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High food prices could keep inflation elevated and influence spending.
After months of budget-busting increases, inflation appears to be gradually returning to something like normal, but there’s still one worrying exception: Food inflation is still soaring in many markets.
UK food prices increased by 16.8% on an annual basis, according to the Office of National Statistics, possibly due to consumers spending more for the Christmas holiday. The increases were the biggest since the late 1970s.
US food prices were up 10.4% on a yearly basis, compared to a 6.5% year-over-year increase for all items. Strip out food and energy, and consumer inflation was 5.7% YOY in December.
Food, alcohol and tobacco were the single biggest drivers of inflation in the euro area. Inflation for that segment was 13.8% YOY. Inflation was 5.2% without energy, food, alcohol and tobacco, Eurostat reported.
The forecasts indicate that we could be in for more of the same.
The USDA Economic Research Service is projecting that US food prices could increase by 7.1% this year. That’s below 2022’s numbers but still above historical averages.
In Europe, food prices are likely to continue rising for the next several months, with food inflation finally moderating later in 2023, according to a December forecast from Eurosystem, which includes the European Central Bank and its member central banks.
If food prices stay elevated, that could have consequences for the overall economy and for individual shoppers, who are switching to store brands, cooking at home more frequently or simply going without.
According to Morgan Stanley, private consumption in the United States drops by 1% a year after food prices increase by 20%, and some verticals — like motor vehicles — see a sharper impact on spending.
And that’s just in the US. High food prices will stifle spending even more in emerging markets. According to the International Monetary Fund, consumers in sub-Saharan Africa spend about 40% of their income on food, compared to 17% in advanced economies.
“With shoppers having less money to spend on discretionary retail having paid for their essential groceries, there will be little to stimulate demand across the non-food channels,” said Mike Watkins, head of retailer and business insight at NielsenIQ.
There’s also the danger of food prices contributing to an upward inflation spiral. If consumers see higher prices as a permanent feature, they may either push for higher wages or seek new jobs. Employers start paying more to retain their workforces, which leads to even higher production costs.
Experts point to a few different reasons why food prices climbed so high over the past year:
Supply chain disruptions — whether caused by COVID-19, the Russia-Ukraine war or Brexit — have made it more difficult to source certain foods and ingredients. Fortunately, one of the biggest problems has been addressed with the Black Sea Grain Initiative, which allows grain shipments from Ukraine. It’s helped bring prices back to prewar levels and reduced food insecurity in many countries.
Higher energy costs — exacerbated by the war in Ukraine and sanctions on Russia — led to higher production and shipping costs for many goods, though several markets have reported lower prices for gasoline and natural gas.
Fertilizer costs spiked over the previous year, too. Blame higher demand and supply chain disruptions. Plus, one of the key ingredients in fertilizer production? Natural gas. However, like energy prices, there are signs that fertilizer prices are on the downswing.
Like every other industry, food producers have been forced to compete for workers in the form of higher wages, and that has contributed to higher prices.
Some regions experienced lower production due to drought. And sometimes, unexpected factors played a part — like the United States’ worst avian influenza outbreak leading to sky-high prices for eggs.
Some economists argue that higher commodity prices might not be the biggest driver of food inflation.
Researchers at the Federal Reserve Bank of Kansas City looked at wheat and corn prices going back to 2000. When those commodities experienced big swings in prices, those higher costs were barely passed along in the form of higher food prices. In fact, food prices barely changed at all.
Most of the price increases tend to come at other points in the value chain, the researchers found — the salaries of food processors and retail workers, as well as rents for grocery stores.
There are already some signs that food inflation is starting to abate.
While inflation continued to increase on a month-to-month basis in late 2022, those increases were smaller, the US Bureau of Labor Statistics found. November and December saw monthly increases of 0.5% and 0.3% respectively. Earlier in the year, it was more common to see gains of 1% (June) or 0.8% (August and September).
The last several months of interest rate hikes could be helping, too. The International Monetary Fund says that US cereal prices have declined because the Federal Reserve started raising rates last April.
Even in the UK, where food prices soared at year’s end, there were categories, like cereal, that resisted price hikes.
Hopes are high that food inflation will further ease in 2023, but business leaders need to keep a close watch. Higher prices at grocery stores and restaurants will be quickly seen by consumers and impact other economic decisions they make.
In the meantime, smart businesses will work to improve their cash flow, so they have ready access to the cash necessary to fund and grow their operations — no matter what materializes over the coming year.
Need fair and affordable access to working capital? C2FO can help.
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