Market Structure Challenges for the U.S. Live Cattle Industry
Testimony
of the
Ranchers-Cattlemen Action Legal Fund, United Stockgrowers of America (R-CALF USA)
Before the
United States Senate Committee on Agriculture, Nutrition, and Forestry
Hearing on the Proposed Ban on Packer Ownership of Livestock and USDA's Enforcement of the Packers and Stockyards Act
July 16, 2002
Presented By
Herman Schumacher
R-CALF USA Board Member
Box 67
Herreid, SD 57632
Phone: 605-437-2265
Fax: 605-437-2634
Email: auction@valleytel.net
Mr. Chairman and Members of the Committee:
I am here today representing the Ranchers-Cattlemen Action Legal Fund, United Stockgrowers of America R-CALF USA. I am a Director of R-CALF USA and I represent the states of North Dakota, South Dakota, and Nebraska. I am also a cow/calf producer, feedlot operator, owner and operator of Herreid Livestock Auction in Herreid, South Dakota, and an auctioneer. R-CALF USA is a national non-profit cattle association that represents only cow/calf producers and independent stockers and feeders. Our mission is limited to representing the U.S. live cattle industry in trade and marketing issues to ensure the continued profitability and viability of U.S. cattle producers.
In 1999, less than three years ago, R-CALF USA moved from a foundation to a national membership organization and is now the fastest growing U.S. cattle association in America, with 1100 new members just since the first of the year. We now have a national membership of over 6000 cattle producers in 42 states. We also have 30 affiliated organizations including 10 statewide cattle associations, 18 county cattle associations, and 2 general farm associations.
Our association's rapid growth is a direct reflection of the growing awareness and concern among U.S. cattle producers for the chronic and severe problems associated with our cattle markets.
I commend Chairman Harkin and this Committee for holding this hearing today. As evidenced by the many individual and joint association letters received by this Committee, cattle producers all across America greatly appreciate the Senate's earlier passage of Senator Johnson's packer ownership ban. Cattle producers also appreciate the Chairman's leadership in working to include the Competition Title in the recent Farm Bill. I am pleased to address the proposal to ban packer ownership of livestock and USDA enforcement of the Packers and Stockyards Act.
The importance of the live cattle industry alone, not including the beef processing sector, both to agriculture in the United States and the overall U.S. economy is difficult to overstate. The single largest sector in agriculture for more than 40 years, the live cattle industry currently has more than one million operators and has generated more than $30 billion in agriculture revenues annually for the last dozen years. During the past several years, however, this vitally important sector of the overall beef industry, and the American economy has been in a state of substantial economic crisis, a condition that persists today. Financially, the live cattle industry overall has incurred more than seven consecutive years of substantial losses.
Our markets are affected by numerous factors from convenience, quality, and consumer trust to export demand, import volumes and supply levels. These are not new to us. What is new, however, is the irrational relationship between both retail prices and packer's boxed beef prices, and our fed cattle price.
Much has been said about the market share beef has lost to competing meats such as poultry, pork, and imported beef and cattle. However, the most damaging lost market share cattle producers suffer today is the lost share of the consumers' beef dollar from the packers and retailers. No industry segment can continue to survive the losses U.S. cattle producers have sustained. USDA reported in April of 1999 that the nominal farm-to-retail price spread has widened from $.40 to over $1.40 per pound since 1970. That is a loss to cattle producers of over $500 per head - more than the value of calves today.
Some of this loss is normal; it represents cost increases for downstream packers and retailers. But, what we've seen since the early 90s is not normal. In the mid-90s the Cattlemen's Beef Board commissioned Cattle Fax, a leading industry resource for cattle prices and market information, to do a study on price discovery. Cattle Fax reported that historically retail prices and fed cattle prices have moved up and down in close synchrony. The same statement could be made for the relationship between boxed beef values and fed cattle prices. However, neither has been the case since the early 90s.
There is no greater evidence that something is wrong than to witness the record retail prices that you as consumers are spending and the tremendous losses producers are experiencing.
There is no greater evidence that something is wrong than the high number of feeders exiting this industry.
There is no greater evidence than simply to look at the relationship between both retail and boxed beef prices and fed cattle prices.
The rest of this testimony will reference many reports that help document the loss of market share to the highly concentrated packers through captive supplies.
It is important to note that there are two functioning production models within the U.S. meat industry. The first production model is best represented by the U.S. poultry industry. As stated within the Sparks study commissioned by the National Cattlemen's Beef Association (NCBA) and National Pork Producers Council (NPPC):
"Over time, these independent [poultry] businesses [including independent feedmills, hatcheries, farms, and processors] were combined by '"integrators,"' who reduced costs by coordinating the production of each stage. As a result, an industry once characterized by tens of thousands of small, specialized businesses became characterized by hundreds of vertically integrated firms. Through horizontal integration, however, the number was reduced to about 50 by the 1990's."
It is highly questionable whether chicken producers have benefited from this level of integration. In the poultry production model, competitive market signals no longer reach the producer as the integrator dictates both the terms of production and the prices for live birds.
The second production model is best represented by the U.S. cattle industry. Here, the production system is characterized by approximately 1 million independent cattle producers, whose cattle are fed by thousands of independent feeders prior to being marketed to the beef processing industry. When cattle industry markets function properly, consumer driven supply/demand signals determines both the terms of production and prices for cattle. But today our cattle markets are not functioning properly. Instead, the economic power exerted by the highly concentrated beef processing industry upon the live cattle industry is becoming alarmingly similar to the poultry model I just described.
Mr. Chairman and Members of the Committee, I'm here today to tell you that both sides of the packer ownership ban issue can draw upon economic studies to support their respective positions. The beef industry, as indicated by the NCBA's and NPPC's Sparks study, is well underway in its efforts to vertically integrate the feeding sector with the already horizontally integrated processing sector. If this integration is allowed to continue, the outcome will be, like in the poultry model, that fed cattle prices will be determined not by competitive market signals, but rather, by the integrators. Again, the Sparks study admits this outcome when it states "Vertical integration often attracts investors because of the negative correlation between profit margins at the packing stage and the feeding stage." The risk that feeding margins may become higher and packer margins lower are the very risks the Sparks study says packers control through captive supplies. The study states, "Thus, efforts to control risk are one of the most important drivers of increased vertical integration and coordination in the meat packing industry." Once our feeding sector is so controlled, the prospects of maintaining an open and competitive market for our cow/calf producers will be lost.
Because it is true that both models are obviously supportable, the challenge for Congress is to do what we citizens have elected you to do - apply our values along with America's vision for our future to today's problems so America will continue looking the way we want it to. The choice between the two models requires no further study. We all know the implications. In the vertically integrated model, production sector profits, along with the profits earned by the industries that support the production sector, are transferred to the integrated sector. This model cannot and will not support the current economic and social infrastructure necessary to support America's rural communities in every state of the Union.
I urge you to choose to promote and preserve an open and competitive marketplace, free of undue influences and manipulation by the packing sector. With this choice, our independent cattle producers will be assured of both economic opportunities and choices within our free enterprise system.
The organizations that brought you the Sparks study are not representing the interests of actual livestock producers. Instead they have brought you a meat processing industry wish list that masks the benefits of moving toward an open and competitive market structure by predicting catastrophic industry losses should packers be prohibited from owning and feeding cattle. This, despite the fact that the data contained in GIPSA's January 18, 2002, captive supply report indicated that the packer fed cattle owned by the four largest firms in 1999 totaled only 2 million head, or about 8 percent of that year's total slaughter.
Despite the obvious and very real concern for economic retaliation by the packers, over 125 independent feedlot owners from the states of Texas, Kansas, Nebraska, and Colorado cosigned a joint letter to each member of the Farm Bill Conference Committee. The letter said, "We the undersigned feedlot operators and feeders urge you to support the packer ownership portion of the Senate version of the Farm Bill." R-CALF USA has promised these feeders that their names would not be publicly released so I cannot share this letter with this Committee. However, the Farm Bill Conference Committee did receive a copy.
Today, the same organization that presented Congress with the Sparks study, replete with admissions that packers are using and enjoying the benefits of captive supplies to help manage their number one input cost - live cattle - are calling upon Congress to conduct yet another study. These opponents to the packer ownership ban argue that no studies have definitively established that packers' use of packer-owned cattle causes cattle prices to fall. As one Kansas feedlot owner recently said, "This is just another big packer stall tactic to keep their unfair profits flowing."
GIPSA, has cited numerous studies indicating a correlation between captive supply volumes, including packer-owned cattle, and cash cattle prices. According to the referenced 2002 GIPSA report, economists Schroeder, Mintert, Barkley, and Jones found a negative statistical relationship between fed cattle prices and captive supplies in 1992; that same year economist Elam found a negative statistical relationship between captive supplies and monthly average fed cattle prices; GIPSA's 1992 study found that packers use captive supplies, including packer owned cattle, strategically; economists Parcell, Schroeder, and Dhuyvetter found that a one percent increase in captive supply shipments was associated with a reduction in basis in Colorado and Texas in 1997; GIPSA, in cooperation with economists Schroeter and Azzam, found a negative statistical relationship between weekly captive supply and the weekly average spot market price in 1999.
These studies, beginning in 1992, are uncontested with respect to showing a negative statistical relationship between levels of captive supply and spot market prices. Where there is disagreement is whether or not captive supplies are the cause of lower spot market prices. Our economists have gone as far as they can go in helping Congress, the Administration, and the industry to identify a correctable problem. If you combine these economists' studies with the admissions contained in the NCBA and NPPC Sparks study describing how packers use packer-owned cattle to minimize their risk, the causal relationship is clearly revealed and you will know what every seller of live cattle in America knows - packers are using their own cattle to depress cattle prices.
GIPSA states in its 2002 report that it may not prohibit packers from using captive supplies without evidence that the use of captive supplies causes harm or is likely to result in the type of harm that the Act was intended to prevent. Yet, according to GIPSA, its own study was conducted without having audited the reporting information submitted by the packers since 1988. This certainly raises the question of whether GIPSA or any other researcher has access to the critical information needed to determine the extent of harm that captive supplies are inflicting upon the competitive marketplace.
But while USDA is unable to determine if packers are unduly influencing the market, as early as 1999, it was clear to then-Chair of the International Trade Commission Lynn M. Bragg, who said, "The concentration of packers increases the packers' leverage relative to cattle prices." Fellow ITC Commissioner Carol T. Crawford wrote in the ITC's November 1999 Final Determination on Live Cattle from Canada, " . . . there is considerable concentration in the packing industry . . . which can and does exert influence over prices for cattle." In 1988, Bob Peterson, than Chairman of IBP stated:
"Procurement practices are changing and this concerns me. There is a quiet trend towards packer feeding and it is much, much bigger than you think it is. We cannot stand by if the competitive playing field is unlevel. Our competitors are promoting contracts and seeking more. These forward contracts coupled with packer feeding could represent a significant percent of fed cattle at certain times of the year. Do you think this has any impact on the price of the cash market? You bet! We believe a significant impact."
The severity of the problem with our markets has reached catastrophic proportions. The ban on packer ownership will provide immediate relief from the forces that have driven a wedge within our production chain that prevents consumer-driven market signals from reaching live cattle producers. Retail beef prices remain at near record highs; demand for beef is strong; our population is growing; our herd size has fallen to its lowest level in nearly 40 years; our production this year is below the record production year of 2000; and yet, our live cattle prices are at $62.00, the lowest level since 1998; and our independent feeders are losing more than $100 per head. A competitive marketplace would not produce these results.
According to the respected Doane's Agriculture Report on October 26, 2001, "The farm-to-retail spread has topped $1.90/lb - If the spread were in line with normal, current retail prices would translate to live cattle prices in the mid-$80s rather than the mid-$60s." Winter Feed Yards in Dodge City, Kansas, reported in December of 2001, "As of November 30, 2001, retail beef prices were 9 percent above one year ago. Fed cattle prices were 18.2 percent below one year ago - this represents a $300 per head loss to producers."
While we are losing money and equity, packer margins have literally skyrocketed. According to data compiled by the Livestock Marketing Information Center, packer margins climbed 133 percent since 1992. The per head margin for packers in 1992 was $62.28. In 2001 it was $145.20. Meanwhile, live cattle producers have experienced shrinking margins, with prices failing to recover even to 1992 levels. According to the ERS, the producers' share of the retail beef dollar in dropped from 56 percent in 1994 to 46 percent in 2001. In May of this year, it fell to 42 percent. This translates to a loss of around $300 per fed steer. Producers are losing their market share from the packers and retailers at an alarming rate. This is a clear indication that forces other than competition are influencing our markets. (See Attachement.)
The March 2002 report completed by the GAO reminds us that over six years ago, in 1996, GIPSA could not conclude that the cattle industry was competitive. But no action has been taken. The responsibility to act has now been passed to you, our Congress, and we urge you to take decisive action including, the first but important step of preventing the large packers from owning livestock. The deck is stacked against cattlemen when they are forced to compete against the same packer for feeder cattle that they later have to sell to when their fed cattle is ready for market.
Attached to my written testimony is an issue brief on Senator Johnson's packer ownership ban. Also attached is a chart depicting the relationship between retail beef prices and live cattle prices since 1979. This chart reveals that until 1994, our industry had confidence that consumer-driven retail prices were translating to live cattle prices - both retail and live cattle prices moved in synchrony. But since 1994, the correlation between retail prices and live cattle prices was disrupted and continues to be disrupted today. This radical disruption is evidence that our live cattle prices are no longer responsive to the competitive market signals driving retail prices. Finally, I am including a chart that shows the disparate relationship between live cattle prices and packer margins.
The second issue is that of USDA enforcement of the Packers and Stockyards Act. As mentioned earlier, GIPSA indicated as far back as 1996 that it could not conclude that the industry was competitive; yet, it is the agency charged with guarding against unfair and anticompetitive practices. Producers have become frustrated with the inaction on the part of USDA to take any meaningful steps to address the unprecedented concentration of the cattle processing industry, and to prevent packers from exerting undue and market distorting influences with their captive supplies.
To compound matters, the previously mentioned March 2002 GAO report reveals that USDA has not properly maintained and updated the economic models used by it and the ITC for determining the potential impacts of public policy decisions, trade implications, and structural changes within the beef and cattle industries. Despite the radical structural changes that occurred within our market structure since the 80s, including the concentration of the packer sector and the use of new tools like forward contracts and marketing agreements, USDA has not properly re-estimated, documented, or validated its models, and much of the data used in the original estimation was from the 1960s and 1970s.
The GAO said in regard to a 1996 ERS study of the causes and effects of consolidation and concentration in the meat packing industry, "While this analysis did not support conclusions about the exercise of market power by beef packers, even though no other manufacturing industry showed as large an increase in concentration since the U.S. Bureau of the Census began regularly publishing concentration data in 1947, it also concluded that the models need to be improved to more fully incorporate relevant determinants of company behavior." But the models were not improved.
The GAO said of the ITC models that neither type of model used by the ITC " . . . is detailed enough to project cattle prices or address the effects of structural changes associated with market concentration, marketing agreements, and forward contracts in the cattle and beef industries." It said the primary model used by USDA is equally deficient.
How can Congress or the industry reasonably rely upon USDA to properly assess and then address the impacts of captive supplies, packer concentration, and growing volumes of both beef and live cattle imports when it has for so long neglected the analytical infrastructure needed to make such critical assessments and take such needed enforcement action?
This long-term regulatory neglect has rendered USDA ineffective in addressing today's cattle industry challenges. This is not unlike the regulatory neglect now being blamed for the significant shareholder losses caused by the inappropriate conduct of companies like Enron and WorldCom. Our live cattle industry is silently suffering the same consequences - in the form of lost money and equity in our rural communities where our one million producers, our thousands of feeders, and all their supporting industries reside.
Importantly, consumers are being equally harmed by this neglect, as they have not realized any economic savings from the significantly lower prices packers are paying for cattle. In the months of April and May of 2000, a record-breaking production year, Choice retail beef prices were $3.07 per pound and fed cattle prices were $.72 per pound. During the same period this year, production was down 2 percent below 2000, Choice retail beef prices increased to $3.30 per pound and fed cattle prices fell to the mid-$.60s. Where are the consumer benefits from this market structure?
USDA has demonstrated its ineffectiveness in regulating the major packers. Unlike cattle dealers and sale barns that are closely regulated by the Packers and Stockyards Act, packers are not required to compensate parties they have injured. The Act also doesn't provide for legal fees in a civil action when a packer is found to have broken the law. So even though the USDA was successful in their recent Farmland/National retaliation case involving the Callicrate feedyard, Callicrate was not compensated for his damages, he continues to be boycotted, and has now decided to close his feedyard after feeding cattle for 24 years. New rulemakings could correct these problems.
U.S. cattle producers have become so frustrated with USDA's inaction that they are seeking relief from the judicial branch of government. I am a plaintiff in the pending class action lawsuit, Picket versus IBP. I am also involved in the recent class action lawsuit stemming from USDA's misreporting of boxed beef prices last April. While USDA was misreporting boxed beef prices, all four of the major packers kept bidding artificially low prices for live cattle. We believe the packers who were selling the boxed beef were fully aware of USDA's mistake, yet they continued to underbid for cattle. As soon as the mistake was publicly announced, live cattle prices rebounded $2-$4 per cwt. U.S. feeders, backgrounders and cow/calf producers lost millions as a result of this incident. USDA took no action to assist producers. Farmland/National, the fourth largest packer, has already voluntarily offered compensation to its suppliers. The other three packers have not. When packers behave this way, doesn't this conduct ring of insider trading?
R-CALF USA firmly believes there is ample evidence that our markets are not functioning according to competitive market fundamentals. We are convinced that the use of packer owned cattle and other captive supply sources are the tools used by the concentrated packing industry to strategically disrupt the competitiveness of our markets, and, we are convinced that the problem has grown beyond the capabilities of USDA to address. We, therefore, believe Congress should immediately take the following steps:
1. Prohibit packers from owning livestock.
2. Conduct an immediate investigation into the additional cause or causes of why our markets are unresponsive to competitive market signals. Include the following issues as topics for the hearings held in conjunction with the investigation:
a. Senator Mike Enzi's captive supply amendment that would require a fixed base price in formula contracts and would require contracts to be traded in open, public markets.
b. Packers' use of imports and their affect on the cattle market in light of then-ITC Chair Lynn M. Bragg's 1999 statement that packers are using imports to suppress domestic live cattle prices.
c. Interstate shipment of state inspected meat, along with the need to establish minimal performance standards, so state inspected packing plants can expand their presently constricted marketing area.
d. Restricting use of the USDA quality grade stamp to only meat derived from animals born, raised, and slaughtered in the United States.
e. Need for increased price transparency in cattle markets.
f. Needed reform of the Commodities Future Markets.
3. Re-introduce the Agriculture Competition Title including the following provisions:
a. Establishment of an Office of Special Counsel for Competition Matters, whose duty would be to investigate and prosecute violations of the Packers and Stockyards Act.
b. Providing for the appointment of outside counsel for claims arising from the Packers and Stockards Act.
c. Prohibit unfair or deceptive acts or practices in agricultural commerce.
d. Porhibit confidential contracts.
e. Provides for recovery of attorney fees to enforce the Packers and Stockyards Act.
4. Direct USDA and ITC to update and improve the economic models used to explain and forecast cattle and beef prices, and provide assistance to through necessary funding.
R-CALF USA distributed a joint letter calling for an immediate Senate Judiciary and Agriculture Committee investigation into the functioning of the U.S. cattle market. Originally, 27 local, state and regional cattle associations joined R-CALF USA in calling for this investigation on June 18, 2002. Since that time, many more cattle, general farm and consumer organizations have joined onto the letter. I would like to hand each of you a copy of this updated request.
Let me close by saying the producers in North Dakota, South Dakota, Nebraska, and many other western states are suffering from a severe drought. My grandfather weathered droughts in South Dakota because he had a competitive market with which to recover a fair value for his cattle. The last severe drought we went through in our state was 1988. We culled our herd and sold cull cows for $50 per cwt. Retail beef prices that year were $2.50 per pound. In today's drought we are selling our cull cows into a market that will only return $35 per cwt ($180 less per head than in 1988). But today's retail beef prices are $3.31.
America's cow/calf producers, independent stockers and feeders, and consumers are being unjustly excluded from the benefits our free market economy promises. I respectfully urge this Committee to immediately and decisively remove the known barriers preventing our participation.
Thank you for your consideration.
Attachments: 5