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Milk Prices 101

Kelly Wallace is a CBS News correspondent based in New York.

Ever wonder why a gallon of milk costs as much as it does (more than $4 at my local grocery store in New York City) and who benefits when the prices go up? We did.

That's what led to tonight's piece on the CBS Evening News with Katie Couric.

With the price of a gallon of whole milk up 15 percent in the past year (May 2007 – May 2008), we thought someone must be profiting big time. Could it be a great time to be a dairy farmer?

Not a chance.

We met Richard Byma, a dairyman in northern New Jersey for the past 36 years, who told us his costs are skyrocketing — feed and fertilizer have doubled in the past year, and rising gas prices at the pump mean higher farm fuel prices for his farm equipment.

Forget soaring profits; Richard's profit margin may be zero or a minus for the year — not a great reward for his six-day, 15-hour-a-day work week.

Okay, but if his costs are going through the roof, why can't he raise his prices? Isn't that what most businesses do? Isn't that the American way? Not for dairy farmers. That's what I was surprised to learn from Richard.

You see, milk is regulated by the federal government which determines the price dairy farmers get for milk based on supply and demand. The day we visited Richard, he got $1.63 a gallon for milk, while his local grocer was charging $3.69 for that same gallon. How do you get from $1.63 to $3.69?

Stick with us for Milk Prices 101.

Richard sells his milk at the federally set price of $1.63 to a dairy cooperative, which then sells the milk to a processing plant. It costs an average of 81 cents a gallon for the plant to pasteurize, process and package the milk and deliver it to Richard's local supermarket. Add on 45 cents for federal fees and the grocery store's overhead and you get to $2.89, which gives supermarkets an average of 80 cents per gallon profit, bringing us to a total of $3.69. Remember that's more than double what Richard gets ($1.63) at the farm.

"Someone makes some money on that gallon when it leaves the farm and yeah, everybody wants to get part of (those) consumer dollars," Richard told us.

It sure would be nice if he could sell his milk for $3.69. He's not complaining, though. He knows the system. But it's a system that's making it harder for dairy farmers to make a living.

Forced to cut back, Richard's son Henry had to get creative. He figured out a formula for the minimum amount they could feed their cows without affecting milk production. "There are certain things you can do," he told us, "but man, after awhile, what do you do next year when it's higher yet and you've tried everything this year? It's discouraging."

What's the answer? I've read about proposals, including a surcharge or tax that retailers would have to pay with the proceeds being passed on to the farmers, but would that tax then be passed on to the consumer in the form of higher prices?

Other ideas include capping milk prices at, say, 140 percent of what retailers pay for the product. Still another thought is having the federal government re-adjust the formula for pricing milk when costs for farmers are through the roof.

What we learned is, if costs keep heading in the direction they've been going, life for people like Richard won't get any easier, and some dairy farmers might ultimately have to go out of business — while we, the consumers, will continue to feel that pinch every time we buy that gallon of milk.

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