High milk prices eventually trigger a supply response that in turn helps to push dairy prices back down again, but that isn't happening.
ASB economist Nat Keall says adverse weather conditions locally and constraints on production overseas mean that the supply response has failed to materialise thus far.
New Zealand milk production fell another 6.1% over January and while weather conditions have improved since then it will take some time for local production to make up ground, he says.
Then there is the Ukraine conflict. Keall believes the conflict will tighten global supply conditions further in the near term.
"Given Russia and Ukraine's statuses as major energy and grain producers, a prolonged stoush threatens to seriously disrupt the flow of key agribusiness inputs - be it feed, fuel or fertiliser.
"This will constrain overseas agricultural production, particularly for non-pasture-based producers. That suggests that, in line with futures pricing, there is scope for dairy prices to advance further in the near term and to stay supported for longer."
Westpac industry analyst Paul Clark agrees that bad weather conditions and rising input costs are suppressing milk production in other key exporters such as the EU and the US.
He also notes that the Russia-Ukraine conflict is not expected to weigh on world dairy prices, and if anything could push them higher.
"That's a notable contrast to the Crimean invasion in 2014, when Russia placed a ban on food imports that had placed sanctions on it.
"While New Zealand wasn't included in that group, it meant that other major food exporters had to find other markets for their product, pushing down prices.
"Russia has never removed that import ban, which means that it lacks any additional leverage over food-exporting nations this time."
$9.20/kgMS Opening Forecast for 2022-23
ASB has lifted its opening forecast for the next season to $9.20/kgMS.
Nat Keall says this is done in light of the likelihood supply stays tighter for longer.
"We now see next season commencing from an even higher starting price point.
"While dairy prices will almost certainly ease over the course of the season, a gradual correction seems more likely than having the rug being pulled from under the market by a rapid supply response."
The bank has also added another 25c to take the current season forecast milk price to $9.50/kgMS. Fonterra recently lifted its forecast price range by 40c to a new mid-point of $9.60/kgMS.
Keall notes that the remaining unknown at this point is what kind of trade Fonterra has been doing outside of the auction platform.
"By all accounts it has sold a decent volume of product at presumably similarly strong prices."
