New Zealand bank ASB is predicting a gloomy outlook for the dairy sector in the southern hemisphere with further cuts to milk prices on the way.

Dairy prices are low and staying there a while longer, it predicts and says that after a drought-driven false dawn in early 2015, milk prices are at their lowest since 2009.

"We expect prices to remain low over the next few months, before finally lifting in earnest. As a result, we have adopted Fonterra’s lower 2014/15 milk price forecast of $4.50/kg, but, almost more importantly, we have also cut our milk price 2015/16 season forecast to $5.70/kg, versus $6.20/kg previously."

However, on the flipside, we now expect the Reserve Bank (RBNZ) will cut the Official Cash Rate (OCR) this year. Inflation is low and going nowhere fast, with the risks increasing that the RBNZ misses its inflation target of 2% becoming more real.

It goes on to say that a lower interest rate outlook in New Zealand has taken some of the hot air out of the NZD. It has fallen against most currencies recently, and the bank expects it to hit USD 0.7000 later this year.

So why have prices taken another leg lower?
First up, New Zealand production has got a second wind, with the drought impact turning out modest – the bank expects production to lift 2% this season from last season’s level despite the drought.

Second, ASB goes on to say, is that at the same time, milk demand is scarce. Importantly, the Chinese economy has struggled of late, it says.

"We still expect production growth to slow down so that demand catches up, but this point will come later than previously expected. Many farmers are losing money at current farmgate prices, so dairy production is likely to slow over 2015.

"Meanwhile, Chinese officials have moved to boost the Chinese economy. The Chinese economy usually responds well to stimulus, but the current weakness may require additional stimulus moves and thus demand may take longer to gain traction than first thought."