Food costs up but grocery profit margins down

News analysis

The recent leveling in the nation’s cost of living index has yet to make its way fully to the price tags on supermarket shelves, as food prices continue to rock even the most hardened shoppers, and that has put a big target on the back of the nation’s grocers, with the likes of Vice President Kamala Harris vowing to stop price gouging and the Biden Federal Trade Commission launching an investigation into grocer profits and prices.

Lina Kahn, the chairwoman of the Federal Trade Commission (FTC), said the FTC would form a “strike force” to explore why Americans aren’t enjoying competitive, affordable prices.

“Grocery prices skyrocketed during the pandemic, due in large part to higher costs and supply chain disruptions,” Kahn said in announcing the task force. “We also know that, in the years since, costs have fallen and supply chains have improved. But many items are still too costly, and many large grocery chains are still raking in enormous profits. The FTC is determined to understand why.”

While Kahn’s point of view might resonate on the progressive left, it is an outlier in economic circles. In that environment, most of the evidence suggests that the upward spiral of food prices since the beginning of the pandemic has had nothing to do with grocery retailers, whose profit margins are historically low and have been going lower still.

If there is such a thing as sticker shock, retail grocers are as shocked as you are.

For decades, grocery store profit margins have ranged from a lowly 1 percent to a not-much-better 3 percent. In 2023, the grocery store profit margin plunged to 1.6 percent, marking a decline for the third straight year.

While consumers have struggled to put food on the table and make ends meet, grocers — especially medium-sized and smaller chains — have done the same, and many haven’t made it. Foxtrot, Sickles, Pusateri’s Fine Foods — all those and many more have filed for bankruptcy in the face of rising costs and wages.

That hasn’t stopped Democrats from taking aim. In addition to Harris and the FTC, President Joe Biden himself has called out the grocers: “I have a plan to lower costs for housing — by building and renovating more than 2 million homes — and I’m calling on corporations including grocery retailers to use record profits to reduce prices.”

The president left out the word “low,” as in record low profits.

Of course, there’s no doubting food inflation and the pain it causes is real. According to the Heritage Foundation in August, grocery costs have risen nearly 22 percent since the beginning of 2021. 

“Many specific staples rose far more — eggs are up 110 percent, flour up 29 percent, orange juice up 82 percent,” Heritage research fellow Joel Griffith wrote. “A family of four spending $1,000 per month just three and a half years ago is spending an additional $2,640 annually for this same shopping list.”

Ditto industry-wide, Griffith wrote, and he observed that the drop in retail grocery profit margins was more of an implosion, plunging to 1.6 percent from a high of 3 percent in 2020. To say it another way, grocery profit margins have dropped by almost 50 percent since then.

“In other words, grocer profit on $100 of sales is just $1.60,” Griffith wrote. “Profit margins contracted as overall food inflation totaled 20.6 percent in those three years.”

And while the administration put much of the blame on larger regional and national retail chains, that wasn’t true, either.

“The biggest grocers have experienced this margin crunch,” Griffith wrote. “The Kroger Co. — the nation’s largest traditional supermarket — eked out an operating margin of 1.93 percent this past year, a margin lower now than it was pre-pandemic. These trends are the opposite of gouging.”

I have a question

So if grocer retail greed isn’t causing the high food prices, what is?

Pull-up a chair and prepare to spend some time. For starters, the U.S. government pumped trillions of dollars into the American economy, increasing the nation’s money supply by 40 percent in just two years, and that money burned a hole in consumers’ pockets, including at the grocery store.

In effect, the simultaneous occurrence of lower grocery profit margins and higher retail grocery prices meant grocers as well as their customers were subsidizing whomever the government was subsidizing by printing all that money.

Of course the loose-as-a-goose monetary policy didn’t just drive grocery prices higher; it drove everything higher as demand outstripped supply, boosting the wholesale costs of products to retailers. Since 2020, as the Heritage Foundation reported in August, manufacturing costs rose 28.4 percent, higher than the spike in retail food prices of 26.3 percent over the same time period.

But it wasn’t just the federal printing press and its unintended — or intended — consequences for manufacturers that was conspiring against grocers and their loyal customers. Systemic inflation tortured food processors, too. As the National Restaurant Association pointed out in July, upward pressure on wholesale food prices was broad-based across commodities.

“Producer prices for tomatoes (185.8 percent), eggs (155.0 percent), frozen fruits, juices and aides (27.0 percent), butter (15.7 percent), dry, condensed and evaporated milk products (12.8 percent), pork products (12.2 percent), fluid milk products (9.9 percent), sugar and confectionary (9.0 percent), dairy products (7.6 percent), coffee (6.3 percent), and canned fruits and juices (5.9 percent) stood well above their July 2023 levels,” the association reported.

Scott Moses, a partner and head of grocery, pharmacy and restaurants investment banking at Solomon Partners, said there were widespread misperceptions and numerous misstatements about the rising cost of groceries, especially when those statements blamed grocery retailers.

“Grocers and the administration have been accused of being responsible,” Moses wrote. “This is simply not true. It reminds me of a John Adams quote: ‘Facts are stubborn things; and whatever may be our wishes, our inclinations, or the dictates of our passions, they cannot alter the state of facts and evidence.’”

That evidence, Moses wrote, pointed to supply chain disruptions, Russia’s Ukraine invasion, and, most important, food manufacturer price increases to grocery customers.

For one thing, Moses argued, Covid snarled the global supply chain, from manufacturing output reductions to shipping delays and countless worker absences. Add in extreme weather events and Covid fear, and there was panic buying, he asserted.

Moses said the Russian invasion of Ukraine was responsible for disrupting what was roughly 30 percent of global grain and fertilizer exports. 

“Russia is also a significant fuel exporter,” he wrote. “When production and exports all but shut down and demand for non-Russian energy increased, there was even more food and energy cost pressure. For example, wheat prices increased 34 percent per metric ton from February 2022 to May 2022, beyond already-elevated levels of supply disruption. As a result, food inflation soared, peaking at 13.5 percent in late 2022. In the past year, much of this supply has been restored, but there remains considerable volatility given continued geopolitical hostilities.”

The biggest factor, Moses argued, was the higher costs charged by food manufacturers and processors. 

“Food manufacturers drive price dynamics at grocery stores, from national/discount grocers like supercenters, club stores and dollar grocers to online grocers and supermarket grocers,” he wrote. “For example, the collective gross margin of P&G, Mondelez, Kellogg’s and Coca-Cola increased over 1.5 percent in the past year — a significant dollar amount — as their company leaders plainly discussed on earnings calls their continued ability to pass along price increases to customers.”

If I can raise prices there, I can raise them anywhere

Over at the Federal Reserve Bank of New York, analysts were also dismissing retail profit margins — and just about all profit margins — as drivers of food inflation.

Federal Reserve Bank of New York analyst Thomas Klitgaard acknowledged that the consumer price index for groceries had risen more than the overall price index since the start of the pandemic, with a particularly large jump in 2022. 

His starting place in looking for a culprit was wholesale raw commodity prices, which he asserted surged from early 2021 to mid-2022. 

“In addition, wages for low-paid grocery workers have gone up faster than wages for the workforce as a whole,” Klitgaard wrote. 

All in all, Klitgaard wrote, the consumer price index for food-at-home has been on a wild ride.

“The index was essentially unchanged in the five years before the pandemic, then rose 4 percent over the course of 2020, 6 percent in 2021, and 12 percent in 2022,” he wrote. “The pace of annual increases then fell to 1 percent starting in 2023, but the damage to consumers was done, with the index up 25 percent from the fourth quarter of 2019 to the first quarter of 2023.”

Again, Klitgaard reiterated, higher prices start with wholesale commodity pricing. Klitgaard used the S&P Goldman Sachs index to plot the agriculture and livestock commodities and the food-at-home index. 

“The indexes are both set to 100 in 2019,” he wrote. “Looking at the whole period shows that grocery prices seem to only respond noticeably when commodity prices make big moves, like the jumps in 2008 and 2011 and the collapse in 2015. The rationale is that there are many other input costs dictating food prices so it takes unusual swings in commodity prices to affect grocery prices.”

The food-at-home index grew at an average pace of around 2 percent in the 20 years before the pandemic, Klitgaard wrote. But, he pointed out, peak year-over-year increases hit 8 percent in 2008 and 6 percent in 2011, following sharp rises in commodity prices.

“The subsequent retreat in commodity prices helps explain why the food index was unchanged from the end of 2014 to the beginning of the pandemic,” he wrote.

To be sure, Klitgaard wrote, there were other contributors to the prices increases, including those higher wages for retail workers.

“Wages throughout the economy have gone up substantially since the start of the pandemic,” he wrote. “ … Consumer prices and wages in the two food sectors have tended to move in sync, except during periods of large commodity swings. That is, food-at-home prices rose faster than these wages in 2008 and 2011 and increased at a slower pace than wages in the 2015-19 period.”

What sticks out is the rise in wages for retail grocery workers since the start of the pandemic, Klitgaard asserted. 

“The increase in these workers’ wages since 2019 has been roughly 15 percentage points greater than that of wages for the food manufacturing sector and the workforce as a whole,” he wrote. “Grocery worker wages would seem then to be a key factor in why the food index has gone up more than the core price index.” 

Finally, Klitgaard wrote, profit margins haven’t been important.

While there has been some speculation that increases in profit margins helped push up inflation during the pandemic, the analyst wrote, profit margins were little changed, going from 6.9 percent in 2019 to 6.8 percent in 2023, while increasing from 2.9 percent to 4.4 percent for food and beverage retail stores. Put in context, the analyst asserted, the increase in grocery store profit margins (revenues over costs) was small compared to the 25 percent increase in grocery prices over the period. 

“Putting these factors together suggests that the unusually high food inflation experienced in the first three years of the pandemic appears to have been due, in part, to much higher food commodity prices and large increases in wages for grocery store workers,” he wrote. “The subsequent drop in commodity prices then helped bring food inflation down below the core inflation rate even though heightened wage pressure for grocery workers continued. In the end, the moderation of food price inflation has caused the gap that developed between the food index and the core index since the start of the pandemic to shrink from 10 percentage points at the end of 2022 to 5 percentage points in June 2024.”

A 2023 report by the General Accounting Office came to the same conclusions, saying “unique challenges” contributed to the double-digit increase in food prices. 

“For example, Covid-19 caused disruptions across the food supply chain,” the report stated. “As U.S. households shifted away from full-service restaurant meals, they purchased more food at grocery stores. There were slowdowns in production at meat processing plants when workers became sick and plants shut down. Similarly, transportation of food was bottlenecked when truck drivers got sick.”

Likewise, the report stated, the war in Ukraine disrupted the global supply of agricultural commodities — such as wheat, corn, sunflower oil, and fertilizer. 

“This reduction in supply, coupled with a U.S. drought, caused American consumers to see wheat prices increase,” the report stated. “Some factors have posed long-standing challenges within the food supply chain, while others occurred more recently, according to experts and USDA officials we interviewed. Long-term factors include global trade issues (e.g., trade restrictions); weather events and climate change; and animal and plant disease, generally.”

More recent factors include the pandemic, increased consumer demand, droughts in 2021, the Highly Pathogenic Avian Influenza virus outbreak in 2022, and the Russia-Ukraine conflict, the GAO reported. 

The GAO report also homed in on commodity pricing at the wholesale level.

“A number of the above factors contributed to increases in prices for agricultural commodities such as wheat, corn, and soybeans, which were already experiencing global shortages, as USDA emphasized in its analyses and discussions with us,” the GAO report stated. “Because factors occur simultaneously and across multiple segments of the food supply chain, it is difficult to isolate and determine the effect of any single factor on retail food prices, according to USDA and experts. While a particular factor may affect one segment of the food supply chain, factors usually affect multiple segments, according to experts. For example, higher animal feed costs predominantly affect the production segment of the supply chain. In contrast, higher energy costs (e.g., fossil fuels and renewables) can affect entities that use energy throughout the food supply chain, according to USDA.”

Finally, in addition to all the other factors, some companies openly raised prices beyond what they themselves were paying in increased costs. Tyson Foods, the largest meat company in the US, doubled its profits in the first half of 2022, while General Mills, which owns a variety of cereal brands as well as food brands like Annie’s, Betty Crocker, Chex, and Bisquick, raised prices five times since 2021, boosting its profits by 16 percent year-over-year. 

Conagra, which owns packaged food brands like Healthy Choice, Duncan Hines, and Reddi-wip, scored a 22-percent profit increase. Indeed, on an earnings call, Jason English, an analyst at Goldman Sachs, said that Conagra Brands, owner of brands like Slim Jim and Duncan Hines, had both priced its products above inflation rates and recovered its profit margins.

Richard Moore is the author of “Dark State” and may be reached at richardd3d.substack.com.