Why do consumer food prices rise when producer prices fall?

Food price inflation has been in the news recently, contrasted with the latest monthly rate for general inflation. Although inflation fell from 10.4% to 10.1% in March, food price inflation was calculated at its highest level for 40 years at 19.1%. The obvious question is: why is there such a big difference?

To answer the question, we have to look first at factors determining food price inflation. Over the last 12 months, there has been a reduction in the production of certain items imported from the EU, such as tomatoes, peppers and salad due to poor harvests. Prices increase when supply is reduced and demand remains constant. This tends to have a short term impact whilst retailers seek to source from other suppliers.

According to the Agricultural and Horticultural Development Board (AHDB), the UK produces only enough domestic food to be around 60% self-sufficient. Not only does this mean that the UK has to import more, it leads to a substantial balance of payments deficit that causes inflationary pressure. If sterling is weak compared to, say, the euro, then the price of imports grow. These increases can be absorbed by the retailer, reducing their margins. Alternatively, the increase is passed onto the consumer. This puts pressure on food price inflation.

We also need to look at logistics – transport costs in particular. Since the end of the pandemic in July/August 2021, the cost of oil has been increasing, exacerbated by the Russian invasion of Ukraine. This has led to substantial and fluctuating fuel costs, adding to the inflation conundrum. Higher fuel costs have led to supply chain disruption, which has interrupted the flow of goods and put pressure on both retailers and producers.

In addition to fluctuating oil prices, there has been enormous volatility in energy markets. High energy costs have led to high rates of inflation and pushed up raw material and input costs – so much so that Ag-inflation, defined as the rise in the costs of agricultural production, has been rising at a significantly higher rate than food price inflation. For example, in February 2023, Ag-inflation was at 25.5% compared to 14.5% for food price inflation. This is a substantial gap which explains the increasing pressure on producers: the prices received for agricultural products do not reflect the prices paid by consumers.

This is the central element of the conundrum. For example, producers faced reductions in the milk price when the retail milk price had not fallen until recently. Is this the result of retailers wishing to maintain margins?

According to the retail sector, the time lag between producer price reductions and consumer price reductions is due to the effects of supply chains. Whilst we can see some justification in this view from an economics perspective, it does highlight a serious disconnect between the prices paid to producers and the prices paid by consumers, begging the obvious question: who is actually benefiting?

This is about relationships and perceptions in the grocery market. The cost of living crisis has led to tensions resurfacing between producers and retailers that had stabilised and improved since the introduction of the Groceries Code Adjudicator. Retailers should recognise that producers need to receive a fair price for their produce. Confusion prevails when decisions are made by retailers to reduce the prices paid to producers whilst maintaining the level of the retail price without explanation and at a time when prices are seen to be falling.

The Groceries Code Adjudicator has been successful in creating a platform of increased trust and greater awareness of the needs of producers. Any move by the government to either completely remove the adjudicator or reduce its powers would be viewed, quite rightly, as counter-productive.