The long-term picture is uncertain but in the short term food is only set to get dearer. Fans of ITV’s “The Only Way is Essex” will be familiar with its theme song “The Only Way is Up.” Even more challenging...
For some time to come, this song is likely to become the mood music for food and drink pricing too.
Predicting food pricing is even more challenging than predicting the weather. And now, thanks to the June 23rd vote to leave the European Union, a large proportion of the levers that drive the price of food have either been moved dramatically or thrown into a state of complete uncertainty (see “Brexit impacts” below).
Let’s not forget that the cost of food for caterers and consumers has been going down for the past couple of years, and is still doing so as I write. But even though some of the reasons for this decline remain in place, it looks pretty certain that the journey back into inflation has begun, on a trajectory that perhaps will become quite steep.
Short- to mid-term trends
There are many influences on food prices, and in recent times one of the most significant has been the strength of sterling. In 2014, we imported about 45% of what we eat, of which about two-thirds comes from the EU (see “Where our food comes from”, below). In 2015, sterling appreciated against the euro by 9%, which on its own reduced the cost of food by more than 2%.
In 2016, and caused by Brexit, sterling has declined 10% against the dollar and 13% against the euro. The consensus among currency analysts is
that rates will come to rest at about 15-20% depreciation when the current instability is resolved. During the period that we are sitting in the EU departure lounge we can probably assume total food and drink costs to rise in the region of 5%-plus, taking effect as importers’ hedging protection gradually reduces over the next six to 12 months. Sterling’s weakness will also affect the cost of oil, which is now widely predicted to be on a long upward journey (the cost of transport is a major constituent in the price of food).
Food is not a limitless resource. As such, it’s affected by many other factors, such as strong GDP growth, which can often raise demand and trigger changes to diet and consumption, commodity markets, labour and production costs. Thankfully, Brexit shouldn’t affect these areas too much, though much has been written and said about the inflationary impact on our agricultural labour costs of the withdrawal of free movement of labour (see “Labour and wages in a post-Brexit world”, overleaf).
Like so many other areas this is one where the government’s future policy and the content of our “divorce agreement” with the EU are difficult to predict at such an early stage. But GDP growth is expected to slow, both at home and elsewhere in the world, and this has historically been a deflationary influence.
Of course, 55% of what we eat is still produced in our home market – and will for the large part be much less affected by exchange rate movement – though in the short term a weaker pound will encourage export volumes, which may raise prices to some extent. As mentioned above, the much bigger influence on our home market will be the decisions and agreements we make regarding our exit arrangements.
Looking further ahead
As we leave the EU the big question on everyone’s lips is: how will the government redistribute the cash it no longer sends to the EU – of which a healthy proportion is to support the Common Agricultural Policy (CAP)? For more than 40 years, UK farmers have relied on subsidies from the CAP, which is the very cornerstone of the EU, costing nearly 40% of its budget at €58 billion (£49 billion) a year. The CAP has two main pillars: direct payments, known as the Basic Payment Scheme (BPS), and funding for the wider rural economy. In 2015, UK farmers received almost €3.1 billion in direct payments, according to the National Farmers Union.
Farmers have access to the €5.2 billion pot of funding that has been allocated to the UK for rural development projects over the period 2014-2020, including €2.3 billion that has been transferred from the BPS to the UK rural development programmes. In total, 55% of total UK income from farming comes from CAP support.
How the UK farming industry is supported once we leave the EU is critical – politically, financially, environmentally and from a food security perspective. No guarantees have been given by the government about what, if anything, will replace the CAP – although it is generally accepted that some form of alternative subsidy regime will be introduced.
Farmers are concerned that public opinion will argue against matching the EU subsidies, so primary producers may find that their incomes come under threat. This could result in many more going out of business and could also have a direct impact on food prices as supermarkets are forced to increase prices to ensure security of supply. As we are net contributors to the CAP currently, there are others that argue that the converse may be true.
Tough questions on tariffs
The big unknown is tariffs. It looks likely that the UK will have to renegotiate the terms of trade agreements previously concluded by the EU. To what extent and on what terms non-EU countries will be willing to establish trade agreements directly with the UK remains to be seen. Currently, about 40% of our fresh fruit and vegetables are grown in the EU, and more than half of our pork. Conversely, more than 80% of our food exports end up in the EU (see graph).
DEFRA has stated that a straight substitution of EU food imports from outside the EU calculated on existing tariffs would lead to an 11% rise in the cost of imported food. However, existing tariffs imposed on goods coming into the UK from outside the EU could be significantly reduced if default World Trade Organisation rules were applied without the UK adopting its own tariff regime. If this occurred, the result would be lower-cost imports. This will be a useful negotiating lever when we come to negotiate our own trade terms with the EU as a part of our divorce process (though the practicalities of importing fresh product such as fruit and vegetables from further afield in such enormous quantities will need some rigorous examination).
A more pragmatic solution may be to re-join EFTA, the European Free Trade Association. As Britain was a founder member before we joined the EEC, as
it was then, in 1973, we could almost certainly rejoin this organisation. EFTA membership would allow us to continue uninterrupted free-trade relations with the four EFTA countries, and also to participate in EFTA’s promotion of free- trade deals with non-member countries around the world, including the EU.
In summary, there is a huge amount that right now can only be the subject of speculation. Until we actually leave the EU, food prices are likely to rise due to foreign exchange effects on oil and imported food, potentially dampened a little by GDP slowing. The decisions yet to be taken on the CAP and trading agreements, with both the EU and the rest of the world, are a significant risk to food costs in the future. The years ahead will be defining times.
David Read is chief executive of Prestige Purchasing.