Three Essays in Economics of U.S. Dairy Markets

University of Minnesota Ph.D. dissertation. November 2017. Major: Applied Economics. Advisor: Marin Bozic. 1 computer file (PDF); vii, 145 pages.The Margin Protection Program for Dairy Producers, created under the Agricultural Act of 2014, is a new margin insurance program that pays indemnity when a national income-over-feed-cost margin declines below an elected coverage level. A widely speculated side effect of the program is its potential to reduce uses of CME dairy futures and options for hedging purposes. The first essay studies this issue under the assumption that dairy producers adopt private hedging practices and the Margin Protection Program as ways to protect against catastrophic margin risks rather than for speculative profits. Empirical framework is set under the safety-first assumption in that a producer minimizes hedge ratio subject to a probabilistic constraint that restricts the revenue above a critical threshold. The novelty of this study is the use of accounting data on dairy cost of production in two U.S. regions. Monte Carlo simulation results that compare the crowding-out effect on representative producers in the upper and lower Midwest show the magnitude of the effect depends on production efficiency, market risk exposure, and the timing of the Margin Protection Program sign-up. The second essay proposes MPP-DL as a supplemental insurance program for the 2014 Farm Bill dairy title margin program MPP-D (formally known as the Margin Protection Program for Dairy Producers). MPP-DL caps an indemnity payment to $1 per hundredweight of milk under protection. A model built on cumulative prospect theory is used to predict 37 representative farms’ sign-up choices. Risk attitude parameters are estimated by grid search method based on sign-up data for coverage year 2015. Fiscal cost analysis shows that MPP-DL is able to smooth payment streams over the years studied in this essay. Notably, MPP-DL can redirect producers to choose MPP-DL instead of MPP-D when margin forecast at sign-up is above the historical average margin while also keeping the overall cost of the program lower than MPP-D. The third essay investigates asymmetric transmission between farm-gate raw milk prices and retail fluid milk prices in 15 U.S. regional markets. A two-threshold three-regime error correction model is first estimated on individual price pairs. Threshold effect is then studied through Common Correlation Effect Mean Group panel data time series model for each regional market. A rich set of econometric tools are employed in empirical analysis to deal with discontinuous long-term price relationships. Structural break unit root tests and cointegration tests are performed to ensure the long-term relationship of retail-farm prices exists. Symmetry test results suggest that the majority of the regions feature positive asymmetric price transmission. In addition, there is evidence to suggest that asymmetry is sensitive to the presence of temporary retail sales price