Prof. Jayanth R. Varma's Financial Markets Blog

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Prof. Jayanth R. Varma's Financial Markets Blog, A Blog on Financial Markets and Their Regulation

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Sat, 19 Aug 2006

Alleged Manipulation of CME Cash Cheese Market

The cash cheese market at the Chicago Mercantile Exchange (CME) has been in the news recently for alleged price manipulation. (For example, "CME in cheese price fix investigation", Financial Times, August 17, 2006.). Six senators including Hillary Clinton have demanded an investigation.

A decade ago, the cash cheese market used to be at the National Cheese Market and one reason for moving the market to the CME was the hope that oversight by the Commodities Futures Trading Commission (CFTC) would clean up the market. It appears that the political establishment is still not satisfied about the integrity of the market.

On closer analysis, it is difficult to see how the integrity of this market can ever be ensured as long as the US government manipulates the US milk market with the Federal Milk Marketing Order (FMMO). FMMO sets minimum prices paid to farmers for liquid milk based partly on cheese prices. Essentially, FMO regards liquid milk as a combination of butterfat, proteins and other solids. The weighted average price of hard (cheddar) cheese, dry whey and butterfat determines the price of what FMMO calls Class III milk. It then adds a price differential (varying across regions) to this to get the price of liquid milk (Class I milk).

The FMMO relies on cheese prices reported from surveys by the National Agricultural Statistical Service (NASS), but since practically all large cheese transactions are based on CME prices, NASS reflects CME prices with a lag. Thus by manipulating CME prices, the big diary companies can affect prices determined under the FMMO.

This means that the big diary companies have every incentive to manipulate CME cash cheese prices. Milkweed reported in May 2006 that “A major focus of CFTC’s investigation centers on Cheddar cash market activities by Dairy Farmers of America – the nation’ largest dairy farmers’ cooperative” over the last five years. Complaints have also been made against Kraft.

The best that the US senate can do to clean up the market is to get rid of the depression era legislation that mandates government intervention in the milk market.

Posted at 15:19 on Sat, 19 Aug 2006     View/Post Comments (0)     permanent link