---

SIOUX FALLS, S.D. - For years, dairy producers have been told that the biggest problem in dairying is risk. Ag economist Michael Swanson challenges dairy producers to take a different view by considering the difference between risk and uncertainty.
"Why do you need to worry about uncertainty when you have many risks you are managing on a daily basis on your dairy operation?" Swanson said. "Because there are bigger strategic issues for your business than the risk. Risk can be mitigated, it's historically quantifiable."
Swanson, senior vice president and chief agricultural economist at Wells Fargo, based in Minneapolis, Minn., delivered the keynote address at the Central Plains Dairy Expo on March 27 in Sioux Falls, S.D.
Anticipating the pattern of the economy, the impact of Gross Domestic Product (GDP) and government policy are all-important factors to consider in the operation of a dairy business when making strategic management decisions. GDP performance and government fiscal performance are uncertainties that can affect the overall economy.
"It is very important to internalize when looking at what to expect from the economy," Swanson said. "Dig beneath the numbers of the GDP performance to understand how we grow at a rate and why."
When looking at selling dairy products or selling corn via dairy products or corn via ethanol Swanson said we have to ask ourselves what the consumer sees in terms of value from employment and earnings which drives the GDP performance.
Business investment has also been a factor in driving the economy.
"We've had marginal business investment in a low interest environment," Swanson said. "Why that is, is one of the biggest questions being asked right now."
Swanson said government fiscal performance is one of the most difficult aspects to predict within the economy because it includes two major uncertainties that are key items - monetary and fiscal policies.
Monetary policy includes interest rates set by the Federal Reserve. Fiscal policies are set by local, state and federal governments in terms of what they want to tax and what's the performance level.
Looking at the rate of change of the real GDP, goods and services produced in the course of a year, is very important to an economy.
"This (GDP) is the most overworked number in the world but it is consistent," Swanson said. "Currently, we have not seen the real economy accelerate and catch up to the potential GDP output line."
Swanson said this is important because GDP drives government policy. When there is excess potential GDP, inflation cannot be generated. Excess capacity in the economy means there is competition for market share.
The federal Congressional Budget Office (CBO) predicts two separate numbers, the real GDP and potential GDP, will be closer together in growth and there will be more fiscal revenue in the form of taxes and therefore the budget deficit will close.
What could go wrong with GDP and the economy?
Swanson said the real and potential GDP projected growth numbers could drop together and the economy may be impaired.
"We may have affected our economic ability to produce goods and services. If we've done that, then we have more risk for inflation and we won't catch up on our fiscal revenue piece like we thought we would," Swanson said.
Understanding the GDP outlook explains what could happen within the economy and agricultural industry.
"The problem is, they (CBO) could be wrong and those sudden changes in government monetary and fiscal policies can impact the value of cropland, value of cows and the exchange rate of the dollar," Swanson said. "If those aren't important to you in your strategic planning, then you are not thinking about your business in the right way."
Can you just milk cows?
Unfortunately, Swanson says no. Compared to most American mainstream businesses, dairy operations are considered "upper tier". About 85 percent of full service restaurants in the U.S. have less than $1 million in assets on their balance sheets. In comparison, 85 percent of grain farms in the U.S. have more than $5 million in assets.
"You are big businesses relative to all other mainstream businesses, you have to step back and pick up your game when it comes to economic and business analysis," Swanson said.
Swanson suggested not looking at the cyclicality of dairy but at the spread between upper and lower returns or better and worse dairy operators. Determining where you are in comparison to other dairy producers is important because that is one factor dairy producers can control.
"Think about what you have to do for strategic management, what am I doing to maintain my competitiveness," Swanson said. "Yes, it is going to cycle, we are going to have a great year and then go back down and have a bad year. The cyclicality of dairy is clear."
For the past 10 years, 700 dairies have participated in a private agency's risk management research program. The results of the research show the top tier of the dairies averaged 8.5 percent return over assets. The middle group had a 3.6 percent return over assets. The bottom group had a negative average of return over assets.
Swanson encouraged dairy producers to calculate their own numbers in comparison to the risk management database by using a Profit and Loss report. Using profit before taxes and dividing by total assets on a balance sheet reveals the number used for comparison to other dairy operations.
"See how you compare to other dairy producers. If you find yourself in the lower tier, it may require some radical thinking in strategic management because this is not the survivor group in the long term," Swanson said.
Swanson looked at many factors that are impossible to predict within the dairy industry - factors that over time just couldn't happen but did.
"There are things that you can anticipate and you need to think about, because you need to forecast. No only do you need to look at the futures markets and often but also what scenarios could develop over time," Swanson said.
Anticipating the uncertainties of the economy and ultimately the dairy industry includes considering cycles and patterns. No one can forecast the exact time or price but having the ability to use experience, dairy producers can anticipate and prepare for patterns that happen over and over again.
[[In-content Ad]]

---