COST OF PRODUCTION AS A MILK PRICE DETERMINANT BT HARRY ALBERT ROSS B.S. University of Illinois, 1917 THESIS SUBMITTED IN PARTIAL FULFILLMENT OF THE REQUIREMENTS FOR THE DEGREE OF MASTER OF SCIENCE IN ECONOMICS IN THE GRADUATE SCHOOL OF THE UNIVERSITY OF ILLINOIS, 1922 URBANA, ILLINOIS ■a. -j w 1 1 \> Q. ; tfl I92Z UNIVERSITY OF ILLINOIS THE GRADUATE SCHOOL JA_ 192 1 HEREBY RECOMMEND THAT THE THESIS PREPARED UNDER MY ’ 1/- ^ SUPERVISION BY rtt^ ENTITLED^ BE ACCEPTED AS FULFILLING THIS PART OF THE REQUIREMENTS FOR Recommendation concurred in'* * Committee on Final Examination* •Required for doctor’s degree but not for master's * - 3 >• A A-'s . ■ '■ ■■ • CONTENTS CHAPTER ' PAGE I. INTRODUCTION l Dairying Under War-time Conditions, 1; The Chicago Dairy District, 2; Dairymen's Organizations, 3; Statement of the Problem, 5. II. DEVELOPMENT OF TEE COST FORMULA 11 Events Preceding the Period of Price Fixing, 11; The Chicago Milk Inquiry, 17; Report of the Milk Commis- sion, 21; Adoption of the Modified Formula, 27. Ill . THE DIFFERENCE BETWEEN THE REAL AND THE FORMULA COST OF PRODUCING MILE - 32 Individual Costs Differ from the Average Cost, 33; The Proportion of Purchased and Farm-grown Concentrates Fed to Dairy Cattle Varies Under Different Conditions, 43; Inaccuracy of the Seasonal Differentials, 49. IV. CAUSES OF THE CONTINUATION OF MILK PRODUCTION AT A LOSS 56 Market Conditions, 56; Difficulty of Changing the Type of Farming, 58; Feed Charged at Cost of Production, 63; Over-estimation of the Returns Not Milk, 63; Confusion of Wages and Profits, 65; Significance of Sub-marginal Milk Production, 67. V. PRACTICABILITY OF FIXING MILK PRICES BY THE USE OF COST FORMULAS 59 ■ COST OF PRODUCTION AS A MILK PRICE DETERMINANT I. INTRODUCTION Dairying Under War-time Conditions After the United States entered the World War, rapid price changes occurred with resulting maladjustments in industry and agriculture similar to those which occurred at the beginning of the Civil War. The prices of grains mounted rapidly but the prices of animal products, and especially of dairy products, lagged behind. ^ Producers of milk for fluid consumption were ser- iously affected by these changes. The consuming public, long accustomed to a uniform retail price for milk, objected vigorously to any advance and voiced its disapproval each time the price was increased by decreasing the amount of mil-: normally consumed. 2 The urban population regarded the price of milk no differently than it did the five-cent street car fare, the price of bread or beer, or any of the other commodities or utilities for which it was accustomed to pay a uniform price. However, this attitude of the consumers tended to keep down milk prices paid the producers at a time when feed costs were in- creasing rapidly. The dissatisfaction among dairymen resulting from this condition led to milk strikes in many districts where farmers 7 /ere organized, and stimulated 1 Warren , G. F . , Prices of Farm Products , Jour, of Farm Econ. II, No .2. Apr., 1920, pp. G1-S9 . Do. Prices of Farm Products in the United States, U.S.D.A. Bui. 599. 2l.Ulk Inquiry, Hearing at Chicago, Dec. 26, 1917, p.3120. Digitized by the Internet Archive in 2015 https://archive.org/details/costofproductionOOross 2 the formation of bargaining associations in unorganized territory. Since milk is 30 vitally Important in the human dietary, the closing of a city's supply by a strike of only a few days duration was a threat against the wel- fare of the people. If the territory was well organized, enough milk could be held back from the city so that condensed milk or milk of a poor quality brot in from outside the regular zone had to be substituted for the usual fresh product. Hence, when a strike was called, the city press invariably clamored for the suppression of the farmers' organizations and in many local- / ities the officers and directors of the co-operative associations were in- dicted under the anti-trust laws. In other instances, wiser action was taken by leaders of the milk producers, the milk distributors, and various state and federal officials who attempted to find some method of price determination which would supply the consumers with milk at a reasonable cost and would at the same time give the producers a price which was high enough to keep the industry in a healthy state of stimulation in order to insure an adequate sup- ply for the future. The Chicago Dairy District The various phases of dissatisfaction, strikes, indictments, in- vestigations, and price fixing, which was typical of the whole dairy industry, were experienced in full by the dairymen producing for the Chicago market. The district which supplies Chicago with approximately 1,000,000 quarts of milk daily covers parts of three states and comprises a region somewhat rectangular in shape extending almost two hundred miles north and south and about one hundred miles east and west.l northern Indiana, having excellent ^Hibbard, B . H., and Erdraan, E. H. , Marketin'? Wisconsin Milk, Wis. Agr . Exp. Sta. Bui. 285, p. 21, 1917. ' 3 transportation facilities, sends some milk to Chicago around the southern end of Lake Michigan hut this constitutes only a small part of the city's supply. The region south of Chicago lias as good means of transportation as any other part of the dairy district hut produces relatively little milk. This is due largely to a competing type of agriculture, corn-growing being more profitable than dairying. To the west of the city, dairying as the principal farming enterprise gradually gives way to a mere general type of agriculture in which the feeding of hogs and steers plays an important part. In this region con- siderable quantities of butter fat and of milk for condensing are produced. The district extends north from the city well up into Wisconsin, overlapping the Milwaukee milk zone and tapping the butter, cheese, and condensing region which produces an enormous amount of milk for manufacture. It is quite evi- dent, therefore, that the Chicago fluid milk district is not only capable of great expansion to me9t the needs of an increasing population, but that the territory to the north is already fully developed as a dairy region. Much of the milk which is produced for manufacture in that region can be diverted to the city for fluid consumption if the price of whole milk is very much higher than the price obtained for milk used in the manufacture of the various products. This alternative market for milk has a very marked influence upon Chicago milk prices and is a disturbing factor in any system of price determin- ation . Dairymen ' s Or gan i za t i on s The advantage of collective action in obtaining fair prices for milk wa3 early recognized in this region and various associations were formed. Dairymen in the Chicago district were organized in 1SS7 under the name of "The Milk Shippers' Union of the Northwest” but the company failed to fulfill ” ■ ti. ' 4 expectations and soon disappeared,^- In 1897 a second company was incorporated as "The Milk Shippers’ Union” * 2 and this company continued until June, 1911, at which time the Milk Producers Association took over the activities of the older association. 2 The Milk Producers Association was primarily a bargaining agent, giving the dairymen a much stronger voice in the determination of prices than wa3 possible under the old system of the individual farmer contracting with the dealer . Before the formation of this association, milk distributors and con- densing companies posted prices twice a year stating the amount they would pay for milk during the following six months. A short period, usually of about two weeks, was allowed the farmers in which to sign the contracts at these prices. If a farmer refused to sign within the specified time, his milk was turned back from the plant or factory. If no other milk plant was within practicable hauling distance of his farm his only alternative was to find a buyer in Chicago to whom he could ship his milk directly. In one instance, the prices paid by a company were determined in the head office of that company in hew York and the local plants were then ordered to nay these prices for the ensuing six months.^ As tnis company owned a number of plants and was one of tne _arge3t buyers of milk in the Chicago territory, many other companies adopted their prices and, as a consequence, it v/as commonly charged by the pro- ducers that milk prices were arbitrarily set in New York. These arbitrary metnods of price fixing were more or less successfully opposed by the Milk Producers Association. However, this bargaining agent iRural New Yorker, Sept. 17, 1887. 2 New York Produce Review, Nov. 24, 1897. ®Milk News, June, 1911. ^.lilk Inquiry, Hearing at Chicago, Jan. 3, 1918, pp . 3845-3847. ■ 5 did not solve the problem of surplus rtiilk^ and the outgrowth of this was the formation of the Milk Producers Co-operative Marketing Company and the pooling method of marketing milk which will be discussed later. Altho the Marketing Company^ was started in 1916, it was not fully organized or prepared to market the milk of its members until January, 1919. Statement of the Problem As a result of the abnormal war-time conditions, an agreement was reached in July, 1918, between the milk producers in the Chicago dairy district and the milk dealers, whereby the prices paid for milk during the ensuing five months were to be determined by applying current values of feed and labor to a cost of production formula which l^ad been evolved after a long period of in- vestigation. This cost computation was made each month by the Department of Dairy Husbandry of the University of Illinois, and the value thus obtained was accepted by the producers and the distributors as the price to be paid for milk at the receiving stations in the country. This method of price determination was used for the period agreed upon. (August to December, 1918) with apparent satisfaction to all concerned. Por these five months and for January, 1919, following the expiration of the agreement, the computed costs and the milk prices were identical. There was no over-production of milk during this period because the dairymen felt that the price covered cost of production only, no allowance for profit having been made in the formula. On the other hand, milk prices were relatively high and the outlook for the future of the industry was considered promising. Many producers would have been glad to have continued the cost method of setting ^By surplus milk is meant the milk produced in excess of the amount consumed in fluid form . ‘'Synonomous with Milk Producers Co-operative Marketing Company. . prices but,. Deg inning with February, 1919, the producers' marketing organ- ization and the milk dealers reverted to their previous method of bargaining. The cost computations, however, were used by the producers as a basis for bar- gaining and for the next nine months the price obtained for milk was almost the same as the formula cost of production.^ The price paid by the dealers for milk testing 3.5 percent and the formula cost of production for each month from September, 1918, to December, 1921, are given in Table 1 and shown graphically by Fig. I.-") The dealers' prices, however, do not represent the prices received b" r the producers except for the last five months of 1918. Beginning with January, 1919, most cf the milk produced In the dairy district tributary to Chicago was sold thru the Milk Producers Co-operative ..arketing Company. This organization acted as a bargaining agent for the dairymen in the sale cf their milk and al 3 o manu- factured various dairy products from the surplus milk. The price paid to the producers by the Marketing Company was a pool price representing the average price obtained for all cf the milk, whether it was sold for fluid consumption and manufacture or wa3 converted into manufactured dairy products in the plants owned or leased by the company. The value of milk for manufacture, especial- ly during 1920 and 1921, was very much lower than the value of market milk and as a result the pool price to the producers during the entire period ranged from 1 to 10 percent below the dealers' price and on several occasions lell even lower than this. It will be noted from Fig. 1 that the pool price shows great irregularity for May, 1921, and has not been plotted for the ^The terms, "formula cost of production", "theoretical cost of produc- tion", and "computed cost of production" are here used synonomously as distinct from "real cost of production". ^References to c liar t s and tables are of the form used in publications of the Illinois Agricultural Experiment Station. 1 ■ . 7 Table 1.- Prices Paid for 3.5 Percent Milk in the Chicago Dairy District and the Formula Cost of Producing Milk Year 1918 1919 1920 1921 Month ^Dealers ’ price per 100 lbs. 2pool price per 100 lbs. 3Formula cost per 100 lbs. Dealers ' price per 100 lbs. Pool price per 100 lbs. Formula cost per 100 lbs. Dealers’ price per 100 lbs. Pool price per IOC lbs. Formula cost per 100 lbs. Dealers ' price per 100 lbs. Pool price per 100 lbs. Formula cost per ICO lbs. Jan . $ $ $ $3.76 $3.72 $3.76 $3.60 $3.56 $3.88 $2.50 $2 .25 $3.38 Feb . ---- — 3.50 3.46 3.70 3.35 3.28 3.81 2.35 2.11 3.11 Mch . -- — 3.00 2.97 3.40 2.90 2.75 3.70 2.35 2.11 2.80 Apr. — — — 2.80 2.77 2.99 2.75 2.61 3.40 2.35 2.11 2.41 May — — — 2.50 2.42 2.57 2.70 2.62 2.92 2.05 1 .02 1.99 June .... — — 2.50 2.42 2.35 2 .75 2.57 2.66 2.05 1.84 1.66 July 3.00 2.97 2.94 . 3.20 3 .10 3.40 2.30 1 .84 1 .99 Aug . 2.75 — 2.75 3.52 3.48 3.23 3 .70 3.51 3.69 2.30 2.07 2.18 Sept . 2.92 — 2.92 3.55 3.51 3.46 3.70 3 .33 3.56 1.50 1 .35 2.31 Oct . 3.32 — 3.32 3.63 3.59 3.82 3.70 3 «o3 3.81 1 .75 1 .57 2.54 Nov . 3.68 — 3.58 3.60 3.56 3.85 3.05 2.74 3.78 1 .80 — 2.68 Dec . 3.77 — 3.77 3.65 3.61 3.88 2.60 2.34 3.59 1 .80 2.65 Average — .... — 3.25 3.21 3.33 3.17 2.99 3.51 2.09 — 2.47 111 ilk prices obtained from the Bowman Dairy Company, Chicago, 111. 2Pool prices obtained from the Milk Producers Co-operative Market- ing Company, Chicago, 111. ^Formula costs from the original computations, Dept, of Dairy Huso., Univ. of 111. I?6I * « 0?6I * «— 6161 * « — — 8/61 •1?0 jdy ' m>£ l*Q S]»£ Jdj/ u VJ> PO 6 (r>p Uoj> 9 months of November and December of that year. For some months previous to May, the 10 percent spread between the dealers’ price and the pool price was not sufficient to cover the difference between the value of fluid milk and the value of milk sold or used for the manufacture of other products. As a result the Marketing Company bacame involved in financial difficulties and in order to take care of a part of the liabilities, the May price to the farmers was set at cne-half the dealers’ price. The dairymen, for the most part, were unaware of the financial condition of their co-operative organization and the May assessment car.e a3 a surprise. Approximately half of the members immed- iately broke their contracts, which provided for the sale of their milk thru the company, and began selling directly to the dealers. Following this the decline of the Marketing Company was rapid and because of the involved affairs of the organization, the November and December pool prices are not available. If the milk prices obtained by the producers are compared with the formula cost of production computations (Table 1 and Fig. 1), it will be seen that only twice during the period from October, 1919, to December, 1921, was the pool price as high as the formula cost of producing milk. For the other months, the prices paid to the farmers ranged from $ .11 to $ 1.25 per hundred- weight below the theoretical cost of production. It might be supposed that these conditions would have curtailed production and that a serious shortage of milk would have resulted. Contrary to this supposition, however, the Chicago milk market was virtually flooded during the greater part of this time and the district has probably never known as great a surplus of milk as was produced during 1920 and 1921. It is proposed in this thesis to trace the development of the cost of production formula and to analyze the seeming anomoly whereby an enormous surplus of milk was produced during the period of two years when milk prices ' were approximately 20 percent "below the theoretical cost of production. The formula and the method of its application in computing this theoretical cost of producing milk will he examined in order to determine whether or not the computed cost of production was the same as the real cost of production. In addition, a number of economic factors which influence the production of milk will he discussed in relation to the cost method of determining milk nr ices and some conclusions will he drawn from the study in regard to the practica- bility of fixing city milk prices by the use of cost formulas. * . 11 II. DEVELOPMENT OE THE COST FORMULA Events Preceding the Period cf Price Fixing In the spring of 1916 the Chicago Milk Producers Association and the milk dealers failed to reach an agreement in regard to milk prices for the ensuing six months . As a result, mil’ was withheld from Chicago for the first week cf April and the city ’ 3 milk supply was curtailed to such an extent that the dealers were forced to agree to the prices demanded by the producers.! The success cf this milk strike strengthened the dairymen's cc-operative organization and its membership was greatly increased, reaching a total of about 11,500 by October .2 The increase in the price of milk, however, did not keep pace with the increase in the price of feed which advanced rapidly in the fall of the same year (1916). During this period, mill feeds advanced at a much slower rate than corn. This was due to the fact that, altho corn normally consti- tutes about half of the concentrate ration for dairy cattle in the Chicago district, the proportion of the total corn crop so used is too small to have any great effect upon the aggregate demand . 'Till feeds, on the other hand, find their principal market in dairy regions and the prices of such feeds are much more intimately related to the prices of dairy products. Table 2 and Fig. 2 show by the use cf index numbers, the lag in milk prices as compared with corn and mill feed prices. The five-year average, January, 1309, to December, 1913, for each month was taken as the base, 100. ^Hoard's Dairyman, Apr. 14, 1916, p, 511. Lk Hews, Oct., 1916, p. 4. ■ . 12 Table 2.- Index Numbers of Milwaukee Wholesale Prices of Mill Peeds Chicago Corn No. 2, and Prices Paid Farmers for Milk in the Chicago District Base, 1909-1513 t 1915 1916 1917 Month ■4.1111 feeds 2Corn 3 Milk Mill feeds Corn Milk Mill feeds Corn Milk Jan . -- 106 126 110 105 132 93 138 172 115 Feb. -- 109 130 107 106 132 89 144 174 116 Mch . — 105 122 11C 103 125 90 154 189 116 Apr . — 108 121 103 102 122 117 171 232 170 May -- 103 117 103 101 114 124 163 251 171 June — 106 115 1C4 104 115 118 159 264 151 July — 109 116 102 105 122 122 177 306 167 Aug. — 108 114 110 111 124 121 181 273 163 Sept .— 103 108 106 114 129 115 171 301 158 Oct. — 103 100 SI 125 151 113 Nov. — 104 103 90 144 153 115 Dec . — 108 119 87 142 153 111 ^Daily reports of the Western Feed Market Bureau, Milwaukee, Wis . 2Board of Trade, Chicago, Annual Reports. 2>Milk News . 191 J > < 19/e > < 19/7 14 For the six months, October, 1916, to March, 1917, the milk index was practi- cally constant, ranging only from 111 to 115. Mill feeds, .however, increased from 125 to 154 while corn went from 151 to 189. This increase in feed prices resulted in the dairymen demanding and receiving a schedule of prices for the next six months (April to September ) which brought the milk price index up to lo3 as a;: average cf t ,e period. 1 :ill feed prices were on approximately the same level as milk, but corn prices had continued to ascend at a rapid rate and the average index number for the six months was 271. Y/hen the delegates of the Milk Producers Association met September 21, 1917, to discuss milk prices for the next six months, their demands were based upon conditions in the industry indicated by the price index. Mill feeds were 71 percent and corn 201 percent aoove the five-year average, while milk prices were only 58 percent above the pre-war level. National Food Administrator, ixerbert ..oover , had requested that milk prices be set from month to month in- stead o* the usual metnod cf setting them for six months in advance, and, there- fore, the asking price for October only was agreed upon at this time. This was determined by averaging the prices demanded by the delegates of the various locals of the association.^ The result was a price of $ 3.42 per 100 pounds of milk testing 3.5 percent. The delegates voted to demand this amount for October and at the same time authorized the milk board * * 3 of the association to set the price for the next five months provided it was not less than $ 4.00. The strength of the Milk Producers Association had been shown by the strike in April, 191a, and the increase of $ 1.12 over the September price of $ 2.30 board's Dairyman, Apr. 13, 1917, p. 542. ^Ib id. Oct. 5, 1917, p. 332. 3 A committee of the directors authorized to deal with the distributors and manufacturers in setting milk prices. - . . 15 was accepted by the milk dealers with much less objection than bad been an- ticipated by the producers. When the price schedule had bean made in April, 1917, the increased price paid the producer was passed or. to the consumers by raisin;.?: the retail price of milk from 9 to 10 cents a quart .and this was increased to 13 cents when the October price of $ 3.42 was agreed upon. Announcement of the new price was followed by a raid upon the office of the Milk Producers Association on September 26 by representatives of the State's Attorney. All of the books and correspondence of the association were seised for the purpose of obtaining evidence of any illegal practices of the producers in enforcing their demands for higher milk prices.^ On October 17, the Cook County grand jury returned true bills against the following members of the association who formed the milk board which passed finally upon the milk price and contracts for October: Charles K. Potter, Clinton J. Cooper, William J. Goodwin, Arnold Huber, and Eoy Lewis. The indictment charged restraint of trade by the formation of a combine to fix the prices at which milk should be sold in Cook County and to eliminate all competition between milk dealers in the selling of milk. Before these men came to trial, the secretary, W. J. Kittle; the treasurer, F. II. Peese; and a director, Pi . M. Omann, had been indicted on the same charges. Altho the eight officials were found not guilty on all counts when tne case was finally tried, the action of the State's Attorney in bringing the indictments because of the increased milk prices, encouraged the milk dealers to resist the demands of the producers in regard to the November urice . One company offered $ 3.00 per hundredweight^ and another 0 offered an average ^Milk News, October, 1S17, p. 5. ^Prairie Farmer, Nov. 17, 1917, p. 6. 3 IIilk News, February, 1918, p. 10. ■ * 1 . 16 price for the next five months of $ 3.21, while the locals of the association asked various prices ranging from $ 3 .42 to $ 3 . 71 . A number of small dealers in Chicago paid $ 3.42 and continued to receive milk after November 1, but the refusal of the larger companies to pay the price asked, again resulted in much of the milk being withheld from the city. With the question of the legality of collective action in the 3 ale of milk still undecided, the dairymen took care to claim that they were acting as individuals in withholding their milk altho there were charges that a few producers we re forced to haul their milk cacK to the farm and a few cans were dumped upon the read. A serious milk shortage was imminent when Harry A. Wheeler, Illinois Food Administrator, pre- sented a plan of mediation on November 2 which was accepted by both the dealers and the producers, and the deadlock was broken. In brief, his plan was as follows: ^ The producers were to accent $ c .22 for their November and December milk, but in the meantime a commission *v'&s to oe appointed which would determ ine the cost of producing milk and also decide upon what constituted a reasonable profit. Milk prices were to be set by the commission for six months beginning January, 1918. If $ 3.22 was found to be too low for November and December, the loss was to be made up by an added increase to the price for the following six months. The retail price of milk was to be reduced to 12 cents per quart for the months of Novem- ber and December and the investigation was to cover the cost of distributing milk as well as the cost of producing it. Altho some dissatisfaction was manifested by the nroducers because o: tae compromise price of $ 3.22, in general, they were content to await the decision of the milk commission, believing, however, that the price was below ^Prairie Farmer, Nov. 17, 1917, p. 6. . " 17 the actual cost of production and would be increased as provided for in Wheeler's plan. The Chicago Milk Inquiry Upon the agreement of the producers and the distributors to accent the findings of the milk commission, Mr. Wheeler, acting for the United States Food Administration, appointed as members of the committee the following ' persons : ^ John S. Miller, Attorney, Chairman W. J. Kittle, Secretary of the Milk Producers Association John J. Fitzpatrick, lanager of Borden’s Farm Products Company John Harris, President of the Wisconsin Butter and Cheese Company Eugene Davenport, Dean of the College of Agriculture, University of Illinois P. G-. Holden, Farm Advisor for the International Harvester Company Mrs. Edward P. Welles, Women’s organizations of Chicago John W . O'Leary, President of the Chicago Association of Commerce Lucius Teter, President of the Infants Welfare Society. In addition to these nine members, the City of Chicago, the State's Attorney, the Federal Department of Justice, the State Council of Defense, and the Chicago Federation of Labor were permitted to name representatives who acted in an advisory capacity. The Corrmlssion held public hearings from December 3, 1917, to Jan- uary 31, 1916, during which time evidence consisting of 5,874 pages of testi- mony was presented by the producers, the distributors, the City of Chicago, ^Hoard's Dairyman, Dec. 7, 1917, p. 695. V . ' . 18 t:ie State's Attorney, and the City Club. Testivnony was riven under oath and the hearings were- conducted somewhat after the usual i overt procedure altho greater latitude was permitted in the givin g of testimony and in cross-exam- ination of the witnesses. At times the real purpose of the inquiry was ap- parently lost sight of by some of the attorneys and the hearings were often enlivened by tilts between Charles S. Deneen, ex- governor of Illinois, who appeared for the Milk Producers Association, and Nicholas Michels, who appeared for state's Attorney Hoyne . Michels was apparently in search of evidence to use against the eight indicted officials of the association whose case was then pending, while Deneen had been retained as chief counsel by the defense. 1 The evidence relating to the cost of milk production presented by the producers was of two general kinds: 1. Cost investigations conducted by colleges of agriculture. 2. Cost records kept by individual dairymen in the Chicago dairy district . Of the first type of evidence, the studies of F. A. Pearson of Ill- inois and of 0. F. Warren of Cornell were outstanding. Pearson’s work was based upon cost accounting studies which had been conducted by t?.e Department of Dairy Husbandry for other purposes but which were available for the milk inquiry. The data he presented were obtained from 35 farms 2 on which there were 873 sows producing 5,583,892 pounds of milk during a two-year period, from the spr in of 181 -i to the spr in g of 1915. He found that the micellaneous minor costs of producing milk, such as interest, use of buildings and equip- ment, insurance, taxes, veterinary fees, medicines, salt, fly protector, etc., ■‘■Milk Inquiry, Hearing at Chicago, Dec. 7, 1917, p. 878. 2 Pe arson, F. A., The Cost of Milk Production, 111. A:r . Exn. Sta. Bui. 215, 1919. . IS approximately equaled, tue returns not milk, including appreciation in young stocx, the value of the manure, the calves sold, and a few small items. Hence, one ne o cost of producing milk was roughly equal to the expense of man labor and of feed exclusive of pasture. The feed ana labor cost, Pearson expressed in oSkuS Ox ooncodihes to which could be applied current values at any given- wi.i.e. ni s - in dings , as presented to the Commission, were summarized in the following formula for the cost of producing 100 pounds of milk: ■Grain — — 44 pounds Silage — - — — • 188 pounds Play 50 pounds Other rou.ghage 39 pounds Man labor 2.42 hours. The above formula represented the average annual cost of producing milk and as the monthly cost varied widely because cf the seasonal differen- ces, it was necessary to make some adjustments in the formula in order to determine the cost cf milk production for any one month. This, Pearson did by multiplying the average year cost by corrective factors representing the monthly deviation from the average annual price of Chicago milk for the ten years, ISO? to 1915, assuming that the variation in prices during that period was sufficient to st insulate a uniform production cf milk The percentage varia ticns follow: January 119.0 July 33.7 February 114 .3 August 94 .2 I !arch 10G.5 September 96.7 April 94.2 0c tober 109.2 May 73 .2 November 118.3 June 70.6 Pec ember 120.3 . ' 20 Professor Warren 1 s stud;/ v/as based upon conditions obtainin': in Hew York and altlio presented in slightly different form, showed substantially the same results as Pearson's work, thus serving as a check upon the accuracy of the latter. Many of the cost records presented by individual dairymen had been kept for a number of years under the supervision of the Department of Dairy Husbandry of the University of Illinois, Whil e others had been obtained since the question of de term in in;: the cost of milk production had been brought into prominence. As would be expected, these individual records showed widely vary in c costs because of t e differences in the season of production, t" e number of dry cows and the amount of young stock, the production of the herds, and the methods of management. Such variations were pointed out by the groups interested in maintain in low milk prices as indicating innacuracy in keeping the accounts. 1 J. B. Bain of the Dairy Division of the United States Bureau of Animal Industry who had charge of a cost accountin' investigation in Indiana, was called by one of the Consumers’ interest -roups with the apparent expec- tation that he would present evidence contradictory to the Pearson formula but instead, his work tended to substantiate that of Pearson. 2 As the testimony presented by the distributor and t. e consumer groups had very little bearing upon the subject of this study, reference to it will be omitted except in so far as it relates to a much argued question of account- ing practice. The producers held that farm-grown feeds should be charged to the cows at market prices less the cost of transportin' them to market. Those interested in low milk prices charged that this procedure resulted in a double I'.Iilk Inquiry, Hearing at Chica o, Jan. 17, 1913, pp. 5102-5111. 2;.iilk Hews, Jan., ISIS. p. 10. . . 21 profit, ons on feeds and another on milk, and maintained that farm- grown feeds should be charged at cost cf production. It was the consensus of opinion of the foremost men in charge of farm cost accounting investigations that feeds should be charged at market prices Industrial accountants brougl t in by the consumer group, however, testified that accepted accounting practice in industry required that raw materials be charged at cost.2 Professor Andrew Boss of Minnesota was called to Chicago by the City Club but when his views were found to be in accord with those of tie other farm accountants, he was permitted to return without testifying .3 The contention of the producers in regard to the correct method of charging farm- grown feeds was eventually upheld in the application of the formula which was evolved. Report of the Milk Commission VJhen the arbitration agreement was entered into on November 2, it was assumed that the hearing would be completed by the middle of December, and that by the first of January, 1918, the Milk Commission would announce prices for the next six months. That date, however, found the hearing only about half completed and the price agreement of $ 3.22 was continued thru January by common consent. It was not until February 2 that the report of the Commission was issued. The findings of the Committee were given out in tie form of a majority report signed by Miller, O’Leary, Teter , TJelles, Fitz- patrick, and Harris. At the same time dissenting minority reports were is- sued by Davenport, Kittle, and Holden. barren, G. F., Farm Management, p. 55, 1916. Deneen, Chaff. S., Erief of Argument for M. P. A., pp. 3-10 2Milk Inquiry, Hearing at Chicago, Jan. 15, 1918, p. 5112. Ibid. Jan. 17, 1918. p. 5520. 3 Ibid. Jan. 15, 1918, p. 5128. . 22 The report of the majority of the Milk Commission as sent to Food Administrator Wheeler was very different from what had been anticipated by the producers. .discouraged by the apparently conflicting evidence on the cost O- milk production, and seemingly desirous of giving Chicago twelve— cent milk, tre majori .y Oj oxie committee decided that the prices received bv the “producers before the war represented cc3t of production plus a reasonable profit at that time. They t..ieref ore concluded that by increasing the prices received during this pre-war period by a weighted index number of feed and labor, cost of pro- duction £'aU 3 a reasonable prox it would be obtained for t e period under disuute Stated in the words of the report:^- the of "Two methods of de terrain in, the cost of production were offered proceedings. One method is based on a formula iving quantity and p feec. and labor and incidentals required for production of one hundred in rice (ICO) pounds of milk. The second method is based on the price and quantity of butter fat contained in one hundred (100) pounds of ruilk."2 "The difficulty presented by the first method is due to inability to determine either cost of production or market price of ALL items of feed and quantities of each. There exists a variety of opinions on tie amount of feed purchased and t) e value of home grown feeds. The evidence offered by experts ana farmers as to their cost of production by the application formula intro- duced oy the producers showed wide variations of cost extending from $ 2.05 to $ 12 P er one hundred (100) pounds. This shows the impossibility of aster- reining coot of production from such evidence. ************************ « Viilk Hews, February, 1918, p. 1. 2 The second method was introduced by the representatives of the consumers . . 23 "It would appear from trie testimony that the dairy industry in the Chicago district had been a reasonably successful industry during a normal period of ei ht years precedin . the war period. Lands had increased in value - improvements had occurred. The financial worth of those engaged in the industry had aterially improved. That profits had not been excessive is indicated by the normal increase in the supply to fill the demand. Because O', the nature of ti e industry, had profits been excessive an over 3 upply would have followed; lad they been unsatisfactory, a shortage would have been the result . " "The Commission finds an unusual situation existing at the present time. This is a season of heavy surplus. The transportation congestion in the East and at the Seaboard has made it difficult to ship condensed milk and other products which under ordinary conditions would absorb the surplus. Ware- houses are already filled with these products await in- transportation. Chi- cago las reduced its milk consumption, occasioning even greater surplus." "The Commission have therefore selected as a base representing cost pf production and a fair profit, the average sale price per one hundred (100) pounds over the years 1908 to 1915 inclusive. The result, of course, does not represent present value, due to the large advance in cost of feed and labor since that time. The quantity of feed and labor per one hundred (100) grounds of milk, however, is the same in both periods. Considering the eight year period as a base and distributing feed and labor on a basis of 100 per cent total tl e Commission developed the following ratio: 19 Home Grown Grains 19 Mill Eeeds (wheat bran, wheat middlings, hominy, cotton seed meal, oil meal, gluten feed, dry salt). 35 Hay (including silage valued at the ratio of 3 tons of silage to 1 ton of hay) . 27 Labor 100 : . 24 "It was agreed by the Commission that variation in the price of those four units represents with sufficient accuracy when applied according to the above ratio the increase or decrease in the cost of production of milk. The only criticism made to this base or this plan was by a minority of the mem- bers of the Commission that the price to the producer during the eight year period referred to was not satisfactory to them." The weighted average cost of feed and labor for November, 1917, was found by the Commission to be 77 percent above the base period. The eight- year average price for November milk was therefore increased 77 percent and called tie cost of production plus a fair profit for that month. In a like manner the prices for the following seven months were determined using the November index for each month despite the fact that feed prices had increased greatly since that time, so that the index number of 177 was too low even at the tine the Commission reported the prices (Feb. 2, 1918). The following prices were 3et by the Commission for the ensuing six months:' February, $ 3.07 iarcn, § 2 . 8o ; April, $ 2,49; hay, $ 2.04; and June, $ 1.80. T ey further reccomraended that t, e November, Tec ember , and January prices be left at $ 3.22 altho according to their findings, the price should have been $ 3.13, $ 3.20, and $ 3.15, respectively. The dissenting members disagreed with the view of the majority of the Committee in regard to the assumption that prices received during the eight-year period represented cost of production plus a fair profit. They pointed out that tie distributors admitted before the Commission that prices were formerly named by the dealers without giving the dairymen an opportunity to bargain. This, they declared, resulted in the naming of prices which, at best, gave bare cost of production and did not include a profit. The fact that the i ilk Producers Association had its inception during this period was 25 taken as proof that prices were too low. Concerning this, W. J. Kittle says in his minority report: 1 "The only testimony on the part of the distributors as to the methods pursued by them before April, 1916, in fixing the price of milk is the tes- timony of the superintendent of the El : in branch of Borden's Condensed Milk Company , who s tutor, that it was the practice of his distributing company to have the superintendents make the inquiry about the prosperity or lack of it among the dairy farmers and then to meet in Haw York City and there fix the pri .. 3 for the dairymen ' s milk upon the general prosperity or lack of it among the farmers as observed by the superintendents, and without any investigation 0 ^ or regard to uhe cost of milk production] in other words, to fix it unon 'what the traffic would bear"'. "Prices thus fixed without any consultation with the farmers brought so many hardships to the farmers that it led to the forming of their organi- sation with tne object of preventing a continuance of this arbitrary fixing of prices and terms cf sale by the distributors. Under such conditions, this was found necessary, not only to preserve the herd of the individual farmer but to preserve the milk industry in the entire dairy district which serves tie city of Chicago itself. The average of ei^ht years adopted by the major- ity of the Commission covers those intolerable years of struggle with the distributors and its application causes tie Federal Government to prolong txiose bad conditions in the settlement of this controversy." Both Kittle and Holden objected to the method of price determination as adopted by the Commission, as well as to the base period which was selected. k I ilk News, Feb., 1918, p. 8. : maintained, t^at to cost formula as presentsd. "by Pearson, should *be used since it had been substantiated by the work of other investigators. Holden, in his minority report, says: ~ "The majority of the Commission in fixing the prices to be paid to tne producer for milk ignore the facts brought out in the sworn testimony of the witnesses in the hearing to determine the cost of milk production. The members of the Comission who have signed the report did not consider in their deliberations the evidence given by the authorities called to testify from the United States Department of Agriculture ana the agricultural colleges; nor the testimony of tne dairy farmers themselves who gave substantial evidence based on cost accounting and upon years of experience in the dairy business. In fairness to all concerned, producer, distributor and consumer, the findings of the Commission should certainly - ave been based upon the 'whole of the evidence. This was not done." Dean Davenport in an open letter to Hood Administrator 7/heeler , up- held tne method of price determination advocated by the majority but he agreed with Kittle and Holden in regard to the selection of the eight years, 1908 to 1915, as a base. 2 He believed that prices during that period covered cost of production only, and in order to obtain the desired cost of production plus a fair profit for the months under dispute, he thot that the base price should have been increased by ten percent before being multiplied by the index num- ber, 17?. xiiat tne Commission failed to fulfill its obligations and deliberately violated its instructions, was freely charged by the dissenting members. Dean Davenport says: "I must with regret express the conviction that my own opinions and x Milk News, Mch. , 1918, p. 9. 2TMH rm Q_10 27 information and those of other agricultural college men and of the producers counted hut lightly in the councils of the Commission." "The majority proceeded from the assumption that Chicago must have 11-cent milk. Upon that point I obtained a clear expression of intention. This in my opinion violated both the instructions and the authority of the Commission . " Adoption of the Modified Formula Upon the announcement of the findings of the Committee and the fix- ing of the February milk price at $ 3.07, many producers again withheld' milk from Chicago. A 3 late as February 16, ten stations in Illinois and two in Wisconsin x^ao. nox yet started shipping milk.l In response to numerous tele- grams of protest, Food Administrator Hoover sent Hr. W. E. Lamb to Chicago to investigate tl e claims of the dairymen. „e called together the Milk Commissior to hear objections from a committee of the producers. Nothing was accom- plished by this meeting as the majority of the Commission refused to change the prices ori dnally set Scarcely had Hr. Lamb returned to Washington w-en resolutions of protest adoptee by a convention of the producers held at LI :in, February 12, resulted in hi 3 again being sent to Chicago. Lis second trip was more fruitful. After conferring with the Milk Commission, .u*. Lamb announced a modification of the Commissions report and a new set of prices. 3 Table 3 shows the prices set by the Commission and Lamb's modified prices based upon index numbers for each month instead of upon *Milk News, Feb., 1913, p. 4. board's Dairyman, Mch. 8, 1918. 3 Milk News, Apr., 1918, p. 2. ■ ■ 28 Table 3.- Comparison of the Chicago Milk Commission Prices, Lamb’s Modified Prices, and the Prices Received for Milk in the Chicago District Milk Commission price computations Lamb ' 3 price computations Prices received for milk 191? Nov. $ 3.13 $ 3 .13 $ 3.22 Dec . — 3.20 3.44 3 .22 1918 Jan, — 3.15 3.21 3.22 Feb. 3.07 3.15 3.0? Mch. 2.83 2.89 2.90 Apr . 2.49 2 .85 May — 2.04 2.05 June 1.80 1 .80 T9 the November index of 177, originally used. According to Mr. Lamb's com- putations, there was due the producers on March 1 9 21 cents per hundredweight because of underpayment for milk during the- preceding months, and this amount he added to the March computation of $ 2.89, making the price $ 3 .10 . The pi *c e i or eaci. succeeding month was to be set on the 15th of the month pre- ceding, using a new index based upon feed and labor at that time. Tills was accepted by the producers but the manufacturers of condensed milk refused to pay anything more than, the original prices sot by the Commission, claiming that this was the only thing to which they had agreed. After several con- ferences between the Milk Board, the distributors, and the manufacturers, a compromise was effected and prices were fixed as follows: March, $ 2.90; April, 2 . o5 ; -ay, 5 ~ . -c; and June, S 1.80. These prices were adhered [jO eg all -ar ties and later tu.e July price of $ 2.30 was set 'ey agreement. June marked the end of the agreement between the producers and the distributors which had been entered into November 2, 1917. During the eight raontns suosequent to that agreement, milk prices had been equal to the Com- mission prices j.ro two months only. One of those months (February) had been marked by an unorganized milk strike, and the price for the other month (June) had been agreed upon as a compromise with little reference to the findings of t" e Commission. Tne miL.c producers disclaimed all thot of ever again refer- rin.g tneir difficulties to a cor.ni is s ion and announced their willingness in the future to meet the dealers and fix prices, under the protection of the Food Administration, upon any basis which would give them cost cf production ulus a fair prof it. ^ Accordingly in June, the producers and the dealers met with Mr. Lamb and adopted the cost formula which had been used by the Milk C omission for distributing, on a percentage oasis, the costs of producing milk. Under the ^'lilk News, Apr., 1918, g .3 . . . 30 new agreement, however, prices were to be determined by applying current val ues of feed and labor to the formula without reference to the base period of prices used by the Commission. The formula adopted was a modification of the one presented by Pearson and has since become widely known as the "Modified Pearson Formula". Because of the difficulty of determining the value of silage which has no real market, the 183 pounds of silage involved in the original formula was translated into terms of hay and labor. The new formula then called for th fol lowing amounts of feed and labor to produce ICO pounds of milk; 24 pounds of mill feeds 20 pounds of farm-raised grain 110 pounds of hay 3 hours of man labor. This represented the average year cost of producing milk and in order to obtain the cost for any one month, the percentage differential for the corresponding month was to be applied. These monthly percentages were slightly modified by assuming that the September price represented 100 percent, or the average of the year. This gave the following seasonal differentials: January 117 July 85 February 112 August 95 ! larch 105 September 100 April S5 October 107 May 80 November 115 June 70 December 119 It was a greed that th .e average value of Illinois . shed by the Bureau of Crop Estimates of the United * 31 of Agriculture should represent the value of the farm-raised -rain . The price of mill feed was tacen as the average wholesale price in the Chicago district of the following feeds: Ajax, Unicorn, Sucrene, International Spe- cial Dairy Feed, PJQ Dairy Feed, Schumacher, gluten feed, hominy feed, brewers' grains , cottonseed meal , linseed oil meal , bran, and rniddl ing s . To this was adueu for the _ irst tnree montns, g 5 per ton to cover freight, dealer's ' pro- fits, and the cost of hauling the feed to the farm. After October, 1518, this t was increased to $ 7. During the period of this study, a few changes in this list ci mill feeds were necessitated by the withdrawal of feeds from the mar oe t out substitutions were made so that the average price was unaffected T. e value o. nay in tne :ost computations was taken a 3 the average farm volue of all kinds of hay in Illinois and Wisconsin as quoted by the Bureau of Crop icji.iifa.weo. A laoor rate of 30 cents per hour was agreed upon and has been used in tne computations tliruout tne period. These conditions were acceptable vO bom the producers and the dealers, and this method of price determination was into effect for the first time in August, 1918. In this manner was developed t. e formula cost method of determining milk prices to meet an emergency created by tne abnormal conditions arising ro 18 W° r l ^ bar. That his method successfully fulfilled the requirements of tne time, n&s already been shown (page 5) but that it would l.ave failed liai i 0 oeen continued thru the next three years i 3 evident from a comparison of formula and real prices (Table 1 and Fig. 1). In the following pages will oe considered some of the possible reasons why the cost formula could not V S . 34 A study of the principal factors causin''- variation in the cost of producin’ milk shows the wide range in cost which is possible. Some of these factors affect the unit requirements of producing milk, while others affect only values. A few affect both unit requirements and values. Chief among these is the variation in the amount of milk produced annually by a cow. This affects three items of expense: (l) housing, (2) labor, and (3) feed. It is quite evident that the expense of housing a high producing cow is the same as that of housing a low producing cow. Hence , the cost per 100 pounds of milk decreases as the production per cow increases. This item of cost is a minor one and amounted to less than four percent of the total cost on the farms studied by Pearson but it illustrates the danger of the generalization that ti e minor costs of producing milk equal the returns not milk 'page 18). Altho this may hold true for the average of a -/rout) of farms, it may be seen that on farms with a housin' cost lower than the average, the returns not mil It may be larger than the miscellaneous costs and therefore these dairymen would get a profit which hoes not appear in the formula price. Such a profit would necessarily be small but milk is produced upon a very narrow margin and even this difference mi -i t be great enough to induce a farmer to continue dairying when a formula cost of production would indicate that he was selling his milk at a loss. There is also a negative correlation between the annual production of milk per cow and the labor requirement per 100 pounds of milk. Slightly more labor is required in milking and caring for a high producing cow than is required for a poor cow but the increase is not proportional to the increased mil’.': yield so that the requirement per 100 pounds of milk is appreciably less for the better cows . Hence, altho the formula calls for a fixed amount of labor per hundredweight of milk (3 hours), a dairyman with a herd of hi h . ' • 35 producing cows may be able to produce milk with less than this amount of labor thereby lowering his cost to a point below the average. The amount of feed required to produce ICO pounds of milk is another important item which is influenced by the annual production of milk per cow. A recent study! 0 f the feed consumed and the milk produced by 1,605 Holstein cows indicates how widely the feed consumption may vary from the average re- quirements given in the formula. Table 4 gives the data pertaining to the production of milk and fat by these cows and to their feed consumption. By computing the total digestible nutrients in the feed consumed by the different groups it is possible to compare the amounts of feed required to produce 100 pounds of milk by cows of various productivity. In the case of these 1,605 cov/s , the nutrients consumed per unit of product and the annual production of milk were found to be negatively correlated (-0.4180 + .0133). Their relation may be expressed by the following formula: Y-= • '-’k + 14 95 where Y = the total digestible nutriexits in the .feed consumed per 100 pounds of milk and X = the annual production of milk in hundredweights. Stated in other words, as the production per cow increases, the nutrients consumed per 100 pounds of milk decreases at an ever decreasing rate. Fig. 3 3hows tlii'S relation graphically. By the use of the above formula, the amount of feed required to produce 100 pounds of milk by cows of varying production may be compared with the requirement for the average cow of Pearson's study. Table 5 shows a number of such computations. Prom these data it may be seen that a cov; with an annual production of 10,000 pounds requires 18 percent less feed to produce 100 pounds of r.ilk than does a cov/ with an annual production equal to the average of all of the cows on the 35 farms studied by Pearson. ^Unpublished data compiled by the author . . 36 Table 4.- Relation Between the Annual Production of Milk per Cow and the Amount of Feed Consumed C-rou; p Production of milk per cow per annum 1 Number Average Feed consumed annually per cow per cow Concentrate 5 s Succulen roughage t Fry roughage Pounds Pounds Pounds Pounds Pounds I 2,500-3,500 21 3,081 746 5,318 1,500 II 3,500-4,500 79 4,094 1,050 5,764 1,498 III 4,500-5,500 183 5,065 1,352 5,925 1,783 IV 5,500-6,500 254 6,032 1,562 5,279 1,997 V 6,500-7,500 309 7,013 1,767 6,494 2,167 VI 7,500-8,500 266 7,972 1,993 6,744 2,280 VII 8,500-9,500 221 8,956 2,230 6,762 2,311 VIII 9,500-10,500 137 9,938 2,564 6,748 2,365 IX 10,500-11,500 76 10,921 2,829 6,684 2,184 X 11,500-12,500 33 11,943 3,117 6,139 2,054 XI 12,500-13,500 19 12,864 3 , 769 6,600 2,522 XII 13,500-14,500 4 13,710 2,989 4,456 2,399 XIII 14,500-15,500 1 15,389 4,386 8,464 1,924 XIV 15,500-16,500 1 15,825 4,985 11,869 3,561 XV 16,500-17,500 1 16,711 4,261 5,849 2,089 Tota / Digestible M u trienl$ per 100 Pounds oPPU/k 38 Table 5.- Relative Amounts of Reed. Required to Produce IOC Pounds of Milk by Cows of Various Productivity Annual production of milk per cow Relative amounts of nutrients consumed per cwt . of milk Pounds Percent 3,000 137 4,000 123 5,000 112 6,000 104 6,511^) 100 7,000 S7 8,000 91 9,000 86 10,000 82 ^ Average production of the cows on the farms from which the data were obtained for the cost formula. . . 39 On the other hand, a cow which produces only 3,000 pounds of milk annually requires 37 percent more feed per hundredweight than the average cow upon which the formula is based. These data indicate the wide range in feed cost due to the variation in the annual production of milk per cow. Overhead or fixed expense in dairying has already been considered in connection with the variation in the cost of milk production due to high and low producin’: cows, but in the previous discussion it was assumed that the investment per cow in buildirw s and equipment was uniform on the different farms. Such, however , is not the case. Some of the farms on which milk is . produced for the Chicago market are improved with large well-built barns hav- ing modern equipment in the way of steel stanchions and mangers, individual watering cups, litter carriers, and ventilating systems. All of these things tend for convenience in taring for the cows but on many farms the barn and equipment may represent an investment of five or six thousand dollars. Inter- est upon this investment and depreciation of the buildings make a comparative- ly large item of expense in producing milk on these farms . Upon other dairy farms in the same locality cow barns are little more than shelters for the cattle and represent an investment of but a few hundred dollars. The depreciation of these buildings ana the interest on the capital invested in them constitute but a very small part of the cost of producin : milk. The difference in the cost of housing cows in these two classes of buildings may be illustrated by two dairy farms in DuPage County, Illinois.^ On one of these farms the barn was of the type commonly found on the best dairy farms in that re ~ior. and the cost of housing a cow for one year amounted to S 17,13. Within one and one-half miles of this farm was another dairy with ^Cost Acct. I 3 334 and 3 15 , Dept, of Dairy Eusb . ,Univ. of 111. 1 40 a very small investment in buildings. The cost of housin'- a cow for one year on this farm was only $ 2.10, or less than one-e i ght? of the cost on the neighboring farm. neither of these dairies represented the extremes of investment in buildings. The one with the low housing cost complied fully with the Chicago health regulations regarding dairy buildings, and the one with the high cost was being operated as a practical dairy farm and should not be confused with the so-called "millionaire far.,." which is rarely operat- ed at a profit. Between these two classes of farms, are dairies' showing all gradations of housing costs, each of which affects the cost cf producing milk, Another item of cost in the production of milk which may be consid- ered as overhead expense is interest on the capital invested in the cattle. In the case of grade cows, this does net cause variation in the cost cf pro- ducing milk because the value of grade cows is determined by the profit they will return, measured in part by the production of the cows . Therefore, al- tho one dairyman may own a herd of cows which is twice as valuable as his neighbor's herd, the greater interest charge is approximately balanced by the increased profit d e to the lower cost of reduction. The value cf a herd of good pure bred cattle is much greater than the value of a grade herd and it may seem that interest on the larger invest- ment would, in this case, affect the co3t of producing milk. However, the appreciation in value of young stock ana the 3 ale of calves would be greater for the pure bred cattle and this credit would be balanced against the miscel- lan . in; milk and the formula would tb srefor . Hence, it may be concluded that variation in the interest due to different amounts of capital be in * invested in the cattle does not introduce any appre- ciable error in a formula which is based upon average costs. ■ 41 In addition to the 33 two important factors (production per cow and overhead expense) which cause variation in the cost of producing milk on different farms, there are numerous other causes of a minor character which have similar effects. Among these variable factors maybe mentioned: dis- tance of the farm from the plant or the shippin- station; the farmers’ ability as feeders to obtain a large milk yield economically; economies in buying feed thru car-lot purchases by operators of large dairy farms; saving in labor resulting from the use of milking machines; losses fro:;': disease, especially from tuberculosis and abortion; special markets for surplus youn stock from pure bred herds; etc. All of these factors tend to divide dairymen into two classes. One group includes the farmers who are producing: milk at a cost below the average of the entire district, and the other group includes those who are producing at a cost above the average. The latter group, or high cost producers, will be discussed in Chapter IY in which are considered the reasons for the con- tinued production of milk when prices are below the actual as well as the theo- retical cost of production. The relation of the first group, or low cost producers, to tie formula method of determinir g mil': prices may be shown by a. hypothetical case . Let it be assumed that milk prices in a dairy district supplying a certain city are to be fixed by the application of a cost formula which correctly measures the average cost of producing milk in that region. The better dairymen with a cost of production below the formula price are now making a profit, the mag- nitude of which is determined by t eir efficiency. The poorer dairymen with a co 3 1 above t c formula price are losing money and it mi ht be supposed 'that they would, forsake dairying for a more profitable enterprise. For various reasons which will be discussed later, they continue the production of milk ✓ 42 at an actual loss, and a part of the city’s supply is therefore still obtained from this group. The efficient dairymen finding milk production profitable, attempt to enlarge their profits by purchas in or raisin more cows and by in- creaain • the production of those already owned by heavier feeding or per bar s x by increasing tie frequency of milking from two to three times a day. Since the amount of lev/ cost milk has been increased, the average cost for tie en- tire district is now lower than the average at the time the formula was adopted 'The agreement for fix in--: milk prices on the formula basis does not pro- vide that the people in the city shall consume all of the milk produced, and as the distributors mu3t pay the old average cost of production, they cannot lower retail prices to stimulate consumption. The result is a surplus of milk which must be manufactured at a loss by the dealers or be disposed of in some marine r by the pr o due e r s . If tu3 dealers tabe care of the surplus, they cannot Ion - pay ire formula price ana remain in business except by increasing the re- tail price of milk which would curtail consumption and result in a still great- er surplus. If the producer takes care of the surplus at a loss, he is not receiving "tAe formula cost of production. In either event, the cost met! ' of fixing milk prices has failed, even with this hypothetical case in which it S v/as assumed that the formula correctly measured t e average cost of milk pro- duction. From the fore coin - discussion it may be seen that not only does the cost of producing milk vary on different farms, but that the average cost fluctuates also, according to the proportionate amounts of milk produced by the more off relent and by the poorer dairymen . Furthermore, it appears that witn a fixed price for milk, the new average will in all probability be lower than tie old. ' 43 Tile Proportion of Purchased and Farm- :r own Concentrates Fed to Dairy Cattle Varies Under Different Conditions The proportion of farm- grown and purchased feeds in the concentrate part of the cost formula was based upon the proportionate amounts fed on the 36 farms in Pearson's study (45 percent farm-grown and 55 percent purchased). Purin tiie period of ris study (1914 to 1916), a normal relationship existed between the prices of farm-grown grains and purchased feeds (Fig. 2). After that time, however, the two classes of feeds were unequally affected by the factors determining prices and the result was a widely varying spread between the two price levels. For instance, it was shown (page 14) that during the fall of 1917, corn prices had advanced 201 percent over the pre-war neriod althc mill feeds had increased but 71 percent. Fran conditions such as these prevail, dairymen find it profitable to 3ell their corn and to but mill feeds, thereby changing the proportion of farm- grown and -purchased feeds normally usee.. This suggests the possibility of producing milk at a cost somewhat below the formula price since the latter is based upon a fixed proportion (approximately equal parts) of purchased and farm grown feeds. In other words, if dairymen use a greater proportion of the cheaper feed, the real cost of producing milk is less than the theoretical cost. This is what actually occurred during the last fourteen months of the period covered by this study. The prices of all kinds of feeds declined but the price of corn fell at a much more rapid rate than mill feeds, and the result was an abnormal price relation which was just the reverse of the one wnich occurred in 1917 when the price of corn was relatively much higher than the price of mill feeds. Table C and Fig, 4 show the ratio between mill feed and corn prices. ■ . . 44 Table 6.- The Ratio of Corn and Mill Feed Prices ^ Corn price = 100 percent Year 1918 1919 1920 1921 Jan. — — 134 149 185 Eeb . - 138 142 182 Mch . — — 137 138 180 Apr . — — 125 132 177 May — 114 127 178 June — — 107 115 163 July 112 110 171 i i i i i i i W) 115 127 176 Sept. 105 110 120 194 Oct. 116 135 130 197 Nov . 133 152 176 257 Dec . — 130 153 196 255 ^ Corn prices are t e average of Illinois and Wisconsin farm prices from the U.S.D.A. Bur. of Crop Estimates. Mill feeds are the average wholesale prices of fourteen feeds from tie Western Peed Market Bureau and from ffa.nufactu.rer 1 s quotations. /K Oct ■ Jan Apr- July Oct Jan Apr- July Oct- Jan f\pr July Oct 1918 — » * !$(9 > < 1910 > < 19ZI 46 From September, 1918, to October, 1920, the average price of the fourteen mill feeds U3ed in the formula price computations was 24 percent neater than the value of corn. The 192C corn crop, however, acid at such low prices that altho mill feeds continued to decline, the average cost of the fourteen feeds was about 80 percent greater than the value of corn. This spread was increased to 150 percent by the decline in corn prices attending the harvest of the 1S21 crop. In Table 7 and in Fig. 4 also, is shown in the form of percentages, the ratio between the formula cost of producing milk and the price received by the farmers. A comparison of this ratio with the mill feed and corn ratio indicates that the proportion of farm- Town and purchased feeds varied with the relative prices of the two classes of feeds. In other words, since a surplus of milk was produced when milk prices v/ere below the formula cost of production, it may be concluded from the correlation of the two ratios shown in Fig. 4, that the real cost of producing milk followed corn prices more closely than it did mill feed prices and this was possible only if a Treater proportion of farm-grown .rains was fed. V/ere it not for the fact that the cost accounting studies on most of tue farms involved in Pearson's study were discontinued before this period of abnormal price relations, it would be possible to compare the amounts of farm-grown and purchased feeds used during the period under consideration, with the proportion called for by the formula. However, records are avail- able on three of the farms and Table 8 shows the changes in feeding practice which occurred on these farms during the period of relatively high-priced mill feeds. Each of the three fanners decreased the pi’oportion of purchased feeds as the price of mill' feeds became relatively much greater than the price o. fare- grown feeus. 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