Dairy prices are bubbling higher, nearing a five-year high. The widely-followed Class III milk futures, which is used to make hard cheeses, recently topped 20 cents per pound for the first time since 2014. Prices are rallying due to stagnating production and renewed hopes for increased dairy exports to Mexico, Canada and China.

Prices have been depressed for years as U.S. milk production rose faster than demand. Dairy cows are producing far more milk than they used to due to breeding, farm management and improved nutrition. Meanwhile, U.S. per capita dairy consumption has been falling, driven especially by consumers moving away from drinking milk.

Adding insult to injury, trade disputes reduced foreign demand for U.S. dairy, which had been the sole factor keeping the industry afloat. Last year, prices fell below 14 cents per pound, a ruinous level for producers.

While this recent rally will inject life back into the industry, the rally is coming too late for many U.S. dairy producers. More than 20 percent of dairy farmers quit the business during the last five years, part of a larger pattern of farm consolidation and bankruptcies that has been plaguing farmers across the Heartland.

Boom, Bust, then Boom Again?

The milk market’s swings are a sour reminder of boom and bust cycles that are pervasive in commodity production.

High prices encourage producers to invest in expanding operations, which leads to rising production and, eventually, an oversupplied market. Excess supplies cause prices to collapse lower, encouraging producers to cut back on production, but those who expanded too fast or took on heavy debt loads can find themselves facing bankruptcy. These cutbacks and bankruptcies cause supply to shrink too much, creating a shortage and high prices, starting the cycle again.

This pattern is especially pervasive in industries with a long lag time between investment and production, like mining operations or oil drilling, where there may be years of exploration, development and construction before the commodity is produced. Similarly, it can take multiple years for livestock or dairy producers to expand a herd before the oversupply is recognized. Even grain producers, who have a relatively short six-month lag between planting and harvesting, can fall victim to this pattern.

As a result, it is especially important for commodity producers to manage their long-term risks with careful budgeting and utilizing the futures markets where appropriate to offset risk.