A big fat problem in milk: What’s driving up prices?

In Context

• India is currently facing price inflation in milk mainly due to milk fat shortage.
  • All over India, the price difference between Full cream & toned milk has widened from Rs 11 to Rs 16.56/litre.

India’s dairy sector

• India’s success story in milk production was scripted by Dr Verghese Kurien, known as the “Father of the White Revolution” in India
• Dairy: It is the single largest agricultural commodity contributing 5 percent of the national economy and employing more than 8 crore farmers directly. 
  • India is ranked 1st in milk production contributing 23 percent of global milk production. 
  • Milk production in the country has grown at a compound annual growth rate of about 6.2 percent to reach 209.96 million tonnes in 2020-21 from 146.31 million tonnes in 2014-15.
• Stakeholders in the sector:
  • Notably, 228 dairy cooperatives reach out to 17 million farmers, many of whom are likely to be assured of their milk being procured at the right time and at a fair price. 
  • This time, private players have wrested some market share from cooperatives by offering higher prices in a buoyant market.

Milk price inflation & Causes of Milk fat shortage

• The issue:
  • The current price inflation in milk has mainly to do with a shortage of fat. 
  • It has led dairies to increase full-cream milk prices more or to cut down fat content through rebranding of existing products. 
  • There have even been reports of branded ghee and butter disappearing from store shelves.
• Possible causes:
  • Falling contribution of buffaloes:
    • Experts are linking this partly to the falling contribution of buffaloes to national milk production. The share of buffaloes — their milk has an average 7% fat and 9% SNF content, against 3.5% and 8.5% of cows
  • Demand Supply mismatch:
    • Demand is growing for ghee, ice-cream, khoa, paneer, cheese, and other high-fat milk products.
    • But supply is coming more from crossbreds that give low-fat milk. The mismatch is pushing fat prices higher
  • Taxation:
    • Milk doesn’t attract any goods and services tax. 
    • But  Skimmed Milk Powder (SMP) is taxed at 5% and milk fat at 12%. 
    • So while dairies pay no tax on milk procured from farmers, they have to shell out GST on solids. And input tax credit cannot be claimed, as there’s no GST on milk itself. 
    • Moreover, the tax incidence goes up as the fat in the reconstituted milk increases.
• Exports:
  • A more immediate reason for rising fat prices is exports. 
  • During 2021-22, India exported over 33,000 tonnes of ghee, butter, and anhydrous milk fat valued at Rs 1,281 crore.
  • Increased exports came at a time when milk production was taking a hit from farmers underfeeding their animals and shrinking herd sizes due to low prices received during the Covid lockdowns, escalation in fodder and livestock feed costs, and lumpy skin disease outbreak among cattle.
  • The supply-side pressures built up just when demand was returning with the lifting of lockdown restrictions and resumption of economic activity. 
    • 

Possibility of Further price rise

• ‘Flush’ season in milk:
  • October-March is normally the ‘flush’ season in milk, when supply exceeds demand. 
  • Dairies convert the surplus that they procure into skim milk powder (SMP) and butter fat. 
    • This is done by separating the cream and removing the water in the skimmed milk through evaporation and spray drying. 
• ‘Lean’ season:
  • The same SMP and fat is reconstituted into whole milk during the ‘lean’ summer-monsoon months (April-September), when animals produce less amid rising demand for curd, lassi and ice-cream.
• Further rise:
  • The 2022-23 ‘flush’ was a rare season where milk procurement fell, leaving dairies with hardly any surplus for converting into fat and powder. 
  • And with production bound to fall further in the ongoing ‘lean’, the dependence on purchase of milk solids for reconstitution will only go up.

Way ahead

• Dairy products demand is growing rapidly with rising population, incomes, urbanisation and changing diets.
• With imports ruled out — high prices, it is believed, will incentivize farmers to invest more in their animals and ramp up production
• One way to avoid this is by doing away with GST on milk solids used for reconstitution purposes. Alternatively, the GST on milk fats can be reduced to 5%. 
  • Differential rates on SMP and fat probably make no sense, when both are derived directly from milk. 
  • A 12% GST on milk fat is also an anomaly when vegetable fat (edible oils) is taxed at 5%.
• For a sector that supports more than 80 million farmers, and one that can provide a livelihood to many more small and marginal farmers (120 million of them, with plots too small for viable farming), it is worth investing in policies to address embedded supply constraints.