some dairy farmers to become more cost efficient. It should come as no surprise, then, that this country has experienced significant reductions in both the number of dairy farms and milk cows. The time has come for leaders to acknowledge that these trends represent progress rather than a cause for hand-wringing.

Alarmists often point to the fact that the number of dairy cows has dwindled from 24 million in 1940 to less than 9 million today. Likewise, total farms with dairy cows underwent a dramatic downward shift from 4.7 million in 1940 to less than 150,000 earlier this decade. Before one cites this data to write the industry's epitaph, however, additional statistics and analyses must also be taken into consideration. For instance, between 1940 and 1996, the amount of fluid milk produced per cow increased from 4,622 pounds to 16,498 pounds. As a result, the total amount of milk produced in the United States has increased from 109 million pounds in 1940 to a projected 162 million pounds this year, despite a sixty percent reduction in the number of dairy cows. Such evolutionary changes should be celebrated rather than interpreted as indicators of a dying industry.

Until relatively recently, the costs of federal meddling have been most blatantly demonstrated by the excesses of the dairy price support program, which laid out huge sums of federal taxpayer money to subsidize dairy farmers. In addition to this cost, each and every product which contains milk costs consumers more.

Not only do consumers pay for the program in the checkout line, they also bear the costs in other, more insidious ways. For example, the U.S. Department of Agriculture (USDA) uses tax dollars, at a cost inflated by the government involvement, to purchase subsidized milk and dairy products for the Women, Infants and Children(WIC) and school lunch programs, as well as for other government purchases, such as the military.

The federal dairy program is a tangled web of mind-numbing pricing schemes that have metastasized into a more layered, incomprehensible, intrusive labyrinth increasingly divorced from economic realities. Rather than allowing the marketplace to determine the price of milk, dairy prices are controlled by behind-the-scenes maneuvering in Washington, bureaucratic log-rolling, and regional political favoritism.

The federal government's two-fold entanglement in milk-pricing through the dairy price support system and milk marketing orders distorts the marketplace and protects a shrinking population of dairy farmers. In fact, the sheer complexity of the system, along with well-organized pressure from powerful, entrenched political forces, are the reasons reform has been successfully sabotaged over the years, regardless of which party controls Congress or the executive branch.

As with many other government programs gone haywire, intervention in the dairy industry was designed to be temporary. The preamble of the Agricultural Act of 1933, the first legislative foray into the industry, stated that the act was only meant "To relieve the existing national economic emergency by increasing agricultural purchasing power . . ." At the time, Congress reasoned that the dairy industry merited protection because of depression-induced instability in domestic markets and low milk prices. That emergency has been over for years, yet the legislation lives on.

Until recently, the dairy price support program had been the cornerstone of the federal government's involvement in the dairy industry. In the late 1970's and early 1980's, price supports were driven to unprecedented heights as a result of regional politics and election-year pay-offs to the farm lobby. Dairy producers, naturally, cranked up production to cash in on the windfall. In a vicious cycle, government purchases of the surpluses skyrocketed to absorb the additional production, with the government ultimately buying $17 billion worth of dairy products during the decade, almost $3 billion in 1982-1983 alone.

Inevitably, the mountains of surplus dairy products stretched federal storage space beyond capacity. To remedy this problem, the federal government decided to dump the cheese, giving much of it away for free. Of course, this move depressed cheese prices. In order to mitigate the disruptive impact its policies were having, the government took a number of actions aimed at bringing surplus production under control. It tried almost everything, except allowing the industry to operate under the principles of the free market.

First, the federal government tried a voluntary diversion program which paid farmers to reduce production. When that program failed, it turned to a "whole herd buyout" program under which farmers were paid to slaughter or export their herds and leave the dairy business for a period of five years, a program that delivered a devastating blow to the cattle industry.

These experiences led to less Congressional enthusiasm for raising dairy price support programs, so to some extent, the dairy price support program has been less relevant in recent years. As this has developed, the milk marketing orders have become the most important bulwark of federal involvement in milk pricing and the vehicle through which proponents of the status quo intend to keep a dominant federal hand in the dairy industry.

Rather than allowing commerce between dairy farmers and dairy manufacturers to flow freely, the milk marketing orders provide a raft of intricate regulations to govern the overall price to be paid for milk in different regions of the country. The orders undermine the most basic free market concept of negotiating contractual agreements between buyers and sellers.

Within the milk marketing orders' logic-free zone, the most illogical of all provisions is the "differential" pricing. These additional premiums are charged to the manufacturers of fluid milk based, in part, on how far the manufacturing plants are from Eau Claire, Wisconsin. At the time this scheme was devised, the rationale used to justify it was an alleged concern that conditions such as poor refrigeration and the nation's sluggish and unreliable transportation system would prevent localities far from milk-producing regions from receiving a fresh and wholesome product.

Today's milk production, preservation and transportation capacities obviate the need for differentials. The only reason that they continue to exist is because the less productive, less efficient dairy farmers, particularly from the higher-cost regions of the country, have become dependent upon the largess of the federal government, rather than their ability to compete, for much of their income.

Of course, this means that consumers in the higher differential regions pay higher prices for milk and dairy products. Perversely, the differential system also penalizes dairy farmers in the regions best-suited to dairy farming and rewards dairy farmers operating in high-cost inefficient areas far from Eau Claire. This makes about as much sense as the federal government requiring computers manufactured in Maine to be sold at higher prices than those manufactured in the Silicon Valley.

It is equally ludicrous that the federal government establishes a minimum price for milk or sets different prices for milk based upon what it is used for. The government does not establish minimum prices for cars, computers, steaks, apples, soft drinks, clothing. Elimination of this outdated system would result in milk marketing being more responsive to consumer demands and preferences. Freed from these senseless constraints, processors and manufacturers would pay greater attention to the marketplace and adjust their product ratios accordingly.

Elimination of minimum prices, milk classing and differentials would ultimately result in milk being produced where it can be done most efficiently and competitively and be manufactured into the products that are most in demand. Continued government involvement stands in the way of the industry's ability to adapt to changes in the economy, the environment, regional costs of production, or any other factors that might make one region of the country more or less competitive than another in milk production.

Furthermore, the federal milk marketing orders increase the price of milk to consumers by at least $1 billion annually. This estimate is based on the assumption that the federally-mandated minimum price reflects a market price, which is not the case. Nor does this estimate attempt to quantify savings that would result from the elimination of the other market-distorting features of the milk orders, such as the government's role in classifying and pricing milk based on its end usage. Therefore, the real cost to consumers of federal milk-pricing is likely closer to $2 billion annually. These costs amount to nothing more than a milk tax on consumers and a very unfairly applied tax at that. Those who can least afford the added costs low-income families with young children are hit the hardest.

I believe everyone in this room is aware of the extensive and time-consuming effort, initiated in the 1996 farm bill, to provide modest reform of this system, which was totally scuttled by Congress last year. The road to reform will be difficult indeed when Congress will not even agree to allow forward-contracting of fluid milk. The extension of the Northeast Interstate Dairy Compact is also a serious setback for reform of this industry, although we can find some solace in the fact that Congress did not authorize the expansion of dairy compacts, at least for now.

Dairy compacts are nothing more than a legalization of cartels for the dairy industry. "Milk cartels," whether federally or state-sponsored, have no place in a free market. They would seem more appropriate to the old-style Soviet system, rather than a market-based system such as we have in the United States, except, of course, in the case of certain agricultural commodities.

Although CAGW has focused most of its attention on the adverse economic, consumer and taxpayer impacts of the compacts, the organization also believes that dairy compacts are an unconstitutional violation of the commerce clause. I cannot believe that anyone could read The Federalist Papers without concluding that the Founding Fathers intended that there be no restrictions on commerce within the United States. However, that is exactly what dairy compacts do.

In fact, in Federalist No. 42, Madison warned that if authorities were allowed to regulate trade between states, some sort of import levy "would be introduced by future contrivances." I would argue that the dairy compacts are exactly the sort of contrivance feared by Madison. Dairy compacts are clearly a restriction of commerce, and, in effect, they impose what amounts to a tariff between states. The Founding Fathers never intended the states to impose levies on imports such as those imposed by one nation on another's goods.

Throughout the history of this country, Congress has authorized the creation of interstate compacts. But, except for these dairy compacts, they have all been for the purpose of promoting commerce between states, rather than restricting commerce. I cannot find any precedent for a compact with the express purpose of preventing the sale of products from one state to another.

Interstate dairy compacts represent a threat to the long-term viability of the dairy industry. The dairy industry must become more competitive in order to benefit from modernization and technological progress and to capitalize on export markets. It must also become more responsive to customer demand. But, compacts are a slap in the face to the milk-drinking public.

There is no justification for another government-sanctioned layer of regulatory bureaucracy to regionally fix prices. Dairy compacts pit region against region, fracturing the country, and will prevent the industry from making the changes necessary to take advantage of an expanding global marketplace.

Compact advocates claim that these artificially high milk prices are necessary in certain regions in order to keep small dairy farmers in business and assure a stable milk supply. However, USDA's three years of research blows that argument out of the water and should finally put such nonsense to rest. One of the most important findings to come out of USDA's milk marketing order rule-making is a recognition that many of the existing Class I differentials are too high and that they can be reduced without jeopardizing an abundant supply of milk in all regions. Therefore, it is incongruous to turn around and raise Class I prices through more compacts.

Spreading dairy compacts from coast to coast will eventually put the dairy industry into the same chaos that developed in the late 1970's and early 1980's, when artificially high milk price supports led to excess milk production, declining sales of milk and government purchases of surplus production, costing taxpayers billions of dollars. Any artificial milk price increase beyond what the market demands will simultaneously drive down milk consumption and increase milk production and repeat the mistakes of that decade.

If compacts are allowed to swallow up a vast percentage of the country, the results will be devastating. The cost to consumers would dwarf the $55 million that has been imposed on New England's consumers. While the New England region produces about 3 percent of the nation's milk supply and accounts for only 5 percent of U.S. milk consumption, adding additional states to the Northeast Compact and creating a Southern Compact would bring nearly 40 percent of the nation's milk supply and almost 60 percent of the nation's consumers under the power of a milk-pricing cartel.

Dairy compacts impose an unfair "milk tax" on consumers. If compacts are allowed to spread, the consumer tax could amount to as much as $2 billion annually. It would also directly impact government spending by increasing the cost of the food stamp program, the school meals program and other child and elderly nutrition programs.

Rather than creating milk cartels that will add yet another layer of regulation, Congress should be considering how best, after over sixty years of government price manipulation, to get the government out of the milk business. It is time for Congress to recognize that dairy compacts violate the constitution, are a form of price-fixing, eliminate competition, provide for a more meddlesome bureaucracy, and will lead to the imposition of great costs to taxpayers in the future.

Congress must heed the lessons of the past as it makes decisions impacting not only the future of the dairy industry, but the entire country's consumers and taxpayers. Congress should oppose expanding the federal government's role in milk-pricing, as proposals to create additional compacts would do. Instead, Congress should return to the path begun in the 1996 Farm Bill to phase out the government's role in the dairy industry. The commitments made in the 1996 Farm Bill, including a phase out of the dairy price support program and a sunset to the Northeast Dairy Compact, should be kept. And the federal milk marketing order system should be eliminated.

In conclusion, CAGW believes that the system of federal government involvement in the U.S. dairy industry is completely irrelevant to modern-day economic realities and should be scrapped entirely. It is time to allow a completely free-market for the dairy industry, rather than extending subsidy programs, holding onto the outdated milk marketing order program and creating new milk cartel systems, such as the dairy compacts. In the long run, a dairy industry that is forced to become more competitive internationally will become more productive and profitable for everyone.