SYDNEY, Sept 27 (Reuters) - Record high grain prices have thrown Australia's A$4 billion ($3.5 billion) beef cattle industry into disarray, emptying feedlots, cutting cattle saleyard prices and triggering price rises for domestic and exported beef.

The world's biggest beef exporter by value and the second-biggest exporter by volume, parts of Australia's beef industry have begun to shut down after feed grain prices doubled since June because of the decimation of crops by drought.

"Supplies of quality beef onto the domestic market and to export markets are going to start reducing quite substantially," said Malcolm Foster, president of the Australian Lotfeeders Association.

"It's very bad. There wouldn't be a feedlot making money now," he said. Australia has 700 feedlots.

Cattle on feed had already begun to drop off and the industry, now urgently counting numbers around the country, was already in crisis, Foster said.

"You will certainly see shortages of quality beef ... And because pasture conditions are impacted by drought, the cattle aren't going to be anything very flash," he said.

Beef prices would shoot up until consumers were no longer willing to pay, Foster said. "It's already started," he said.

Peter Weeks, chief market analyst at industry representative body Meat & Livestock Australia, sees price rises looming for Australia's big export trade, to Japan and Korea in North Asia, and to the United States. "Something has to give. If they don't get relief from grain prices coming down suddenly, and it doesn't like like they will, then the relief has to come through with increased prices to customers overseas," he said.

Feedlots fatten steers before export to lucrative markets overseas, mainly using wheat, barley and sorghum. Prices of all grains have soared as drought decimated crops.

Wheat futures prices have almost doubled since May, from less than A$250 a tonne to a recent record high of A$492 on the Australian Stock Exchange.

The Australian government last week slashed its forecast of the national wheat crop by over 30 percent to 15.5 million tonnes. Private forecasters say the crop could fall to 12 million tonnes, less than half first forecasts of 26 million tonnes.

Cattle saleyard prices have dropped as feedlot demand dries up. Compared with a year ago, feeder steer prices were last week down by between 10 percent and 17 percent, depending on location, to 172 cents a kilogram in the cattle state of Queensland.

Prices have fallen by 13 percent over the last month alone, with longfed cattle prices down by as much as 20 percent.

In many areas, farmers have opened the gates on grain growing fields, letting livestock loose to eat dried-out crops.

Weeks sees beef supplies falling into the peak export season, between November and January, to pressure supplies to the key north Asian markets of Japan and Korea.

Anecdotal evidence showed that many feedlots had completely closed down, including medium-sized feedlots, not just small opportunity lots, Weeks said.

This time last year, most feedlots had full pens, in preparation for the peak export season. This year, none are at full capacity and those still operating had cut back, he said.

Looming imports of grain -- only the second time Australia has been forced to import wheat since colonial times -- will not assist the cattle industry.

Australian quarantine regulations prohibit the transport of unprocessed imported grain beyond metropolitan areas, and a A$40 a tonne processing cost is prohibitively expensive for the cattle industry, Foster said.

The last time imports occurred, in 2003, none went upcountry.

As crops shrink fast, much of Australia's beef cattle industry would have to close down, Foster said. "And wait it out." ($1=A$1.14)