FONTERRA Australia's 2000 suppliers are reeling after the dairy co-operative slashed its milk price and warned more severe cuts are to come.

Fonterra managing director Bruce Donnison sent letters to 1500 of its suppliers last week stating the company had withdrawn its November step-up payment of 7c/kg butterfat and 17c/kg protein.

The letter states: "Since writing to you in early November, we have seen a further deterioration in trading conditions".

"Commodity prices continue to decline and this has been exacerbated in recent weeks by a rapidly deteriorating financial situation around the world; a deterioration which has far exceeded even our most pessimistic expectations," the letter states.

In the letter Mr Donnison warned: "Our forward expectations for the remainder of the season remain below any previous outlook".

"Consequently we are in the process of reviewing our pricing levels for the February to June 2009 period."

The announcement follows dairy giant Murray Goulburn's pre-Christmas announcement that it would cut prices to its suppliers by an average of 26 per cent from February 1.

The decision sent shock waves through the dairy industry, given it was the first time since the 1980s that any milk processor had cut prices mid-season.

United Dairyfarmers of Victoria president Doug Chant said the collapse in prices was a kick in the guts for all dairy farmers.

"It's come on the back of three of the worst years of drought on record," Mr Chant said.

"When the price drops away it takes the incentive out of working your guts out."

Mr Chant said the UDV was working on strategies to ensure the gobal crash in milk prices did not lead to a price war on the domestic market that drove prices down to even lower levels.

"We're also looking at government assistance."

"At a state government level the dairy industry employs more people than the car industry, which has been given plenty of support."

Loch Fonterra supplier Ian Hooker said while he was disappointed in Fonterra's announcement it simply reflected what was happening around the world.

"I only hope they (Fonterra) don't drop the price (in February) as much as Murray Goulburn," Mr Hooker said.

"The timing is bad for everyone with provisional tax and other costs due in February."

Other companies are soon expected to follow MG's lead, with Warrnambool Cheese & Butter declaring it would make an announcement next week.

Industry sources said WC&B managers were in the midst of preparing a letter that would be sent out to the company's suppliers next week.

Many angry MG dairy farmers hit the phones last week to find MG rivals who would take their milk at a higher price.

But MG chairman Ian MacAulay said he had only been told of two suppliers who had jumped ship.

"But we know others are trying," Mr MacAulay said.

"Anyone who moves is going to be hit somewhere along the line.

"I think most people are accepting this is not an MG issue. It's an industry issue.

"The prices we're paying (to farmers) and what we're receiving (for dairy exports) are not sustainable."

The Weekly Times asked Mr MacAulay if he still stood by his claim that his co-operative set the benchmark that others followed.

"I've got no hesitation in repeating that, what we do is what others will follow," he said.

Mr MacAulay said he understood the price cut had come at a critical time for northern Victorian dairy farmers.

One northern Victorian MG supplier said the impact of the price cuts would be far reaching in the drought-stricken region.

"Farmers won't have the cashflow to buy water in late January-early February, which they'd use to get annual pastures going," the farmer said. "That means they're going to have less of their own feed and will have to rely on buying it in load by load."

The same farmer argued the real drop in MG's price was closer to 40 per cent than 26 per cent, based on absolute numbers, not seasonal averages and production curves.

    MG's prices will drop in:
  • February by 39.2 per cent for butterfat ($3.44 a kilogram to $2.09/kg) and 39.6 per cent for protein ($8.53/kg to $5.15/kg).
  • March by 38.1 per cent for butterfat ($3.54/kg to $2.19/kg) and 38.4 per cent for protein ($8.78/kg to $5.40/kg)
  • April by 33.6 per cent for butterfat ($4.02/kg to $2.67/kg) and 33.9 per cent for protein ($9.98/kg to $6.60/kg).
  • May by 32.7 per cent for butterfat ($4.12/kg to $2.77/kg) and 33 per cent for protein ($10.23/kg to $6.85/kg).
  • June by 32 per cent for butterfat ($4.22/kg to $2.87/kg) and 32 per cent for protein ($10.48/kg to 7.10/kg).