Westpac economists upgrade forecasts of Fonterra's payout this year and next; say NZ drought conditions will drive global prices higher still; drought areas extended

New Zealand's drought will keep driving global dairy prices higher - with the record levels set in March 2011 under threat, Westpac economists predict.

The comments come after dairy prices surged 10.4% in the latest global auction overnight.

Westpac economist Nathan Penny says the bank has increased its 2012/13 season payout forecast for Fonterra to NZ$6.10/kg, up from NZ$6. This compares with Fonterra's own forecast, updated last month for the 2012/13 season payout of $5.90-6.00 (for a 100% share-backed farmer).

Westpac has now also increased its forecast payout for  2013/14 by 20c to NZ$6.40.

"In the short term we expect the local drought conditions to drive world dairy prices higher, with the record March 2011 level under threat," Penny said.

The comments come as the Government today widens the number of areas officially in drought. A drought was declared in Northland last week and today Primary Industries Minister Nathan Guy extended drought declarations to cover South Auckland, Waikato, Bay of Plenty and Hawkes Bay regions. The Auckland area covered includes the Auckland Council area south of the Harbour Bridge, while included in Hawkes Bay are Coromandel and Taupo.

Penny says the increased forecast by Westpac offers some respite this season as farmers struggle with drought conditions.

"But for many this increase will not be enough offset falling milk production volumes. Our upgrade to the 2013/14 payout forecast hints at recovering farm incomes next season, particularly if growing conditions return to normal over the winter months."

Penny says dairy commodity prices have spiked higher as New Zealand supply has tightened rapidly, owing to drought conditions in key dairy-producing regions. "GlobalDairyTrade prices have risen 54% on a trade-weighted basis since the May 2012 trough in dairy prices. Over the same period the NZD has increased by around 7%, only partially offsetting the world dairy price gains."

He says while Westpac sees the current drive higher of global prices as temporary, the longer-term outlook remains positive with the world economy set to improve over 2013 "and growth centred in the hungry part of the world (eg. China)".

"These factors will underpin world dairy prices for the 2013/14 season, but we expect a high exchange rate to cap the [Fonterra] payout at around NZ$6.40. With world growth improving further and a depreciating dollar over the 2014/15 season, we expect the payout to increase to NZ$6.70.

Meanwhile Guy says the extension of the number of areas officially declared as in drought recognises that farmers across the North Island  are facing extremely difficult conditions.

“The declaration of a medium-scale event means that extra Government funding will now be available to Rural Support Trusts. These organisations work closely with farmers, providing support and guidance in what is a very tough time," he says.

“I realise these can be stressful times for rural families, and they need to know who to turn to for support.

“There will also be Rural Assistance Payments (RAPs) available from Work and Income, through the Ministry of Social Development. These are equivalent to the unemployment benefit and are available to those in extreme hardship."

Guy says the entire North Island is dry, and he is keeping a close eye on other parts of the East Coast, as well as Wairarapa, Manawatu and Taranaki.

"Farmers badly need some rainfall during March and April to help prepare for the winter and set up for next spring. It’s important to note that support is available from Government agencies in all regions, even without a drought declaration. Farmers should contact IRD if they need help or flexibility with making tax payments, and standard hardship assistance is available from Work and Income.

"It's great to see that banks are offering flexible finance options in these tough times as well. The conditions are also creating challenges for lifestyle block owners, and we urge them to take action early,” Guy says.