The dairy industry is compared with the iron ore sector because milk powder, butter and cheese are New Zealand's largest exports, with China being the main market, while iron ore is Australia's biggest export with China the primary destination.
The performance of the dairy and iron ore sectors will have a big impact on the New Zealand and Australian economies over the next few years.
Australia's mining boom came on the back of China's booming economy, which spurred a huge number of infrastructure projects and high-rise apartments, all of which required steel.
Chinese steel production soared from just 182 million tonnes in 2002 to 684 million tonnes last year, which generated a huge increase in demand for iron ore because approximately 1.6 tonnes is required for every tonne of steel.
Australian iron exports surged from 157.4 million tonnes in 2000 to an estimated 463 million tonnes in the June 2012 year. Meanwhile, iron spot prices leaped from US$28 a tonne in 2000 to a high of US$180 ($224) a tonne in 2011.
Through a combination of volume and price growth, Australia's iron ore exports soared from just A$3.8 billion ($4.8 billion) in 2000 to an estimated A$62.8 billion in the June 2012 year.
This has created massive economic activity in Australia, particularly in the Pilbara region of Western Australia.
There has been substantial capital expenditure on new mines, railroads and port facilities, which have attracted a high number of New Zealanders seeking highly paid jobs.
The Australian iron ore sector has been expanding rapidly because it expects Chinese steel production to rise to 1.1 billion tonnes per annum compared with around 700 million tonnes at present.
The June Quarter Resource and Energy review, published by the Australian Government's Bureau of Resources and Energy Economics, had this to say about iron ore: "In 2012-13, Australia's iron ore export volumes are forecast to increase by 10 per cent, relative to 2011-12, to total 510 million tonnes.
"The value of iron ore export values in 2012-13 is forecast to increase by 7 per cent to A$67 billion," it said.
"This value is largely attributable to an increase in export volumes that will outweigh a slight decline in prices from the previous corresponding period."
Industry expansion plans indicate that Australia will have annual iron ore export capacity of around 780 million tonnes in 2017 compared with around 500 million tonnes at present.
However, iron ore prices have collapsed to under US$90 a tonne in recent weeks because of slowdowns in the Chinese economy and steel production.
As a result, Australian mining profits have plunged, expansion plans have been deferred and workers laid off.
Broker analysts are forecasting iron ore spot prices to recover to US$120 a tonne but there is a great deal of uncertainty about these forecasts.
Australia has been a victim of its own success.
It was the only OECD country to avoid recession during the global financial crisis and, as a result, expansion programmes, particularly in the mining sector, continued unabated.
There has been significant over-investment in the mining sector and a sudden realisation that mining demand will not continue to increase by 10 per cent every year.
This is reflected in the poor share price performance of Australian mining companies.
The dairy sector is in a totally different situation for a number of reasons, including:
* Dairy production cannot increase at the same rate as iron ore and New Zealand's dairy output growth has been relatively modest.
* The rise in dairy prices has also been more subdued and they are less vulnerable to a sharp downturn when compared with iron ore.
* Iron ore is sold directly to Chinese steel mills, many of which are Government-owned, whereas milk powder, butter and cheese are sold to consumers. This gives our dairy producers far more diverse markets, particularly in China, where there is a growing demand for protein.
Although dairy farmers didn't welcome the recent reduction in Fonterra's forecast payout for the 2012-13 season, it is a much more modest decline than that experienced by iron ore producers.
Prices have increased at the last three GlobalDairyTrade auctions and the US drought is expected to put upward pressure on dairy prices in the medium term.
The more optimistic outlook for the dairy sector compared with iron ore - and for soft commodities versus hard commodities - suggests that New Zealand has better short-term economic prospects than Australia, partly due to the latter facing its worst outlook in over 20 years.
There are other signs of the difficulties facing hard commodity producers.
The contract problems at the Tiwai Point aluminium smelter, near Bluff, are due to a decline in aluminium and iron ore prices.
Rio Tinto, which owns 79.4 per cent of the smelter, has Pilbara iron ore capacity of 225 million tonnes and is spending US$15 billion to raise production to 283 tonnes in 2013 and 353 million tonnes by 2015.
Rio has experienced a sharp decline in profitability and is attempting to reduce costs throughout its massive mining empire, which includes the Tiwai Point smelter.
State-owned Solid Energy, which produces coking coal for steel mills, recently reported a loss of $40.2 million for the June year, including a $110.6 million asset writedown.
The company reported: "Prices ranged from a high of US$300 per tonne for hard coking coal at the start of the financial year, to a low of US$206 a tonne, then up to US$225 at year end."
Coking coal prices have softened further still since the end of June because of reduced demand from Chinese steel mills.
At the other end of the scale is A2 Corporation, which has reported a substantial earnings increase and a 5.8 per cent share of the Australian grocery milk market. The company's joint milk venture in the UK will begin operations next month and its milk powder exports to China should commence within the next six months.
Soft commodity producers face challenges but they are a happier bunch than hard commodity producers, thus we are looking at a situation that could mean a reversal of the past twenty years.
The New Zealand economy could grow at a greater pace than the Australian economy and there could be a reversal of the recent strong migration flows from New Zealand across the Tasman.
The flip side of this is that Australia is our largest export market, ahead of China, and a strong migration inflow would put pressure on the New Zealand housing market and domestic interest rates. It could also mean that the kiwi dollar will remain elevated for a sustained period.
Nevertheless it would be great to see the New Zealand economy growing at a greater rate than our transtasman neighbours after two decades of underperformance.
Brian Gaynor is an executive director of Milford Asset Management which holds A2 Corporation shares on behalf of clients. bgaynor@milfordasset.com
