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New report on price forecasting methodology released
ERS has released a new report, How USDA Forecasts Retail Food Price Inflation, which provides a detailed outline of ERS's forecasting methodology, along with measures to test the precision of the estimates (May 2015).
Background on the CPI for food
The Consumer Price Index (CPI) is the most publicized and widely used measure of the general level of prices in the U.S. economy. The CPI is a composite measure of the level of average prices paid by urban consumers for a defined market basket of goods and services, including food. Changes in the CPI are widely used to measure inflation (changes in the general price level) in the U.S. economy.
The CPI for food at home is a component of the full CPI and is the principal indicator of changes in retail food prices. Industry analysts, food market participants, and policymakers, both public and private, closely follow the CPI for food consumed at home and its changes, which measure price inflation for food items. The CPI for food consumed at home also affects policy evaluation because the effects of many current and proposed policies are evaluated based on CPI measures. To contribute to the analysis of government and commercial decisionmakers, ERS estimates the future direction of changes in the CPI for all food, food at home, and food away from home.
Although ERS analyzes changes in retail prices for individual food items, sometimes it is useful to record and analyze a measure of change for the overall level of food prices. The food price level can be influenced by changes in costs incurred by food system firms. Changes in input costs can translate directly into changes in the CPI, or these cost changes may have little or no effect. Researchers at ERS not only produce forecasts of the CPI but also analyze the impact of economic factors on changes in the CPI, including changes in firms' costs.
ERS regularly updates and provides food price forecasts for the short-term period of 12 to 18 months based on a composite of formal model results and economic analysis. ERS uses monthly Bureau of Labor Statistics' indexes for all food, food away from home, food at home, and 15 food-at-home categories in conjunction with ERS analysis to adjust the current short-term forecasts for each of the food categories.
Food price forecasts are subject to revision if the conditions on which they are based change significantly. Projections could be affected by changes, for example, in the feed grain crop outlook; in export markets, especially for meat items; in nonfarm markets; or in weather-related crop conditions in major fresh fruit and vegetable growing areas.
Historical data indicate that fresh fruits and vegetables and egg prices are the most volatile food prices that ERS tracks. Grain price changes affect the price of meats, poultry, eggs, and dairy products more than the prices of other food items and to a lesser extent cereals and bakery products. Because these items account for more than half of the at-home food dollar, price changes for these categories can significantly affect the Consumer Price Index (CPI) for food at home.
How changes in input costs affect food prices
A food system firm faced with a change in the cost of an input has several options. If the input cost increases, the firm can:
- absorb the higher costs by keeping its prices steady and accepting a lower profit level,
- pass on at least some of the higher costs by raising the price of products (price transmission), or
- adjust its production process and employ fewer units of the higher cost input by substituting one or more other inputs.
If the input cost decreases, the firm has the opposite options—higher profits, lower output prices, or expanded input use. Of the three options, the last two can directly affect food prices either by the firm raising the price of its food products or by food production adjustments that influence the amount of food available and thus its price.
Economic research has shown that retail prices are typically more responsive to input cost increases than to decreases. This pattern is evident in the CPI, as retail food prices have usually increased by an average of three percent per year, while commodity and fuel prices have been more volatile, occasionally posting annual decreases.
Supermarkets increasingly face competition from nontraditional retail outlets such as supercenters, club stores, health food stores, and dollar stores. Given that supermarkets have commonly responded to competition from nontraditional stores by lowering their prices, it is likely that option 1—to absorb the higher costs—will be much less common in times of rising input costs due to supermarket margins being too narrow to absorb significant upstream cost increases. Option 3—to adjust its production process—would be implemented primarily at the processing stage of the food system, where manufacturers have greater control over inputs. Therefore the dominant response to input cost increases in the retail food sector is option 2—price transmission.
Despite the fact that rising input costs are almost certain to result in increasing retail food prices, there are a number of reasons to expect that this impact will often be small relative to the changes in input costs. For example, the severe drought in the American Midwest in 2012 has resulted in sharp increases in the farm prices of corn, soybeans, and a number of other commodities important to the food supply chain. However, this is expected to result in only a modest increase in overall retail food prices for 2013 and beyond. ERS analysts expect to see a 0.5-percentage point increase in the CPI for food attributed solely to the drought.
Historically, dramatic changes in input costs typically result in small changes in the CPI for food and for grocery prices in general. In 2011, the average weighted price of corn, wheat, and soybeans in the U.S.—all of great importance to U.S. agriculture and the U.S. food supply—increased by 40 percent over 2010 levels. In contrast, food-at-home prices rose only 4.8 percent between 2010 and 2011. Very much in line with this disparity, commodity prices, in general, are about 10 times more volatile than retail food prices over time. See the chart, Percent change in the annual Consumer Price Index (CPI) for food and prices for field crops, 1976-2012, which demonstrates the volatility for these two price series from 1976 to 2012.
One of the most important reasons for the relative stability of retail food prices is the commodity share of the food dollar. A number of industries contribute to food on the shelves of supermarkets, and the cost components of the food dollar by industry serve to mitigate much of the volatility seen in commodity prices and even wholesale food prices. ERS’s Food Dollar Series details the cost components of the retail food dollar by industry. The most recent estimates revealed that the share of the food dollar attributed to the farm and agribusiness sector was 11.6 percent in 2010. This value is for all-food, but parceling out food-at-home increased the share to 16 percent. Given that all energy, transportation, and processing costs are partitioned out as separate components of the food dollar, these figures provide an estimate of the importance of commodity prices for retail food. Assuming no input factor substitution, the net effect of doubling commodity prices would translate into an increase in retail food prices from about 12 percent to 16 percent.
The importance of the energy and transportation sectors is comparable to that of commodity prices. Their joint contribution to the retail food dollar is about 10 percent of the total. The Motor Fuel CPI, a common indicator of fuel prices for American consumers, is about six times more volatile than food prices. Accordingly, the Food-At-Home CPI bears a much stronger resemblance to the Personal Services CPI than it does to many other important CPIs for consumer spending, such as those pertaining to energy or housing costs. This is notable because the Personal Services CPI does not depend heavily on upstream costs and thus shows relatively little volatility over time. See the chart, Percent change in the annual Consumer Price Index (CPI) by product group, 1990-2012, which illustrates these trends for the years 1990 to 2012.
Recent Issues and Research
ERS economists conduct research on a variety of topics directly related to the U.S. food supply chain and distribution system. This research provides a better understanding of issues such as price analysis, market competitiveness, price transmission, and retail behavior.
Are Healthy Foods More Expensive? It Depends on How You Measure the Price—Most Americans consume diets that do not meet Federal dietary recommendations. A common explanation is that healthier foods are more expensive than less healthy foods. To investigate this assumption, the authors compared prices of healthy and less healthy foods (defined as foods that are high in saturated fat, added sugar, and/or sodium, or that contribute little to meeting dietary recommendations) using three different price metrics: the price of food energy ($/calorie), the price of edible weight ($/100 edible grams), and the price of an average portion ($/average portion). They also calculated the cost of meeting the recommendations for each food group. For all metrics except the price of food energy, the authors found that healthy foods cost less than less healthy foods (May 2012).
The Relationship Between National Brand and Private Label Food Products: Price, Promotions, Recessions, and Recoveries—Over the past two decades, private label food products have grown steadily in sales and often directly competed for market share with national brands. This competition lowered prices and increased consumers' product choices. This report analyzed the relationship between private label and national brand product prices and in-store promotions for two major U.S. grocery store chains during the 2007-2009 recession and the following year (2010). Retailers promoted private label products (via price discounts) strategically in response to national brand pricing promotions to protect private label market share during national brand promotions. However, the extent of the retailer response varied widely across supermarket departments and was affected by both the density of food stores and the market share of supercenters within a market area. These findings hold true regardless of the state of the economy, although the magnitude of the interaction between national brands and private labels will differ in times of recession and recovery (December 2011).
How Retail Beef and Bread Prices Respond to Changes in Ingredient and Input Costs—The extent to which cost changes pass through a vertically organized production process depends on the value added by each producer in the chain as well as a number of other organizational and marketing factors at each stage of production. Using 36 years of monthly Bureau of Labor Statistics price indices data (1972-2008), ERS modeled pass-through behavior for beef and bread, two retail food items with different levels of processing. To allow for the presence of structural breaks in the underlying long-term relationships between price series, both farm-to-wholesale and wholesale-to-retail price responses were modeled. Broad differences in price behavior were found not only between food categories—retail beef prices respond more to farm-price changes than do retail bread prices—but also across stages in the supply chain. For both bread and beef, the pass-through from wholesale to retail was weaker than that from farm to wholesale (February 2011).
A Revised and Expanded Food Dollar Series: A Better Understanding of Our Food Costs—ERS's new food dollar series measures annual expenditures on domestically produced food by individuals living in the United States, replacing the old marketing bill series. The new food dollar series is composed of three primary series, shedding light on different aspects of evolving supply chain relationships. The marketing bill series, like the old marketing bill series, identifies the distribution of the food dollar between farm and marketing shares. The industry group series identifies the distribution of the food dollar among 10 distinct food supply chain industry groups. The primary factor series identifies the distribution of the food dollar in terms of U.S. worker salaries and benefits, rents to food industry property owners, taxes, and imports. Each of the three primary series is further disaggregated by commodity groupings (food/food and beverage), expenditure categories (total food expenditures, food at home, food away from home), and two dollar denominations (nominal, real) to provide detailed information about modern food supply chains. This report covers the input-output methodology behind the new food dollar series, makes comparisons with the old marketing bill series, and presents several key findings of the new series (February 2011).
How Much Lower are Prices at Discount Stores? An Examination of Retail Food Prices—Nontraditional stores, including mass merchandisers, supercenters, club warehouses, and dollar stores, have increased their food offerings over the past 15 years and often promoted themselves as lower-priced alternatives to traditional supermarkets. How much lower are food prices at these stores? In order to better understand nontraditional stores’ impact on the cost of food, ERS analysts evaluated food price differences between nontraditional and traditional stores at the national and market level, using 2004-06 Nielsen Homescan data. Findings show that nontraditional retailers offered lower prices than traditional stores even after controlling for brand and package size. Comparisons of identical items, at the Universal Product Code (UPC) level, showed an expenditure-weighted average price discount of 7.5 percent, with price differences ranging from 3 to 28 percent lower in nontraditional stores than in traditional stores. Nontraditional stores in metro areas—with a higher-than-average market share—had smaller and less frequent price discounts than stores in areas with a lower market share (October 2010).
Economic Research Service (ERS), U.S. Department of Agriculture (USDA). Food Price Outlook, http://www.ers.usda.gov/data-products/food-price-outlook.aspx.