U.S. food inflation parallels 70s on ethanol boom

Christine Stebbins, Reuters 14 Dec 07;

"The underpinnings for the higher commodity prices are world economic growth, a weak dollar and increased use of our corn crop for the production of ethanol,"

CHICAGO (Reuters) - Rising U.S. food inflation, now a 25-year high, is reminiscent of the 1970s and will continue for the next five years due to growing world economies, increased food demand and a sharp expansion of corn-based ethanol production, a top food economist said on Friday.

"What happened in the early '70s and what is happening today is that we have moved food input price to a new plateau. Ultimately, the consumer is going to have to absorb those increased costs," said Bill Lapp, president of Advanced Economic Solutions, who on Thursday released a study that looked at food inflation data going back to the 1960s.

Futures prices on the Chicago Board of Trade, the benchmark for commodity grain and soy markets, have risen to multi-year highs this year. Wheat hit an all-time high of $9.81-3/4 a bushel just on Friday. Soybeans on Friday reached over $11.60 a bushel, a price not seen since 1973, and corn rose to $4.37-1/4 in February, the highest level in a decade.

"The underpinnings for the higher commodity prices are world economic growth, a weak dollar and increased use of our corn crop for the production of ethanol," Lapp told Reuters in an interview.

While most of the U.S. corn crop, or 43 percent is fed to livestock to produce meat, dairy products and eggs, an increasing percentage is being used to produce ethanol. Twenty-four percent of this year's corn crop will be turned into ethanol, up from just 14 percent two years ago.

The higher cost of raw commodities contributed to the Consumer Price Index for food, a broadly used gauge for inflation, which rose to an annual rate of 5.4 percent during the first 10 months of 2007, a level not seen since 1980, according to Advanced Economic's study.

"During the next five years, food inflation is forecast to increase by an average of 7.5 percent, well above the 2.3 percent average of the past 10 years.

"The U.S. experienced a similar period of rising commodity prices and food inflation in the 1970s. Commodity prices doubled ... this ultimately resulted in food inflation from 1972 to 1981 averaging 8.2 percent," the study said.

Traditionally, the food industry -- processors, grocery stores, restaurants, and others -- absorbed the cost of higher commodity prices within its operating margins as the rise was temporary given the competitiveness of retailers.

But times are changing, said Lapp, who is a consultant to the food and agricultural industries.

"The difference in the current environment is that we're in the midst of a sustained increase," he added.

The world is not going back to the long-term averages -- $2.40 a bushel corn, $3.50 wheat or $5.50 soybeans, he said.

From 2008-2012, Lapp is estimating that CBOT corn prices will average $4 a bushel, wheat $6.50 a bushel and soybeans $10 a bushel.

Experts agree that global demand for food and rising energy prices are two key drivers of rising inflation, but they differ on how much of an influence corn prices are having on food inflation.

Another study released by analytical firm Informa Economics this week said that historically, there has been very little relationship between corn prices and food inflation.

In the past, for every dollar an American consumer spends on food, only 19 cents goes to the farmer, according to the U.S. Department of Agriculture. The balance, or 81 cents, goes to labor, fuels transportation, packaging, and other non-farm costs.

"The input costs increases are tremendous. Without any relief, the only recourse is to pass along some of the costs to consumers," Lapp said.

(Reporting by Christine Stebbins; Editing by Marguerita Choy)