In its half-year economic and fiscal update in December, Treasury said its forecasts were based on a 25% recovery in dairy prices by the start of 2016, although it said the risks were tilted towards a slower recovery.
In its monthly economic indicators published this week, Treasury said prices were so far in line with its December forecast but further increases were needed to achieve the recovery in dairy export prices that was forecast for the second half of the year.
It will update its latest economic forecasts as part of the Budget on May 21.
Prices for whole milk powder dropped an average 1.8% to US$2386 a tonne in this week's GlobalDairyTrade auction, extending its decline over the past five auctions to 27%.
Fonterra last week cut its forecast payout to farmers for the 2014-15 season to $4.50/kilogram of milksolids from $4.70/kg MS after whole milk powder prices failed to strengthen to US$3500/t as expected and analysts have pulled back their expectations for next season's payout.
July whole milk powder futures on the NZX last changed hands at US$2420/t while December futures last traded at US$2700/t.
Treasury wouldn't have factored in their equations a lower-for-longer price, First NZ Capital derivatives head Mike McIntyre said.
"At this stage, prices have been lower internationally than what the whole market expected and unless we have a dramatic recovery in the next couple of months then there may have to be some sort of revision."
Whole milk powder prices spiked higher earlier this year on concern drought conditions might crimp milk production but they quickly fell away again when that turned out not to be the case.
Fonterra now expected production this season to lift 1.5% from last season, from a previous forecast that it could fall 3.3%.
Dairy products are NZ’s largest commodity export group and the dairy sector generates more than 7% of the country’s gross domestic product.
The BNZ estimated Fonterra's forecast for the current season was below the cost of production for many farmers and expected dairy sector revenue for the current season would shrink by about $6.7 billion.
Finance Minister Bill English warned in his pre-Budget speech this month that achieving a Budget surplus next year was becoming more difficult.
He said the Budget would forecast a slightly bigger deficit than the $570 million previously expected in the year through June and a smaller surplus for the 2015-16 year.
