Dwindling price discovery concerns

Aug 10, 2012

How small is too small? That has been a question brought up regarding negotiated prices for live fed cattle lately. The answer of one branch of the National Cattlemen’s Beef Association (NCBA): not sure, but let’s find out!

During their Summer Conference meeting, NCBA’s Live Cattle Marketing Committee chair, Paul Colman, created a task force at the recommendation of a presenter. The role of the task force is to determine at what point the price discovery market is too small to be representative of the industry as a whole and what effect that can have on formula pricing.

The move was a direct result of a proposal made by one of the presenters. Stephen Koontz, associate professor of Commodity Markets and Price Analysis at Colorado State University’s Department of Agricultural and Resource Economics, presented a report on the recent downward moves of the price discovery market for cattle. On average, more cattle are being sold by formula than through negotiated sales, roughly 65 versus 20 percent of all cattle sold. Ultimately, he suggested a group be formed to conduct objective research and data collection to hopefully answer the question of at what point is the price discovery market too thin to support the market overall.

Colman agreed and, as one of his final moves as chair of the committee, formed a task force to investigate the issue. Due to its newness, there is little detail on the exact scope and timeline for the task force.

According to data from USDA’s Agricultural Marketing Service, sales of all cattle in the country have shifted away from the traditional negotiated cash towards formula basis. In 2004, negotiations made up roughly 60 percent of total cattle sale transactions. The most recent data shows negotiated transactions make up only 20 percent of average sales.

Koontz pointed that the move from negotiated to formula sales is quite understandable and has several upsides. There are a number of motivations to use formula sales on both sides such as predictability and the convenience of not needing to negotiate. Formula sales appear to be more efficient than negotiated sales and demand-stimulating.

However, Koontz also stressed that the benefits of formula sales do not mean negotiated sales should be displaced. He likened the price discovery function of negotiated sales to public goods like common grazing land or open-access fisheries. In such situations, outside forces benefit from, but do not “pay into,” the public good and the good is quickly depleted or pushed beyond usefulness. In this case, for mula sales benefit from price discovery established through the cash market, but do not contribute to its continuation. As formula sales increase, they “take from” the public good of price discovery in the negotiated cash markets.

Much has made about the fact negotiated sales are declining by the Ranchers-Cattleman Action Legal Fund (R-CALF) recently. USDA’s July 13 Livestock Report included the 20 percent statistic along with very opinionated commentary. When the original version was removed, then reposted without either element, it drew criticism and calls of censorship from the group.

R-CALF CEO Bill Bullard credited meatpackers as trying to destroy the cash market for cattle to their own gain in a release on the topic.

“The Original July 13 Livestock Report was alarming in that it stated the volume remaining in the price discovery market has now slipped to 20 percent, which is far too low for it to establish a competitive price for cattle.”

Koontz, however, says that the industry simply doesn’t know how low is too low and currently lacks the data to know.

“This isn’t an ‘it depends’ economist answer. We simply don’t know.” — Kerry Halladay, WLJ Editor