March 18, 2015
China's dairy sector gets its groove back
With the country's most dynamic livestock line finally regaining its momentum, torrid import growth will become yesterday's story.
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Despite the spectacular increases in the production and consumption of other red meats, China's dairy industry has been an under rated top performer. From 2000 to 2014, fluid milk production jumped 335% while consumption grew even faster. According to USDA figures, the latter quadrupled, from 9.17 million tonnes in 2000 to 37.78 million tonnes in 2014. Over this same period, pork production, chicken meat production and China's population, by comparison, only increased by 42%, 40% and 8% respectively over this same time period.
Scandal derails self-sufficiency
But the industry has also been highly troubled, and this is reflected in its highly skewed growth pattern. Moreover, while China's love for red meat has been felt around the world, this was even more true for its dairy sector, particularly in the from years 2009 to 2013 -with last year marking a major turning point.
The reason the world felt China's appetite for dairy products is because, for about five years, the country was in no position to supply the fluid milk that its fast rising consumption of fast food, cheeses, ice creams, yogurts and other dairy products required.  -Out of that incredibly rapid, 335% growth that occurred in China's fluid milk production from 2000 to 2014, 326% of it occurred from 2000 to 2007, when the fluid milk production grew at a torrid 18.4% annual rate.

At that time, domestic dairy farms nearly kept pace with consumption growth: As a result, the combined volume of whole milk powder (WMP) and skim milk powder (SMP) imports first doubled from 73,000 tonnes in 2000 to 152,000 tonnes in 2004, before falling back to 99,000 tonnes in 2007.
In retrospect, the 2008 melamine contamination scandal coincided with a serious recession and a marked slowdown in China's long-term growth rate. Over two years, from the start of 2008 through the end of 2009 when the global recession bottomed out, China's fluid milk production fell by 19.3% while dairy product consumption fell 18.4%.
Unfortunately, long after the 2008 melamine-in-milk incident was forgotten by the world, the next three years saw several dozen more milk safety scandals, including new instances of melamine contamination. Government-mandated shut downs of offending dairy suppliers, strict new regulations and an official consolidation policy caused small farms to exit the industry faster than conglomerates could boost output.
Hence, by 2011, fluid milk output was 3.1% lower than it was in 2007. On the other hand, with personal incomes growing strongly, so did the demand for dairy products that require fluid milk as their primary input. Furthermore, after seeing one milk contamination scandal after another, consumers started actively buying imported milk and infant formula, shunning local products. With domestic fluid milk feedstock badly trailing dairy demand, a flood of imported milk powder feedstock bridged the gap between supply and demand.
Interestingly, if we convert imports of WMP and SMP into their fluid milk equivalents, we get a better grasp of how China came to rely on imported milk -and how this trend has now levelled out. From 5.7% in 1995, the foreign milk used to make imported WMP and SMP equaled 14.6% of the fluid cow's milk equivalent of China's dairy demand by 1999.
During the boom years of 2000 to 2007, domestic fluid milk output increased slightly faster than dairy demand. As a result, the foreign milk used to make imported SMP and WMP fell back to just 4.3% of China's fluid milk demand in 2007 -and China appeared to be on the way to dairy self-sufficiency.
Thereafter, with a succession of milk safety scandals and government regulations disrupting the industry, the early years of this decade saw dairy consumption recover far faster than fluid milk output. Consequently, combined WMP and SMP imports zoomed upwards a shocking 875% in seven years, from 99,000 tonnes in 2007 to 965,000 tonnes in 2015. Similarly, from 4.3% in 2007, the foreign milk used to make imported WMP and SMP skyrocketed to 19.5% of China's fluid milk requirement by 2010, and peaked at 38.2% in 2014.

Output recovers, imports tail off
But now, the tide has turned. With the greatest proportion of the dairy sector consolidation over, a high proportion of fluid milk production is now accounted for by several, very large dairy conglomerates. Compared to the backyard farms they replaced, these dairy integrators have a strong incentive to avoid food safety scandals and the capital resources to boost output rapidly.
Since late 2013, they have been boosting fluid milk output -and outracing growth in domestic dairy product demand. As a result, after rising at an average 36% annual rate from 2007 to 2014, this year will see combined WMP and SMP import volumes fall 5.7%, from 965,000 tonnes back down to 910,000 tonnes. Similarly, as a proportion of China's total fluid milk requirement, foreign milk used to make China's SMP and WMP imports is falling from its 38.2% peak in 2014 to a USDA estimated 35.2% this year, and will probably fall towards 20% within five years.
In conclusion, China, is getting itself back on the dairy self-sufficiency path it was on prior to 2008. This however, is bad news for world dairy exporters.
On one hand, China will probably never achieve fluid milk self-sufficiency. In fact, its procurement strategy will continue to define the global dairy market for years to come. On the other hand, going forward, demand for imported milk powder feedstock will probably only grow by the same 4% to 5% rate of its domestic production and dairy consumption. With this in mind, western dairy suppliers should transition from exporting to China to directly investing in its domestic dairy sector.

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