Food inflation: flash in the pan, or here to stay?
As many struggle with the fast rising cost of rents, mortgages, energy and fuel, the focus of the public debate has shifted to food inflation. There are two main reasons for this. One, at 13.1% for the 12 months to April in Ireland (source, CSO), it is running miles ahead of our already high 7.2% general inflation for the same period. Two, we have become used to food getting cheaper.
For decades, we have been spending a falling percentage of our disposable income on food. According to Eurostat (see graph below), the EU average percentage of household income spent on food and non-alcoholic beverages consumed at home in 2021 was 14.3%. Ireland’s was much lower again at 8.3% – though the latter is probably more telling of Irish average household incomes being higher, than of food being somehow cheaper in Ireland than in the rest of Europe.
The share of household incomes spent on food has been falling steadily all over the developed world, while incomes have improved. In Ireland, we spent 27.7% of our incomes on food in 1980.
In the US, the current equivalent (2021, Bureau of Labor Statistics) is 12.4% – an increase on 2019 (9.2%), probably COVID related, but a decrease from the 17% of household incomes spent in 1960 – a much lower level than Europe’s at the same time, which suggests a more affluent US society but also a US culture of eating out of home – that’s a topic for another day.
In the UK, the 2020/21 share of household income was 14.4%, up from 10.8% in the year prior, due to COVID19 closing of restaurants (and possibly another negative Brexit side-effect, though that’s just an assumption on my behalf, UK officialdom does not confirm this).
For decades, Irish food price inflation has lagged the Consumer Price Index (CPI), the comprehensive basket of goods and services based on which general inflation is calculated (see graph below). All over the world, efficiencies and scale built up at farm and processing levels, and greater international trade have kept food prices low – while consumers’ incomes have generally been rising.
“Transparency in the food chain”: the unobtainable Holy Grail?
The food chain is complex, from primary producers, to basic processing, to secondary processing – sometimes even tertiary – to wholesale and retail, all seeking to cover their costs, and ideally make a profit. Primary producers’ costs and sale prices are well publicised, with leagues and reports in the farming press, measurements carried out through the National Farm Survey and surveys published regularly by the Central Statistics Office or EU institutions. Equally, food retail prices are the subject of numerous analyses by market intelligence agencies like Kantar World Panel and are tracked by CSO and all national and regional statistics authorities in the publication of detailed consumer price indices.
The information dark hole is in the middle. What are the costs and profits of processors? What are the margins of large retailers? Those elements are not systematically documented, and that is not for the lack of trying!
The debate on the lack of transparency in the food chain has exercised the EU authorities and national European governments for quite some time. After the dairy sector crisis of 2009, the EU set up Market Observatories first for dairy, then for other commodities. Their aim has been to provide readily accessible information on wholesale international prices for the main commodities, producer prices, producer costs, and production statistics and trends, to bridge that transparency gap.
Some EU member states have also tried to regulate the processing and retail sectors, to ensure that primary producers and consumers both get a fair deal. The UK’s Grocery Supply Code of Practice and its Adjudicator have stepped into that breach, to regulate out unfair trading practices. France’s EgAlim legislation also aimed to regulate the chain from producers to consumers for the fair treatment of both. In Ireland, we have the Unfair Trading Practices Regulations, in the pipeline for years, and only in place since last summer.
Those measures go some way to provide a level of regulation and have had various levels of success. But they do not go into the dark space between wholesale and retail prices, nor do they show processing or retail margins. This would require operators to release information which they can credibly claim would expose them from a competition point of view. Despite the best of intentions, the EU Commission, Council and Parliament and the various national authorities have had to back down on this and recognise that there were legal limits to just how much commercially sensitive information could be obtained, never mind published.
And even if the French EgAlim regulates and limits the scope of retail promotions, no authority regulates retail prices, or provide for minimum or maximum pricing. There are however exceptions to this, for example in Ireland with a minimum price per unit of alcohol as a public health measure.
Primary processing of fresh food products is a low margin business
While there is no official publication of margins along the entirety of the food chain, we can find some elements of information.
The dairy industry in Ireland consists almost entirely of co-operatives, and they have annual public financial reporting obligations. Dairy co-operatives have the mission to further the interests of their shareholders, but those also happen to be their suppliers. So the norm in co-ops tends to be the payment of the highest produce price the market returns, and a prudent investment policy allow. Analyses of dairy co-ops’ accounts each year show their profit margins as a percentage of turnover is in the low single digits. Even in 2022, when dairy commodity prices rose to record levels, margins for the main Irish co-ops were recorded at between 1.3% and 2.4%.
Our main Irish meat processors are private or family owned companies with no requirement to publish annual accounts. Still, we have a number of indicators which suggest they too have low profit margins, and generate revenue on volumes. A report produced by economist Jim Power for the Irish Farmers’ Association in 2020 highlighted the lack of transparency in the sector, but stated that “It appears that significant profits are driven by the volume of throughput, rather than by wide margins.” Jim Power pointed out that if there were very wide margins, there would be more competitors coming into the sector.
We know of some international publicly quoted companies involved in the meat sector. One of them is the Brazilian meat behemoth JBS. Diversified into beef, pork, lamb and chicken, but also convenience foods and value-added products, JBS is active in Brazil, the US, Australia and beyond. In its most recent quarterly financial report for the first three months of 2023, it reported net margins of just 2.1% on its admittedly lower international revenues. The first quarter of 2022 was by all accounts exceptional for JBS, and their declared net margin for that period was 6.42%.
Tyson Foods, another publicly quoted meat processing giant based in the US, is publishing its latest net profit margin at 2.81%. Just like JBS, this was a significant decrease on margins of over 7% achieved during 2022, off the back of strong commodity prices.
Grain companies also use scale and volume to optimise profit. They were heavily criticised for opportunistically cranking up prices and playing into food inflation in 2022, following the invasion of Ukraine by Russia. Cargill posted massively increased profits in 2022, but that was with a profit margin increasing from 2.5% in 2021 to only 3.2% in 2022.
What about the retail trade?
The last link in the chain before the consumer, the retail sector, has the biggest say in what you and I pay for the contents of our trolley every week. In the last decade, supermarkets have grown to monopolise the bulk of the supply to consumers. Specialised greengrocers, butchers, cheese and fishmongers have all but disappeared. Consumers, increasingly time poor, get all their weekly food and other needs in the one place. As a result, most supermarkets now offer a bewildering array of products, which opens opportunities to differentiate prices and margins through promotions.
Our main supermarkets, Tesco, Dunnes Stores, SuperValu for Ireland, carry anything between 10,000 and 50,000+ stock keeping units or SKUs. Different flavour or pack sizes of the same product are each a different SKU. This makes for a very complex and relatively costly business model by comparison with the discounters who carry far fewer SKUs. Lidl is reported to carry 1400 SKUs by Bord Bia in their 2022 Irish Grocery Retail Market Overview. Aldi also carries fewer than 2000 SKUs. This allows the discounters to reduce their costs significantly and, well, discount food.
Tesco publishes its financial reports for the UK and Ireland as a single entity, and declares its margins at around 4%. There have been anonymous but widely reported comments that Tesco considers Ireland the “Treasure Island”, as it is alleged to make significantly greater profits here than in the UK. However, the financial report does not allow confirmation. The other players on the Irish market, including Dunnes Stores, Aldi, Lidl and Musgrave (SuperValu/Centra), are family owned and don’t publish accounts.
It is fair to assume that margins vary massively between product ranges, products and even SKUs of the same product, which opens wide the option to manipulate prices and consumers’ purchasing decisions through promotions. Add to this the whole area of private labels, where retailers control sourcing and therefore costs. They have substantial opportunities to manipulate private label prices, while consumers flock to them in times of austerity or budgetary pressures.
As I write, Tesco has just announced a price cutting campaign on 700 items, both private label and branded, but all among the main items featuring in households’ weekly trolley. Chances are that this trend will be followed by others, just as Aldi’s milk and butter price cuts were generally followed a few weeks ago.
Promoted products tend to feature in every trolley every week, and drive footfall into the store – they are often referred to as “loss leaders”, which suggests they are sold below cost. 700 items out of a few tens of thousands in store leaves plenty of scope to recoup the reduced margins from other, non-discounted products, at least for the short term.
Longer term, many food producers and processors will confirm that the price retailers pay them for their products will be renegotiated to recover or improve the margin on the discounted product.
Food inflation may ease, but dearer food is here to stay
Commodity prices have been easing in recent months, at a rate that is slower than input cost reductions, and so primary producers’ margins are coming under pressure. The timing of supply contracts has meant there was a lag in higher primary prices being reflected in supermarket fridges and shelves. They will therefore also take some time to come down from the highs of recent months.
There are already signs of food inflation easing, which in the short term means prices simply rising more slowly. Medium term, we should see further food price reductions as global commodity markets weaken.
However, there are good reasons to believe that the cost basis for all primary commodities will settle at higher levels than before, as a result of policies deemed necessary to mitigate or reverse climate, environmental and biodiversity impacts. This was shown in the USDA analysis of the EU Farm to Fork Strategy, already referenced in an earlier newsletter.
Under the momentum of these policies, farmers and primary producers the world over will de-intensify production, reduce capacity, increase space for nature and turn towards production systems like organic or regenerative practices which are by nature less productive. Many of these policies may be necessary to meet our global, legally binding climate and environmental obligations.
But as food production capacity decreases, food availability will reduce. The era of cheap food is firmly behind us.
© Catherine Lascurettes, Cúl Dara Consultancy
