Key dynamics over a decade show consumers have been relatively protected from food price inflation

Over the past few weeks, a fierce debate has been ignited by the latest Essential Food Pricing Monitoring Report, released by the Competition Commission, which criticised the food industry for keeping food prices high when input costs have been declining.

The finding possibly sought to solve a problem from a consumer protection perspective, but it is perhaps useful to look at some of the key dynamics exhibited by producers over the past 10 years or so.

The dynamics suggest that, from an economy-wide perspective, consumers have been relatively protected over time, particularly during the Covid-19 pandemic. The economic implications of cutting prices as a function of lower input costs must also be considered.

For the context of this article, we assume that the findings by the Competition Commission as far as lower input costs are concerned are primarily linked to the recent performance of the rand against the dollar, lower agricultural commodity prices relative to the peak pricing experienced in 2023 following the start of the Eastern European conflict, and fuel price dynamics – the assessment undertaken bearing in mind that South Africa has high imported inflation, and was vulnerable to the said global macroeconomic headwinds. Our assertion is that the referenced variables may be limited in scope.

At the height of the Covid-19 pandemic, producers experienced high levels of inflation, which peaked at 18% in July 2022. The inflation spike at the time was caused by, among other factors, the global economy reopening and pent-up consumer demand, supply challenges linked to climate change and Covid-19 policies, as well as the Eastern European conflict - which significantly influenced both energy and food prices.

The spike in producers’ prices, a proxy for input costs, was vastly different to the outcome we saw from a consumer prices perspective. Consumer price inflation, which increased in a dramatic fashion, only peaked at 7.8% in July 2022, presenting a substantially different outcome to producers.

The data on consumer and producer prices since 2013 showed that the difference between producer and consumer prices peaked in July 2022 with a difference of around 10.2 percentage points.

The question we ask ourselves is, therefore, what funded the significantly higher input costs (producer inflation) when consumer inflation remained significantly lower? The evidence suggests that the producers absorbed most of the associated costs, which is among the viable reasons for how operations and supply continued, despite an environment of relatively lower topline growth compared to production costs.

The second key point to establish is how often producer prices have been lower than consumer prices, which implies an environment where consumers are paying higher prices relative to the input costs of producers.

Data from January 2013 show that out of the 139 observation months through to September 2024, producer price inflation was lower than consumer price inflation on 56 occasions (i.e. 40% of the time), and producer inflation has been higher than consumer inflation on 83 occasions (i.e. 60% of the time).

This shows that, for the most part, producers are not imposing a full passthrough when input costs rise. In fact, when producers take a hit, they take a hit of 2.25 percentage points on average, while gains have averaged 0.8 of a percentage point. 

To put this into greater perspective, listed retailers have reported selling inflation of around 4% between 2015 and 2021, significantly different from the actual input cost inflation experienced at the time.

But perhaps let’s investigate the economic implications of reducing prices.

The first implication is that industry becomes less profitable as topline/revenue growth comes under pressure due to a lower price in the revenue formula. As firms become less profitable, they would need to manoeuvre in order to manage costs for the prevailing environment. The mechanisms aren’t many, however one cost which is relatively easier to move is wages - which would have implications for employment dynamics in South Africa, a society which is already dealing with structurally high unemployment.

Another reason the passthrough for industry may not be as obvious is that higher profitability allows firms to build a war chest for tough economic times.

These tough times include the instance explained above, where the sector opted to not pass through the full effects of higher producer inflation during the pandemic. When organisations have a sufficient capital base, in such demanding economic times they are able to maintain employment levels, despite a relatively tougher financial position.

The economy may equally suffer when industry cuts prices. There may be an argument that lower prices would free up disposable incomes. However, the key metric to consider, as mentioned above, is how lower revenue growth can result in decreasing employment and how that impacts the ability and propensity to consume.

Therefore, there may be an illusionary idea that cutting prices leads to increased spending power. Yes, there are instances where cutting prices has that effect, such as lower petrol prices, but the input and output are linearly related where it may not be as simple when considering other industries and sectors.

For example, some argue that taxi fares do not fall when fuel prices fall, however, a taxi fare doesn’t only pay for fuel but also for the driver’s time, the use of a vehicle, the creation of a buffer for emergency costs, as well as other associated maintenance costs. That is a non-exhaustive list.

We must look at the argument from a different lens too - if firms should cut prices when input costs fall, so too should wages fall as a function of lower input costs for workers (ie it is cheaper to get to work because of cheaper fuel), however, consumers also plan for the future, create buffers for emergencies, indulge if the opportunity presents itself, etc.

Fiscal strength may similarly come under pressure. For debt-to-GDP, the important input is nominal GDP gross, which is a function of the level of inflation. Nominal GDP growth slowing, coupled with a worsening fiscal outlook (fiscal deterioration), would be detrimental for government expenditure on the delivery of services as well as the level of interest payments as a percentage of both GDP and revenue. This can then push SA into a recession, a perverse outcome of otherwise good intentions.

Producers have felt the material brunt of rising input costs at times. There are arguments that perhaps it was a battle for market share in a more difficult economic environment.

But that is the result of a competitive landscape, and perhaps it should be the very same competitive landscape which has served the people in the past that should be allowed to continue to operate efficiently and serve people into the future. DM