Wheat prices are surging in the wake of a drought and wildfires in Russia.
The country is one of the world’s biggest wheat exporters. The fires have destroyed around a fifth of their annual crop. So it’s little wonder that the cost of wheat has jumped by 50% since late June.
And that in turn, is going to push up the cost of your breakfast. Food producer Premier Foods has warned that it’ll likely have to hike the price of bread, by up to 10p, reports the Daily Mail.
Food prices were already ticking higher. The British Retail Consortium reported the other day that food prices rose by 2.5% in July, year-on-year, up from 1.7% in June. The Grocer magazine reckons that food prices will be at least 10% higher come the new year.
So what does all this mean for inflation – and your investments?
What rising agriculture prices mean for inflation
It’s not just edible commodities that are rising in price. Fashion chain Next warned yesterday that its prices may rise by up to 8% next year, due to higher cotton prices. With consumer price index inflation (CPI) still well above the Bank of England’s target, you’d think that today’s interest-rate setting meeting would be a fraught affair.
- Commodities are only half way through their bull market
- Harvest profits from agricultural growth
But I suspect nothing will happen.
The sort of price inflation that gets policy-makers really twitchy is inflation driven by wages. This is when the price of goods rises to meet demand, so workers demand higher wages to compensate, and then companies raise prices again to make up for the higher wage bill. This in turn leads to demands for higher wages again, and you get into a vicious spiral. You end up with production collapsing or being held up by industrial action and general social upheaval.
It’s not the most pleasant of cycles. But it’s also not what we’ve got right now. Average wage growth actually slowed over the three months to May to 1.8%, from 1.9% for the three months to April. That’s well below the current level of CPI, which stands at over 3%.
It’s no surprise that wages aren’t rising. Unemployment is high. So there’s a reasonable supply of labour for employers to turn to. That makes it difficult for staff to demand big pay rises.
So what we’ve got right now is inflation driven by rising raw material costs. The price of things like energy and food – all the things we need, and find hard to cut back on – is going up. And when your wages aren’t rising as fast as your costs, that means you have to cut back on other things. So in this case, rising costs act a bit like a tax.
Of course, you could always compensate for stagnant wages by borrowing more money. That’s what we all did in the good old days before the credit crunch. But that didn’t get us very far when the banks realised they’d loaned everyone too much. And now the credit tap is shut off too.
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So while I can see inflation remaining pretty sticky for some time to come, right now I suspect the Bank of England will err on the side of caution. Or rather, it’ll remain more worried about another slump, rather than an explosion in inflation. Particularly if the recent strength of sterling continues.
That could change of course, and we’ll be keeping an eye on the situation.
What’s to blame for rising prices?
Meanwhile, the latest surge in wheat prices shows just how vulnerable the agricultural market is to shifts in supply against a backdrop of steadily-increasing global demand.
We’ll put aside the role of speculation in driving up prices for now – although it’s something we’re looking into in more depth. It’s easy to make populist points by blaming the likes of Goldman Sachs for driving up prices, but it’s not that simple. However, at the same time, I find it difficult to believe that the sheer weight of ‘long-only’ money that has rushed into the commodities area in recent years has had absolutely no impact on end-user prices whatsoever.
If that’s the case, then you can spread the blame pretty widely – starting with the central bankers who slashed interest rates so low that they encouraged all this ‘diversification’ into exotic areas in the hunt for yield. But anyway, this is a topic for another day.
How to profit from increasing food demand
In terms of profiting from growing demand for food, the idea of commodity-price tracking exchange-traded funds (ETFs) seems appealing. But they aren’t suitable long-term investments due to their structure. And as we’ve noted before, food prices can’t go up forever. High commodity prices almost automatically create the conditions for their own destruction – people spot the opportunity to profit, so they plant more, they work on more efficient ways to grow things, they turn more land over to agriculture.
As we’ve pointed out many times in the past, a much more effective – not to mention ethically watertight – way to profit from this long-term trend is to invest in the companies that will make money by helping us to meet this demand. My colleague James McKeigue wrote about this recently in MoneyWeek magazine – you can read his take on it here: Harvest profits from agricultural growth.
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