Inflation is cooling, but prices on many items are going to stay high for months

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  • The slowdown in inflation has not yet brought relief to consumers, because prices are still much higher than a year ago.
  • The cost of goods and freight is falling, but not immediately reaching consumers, partly because of contracts with suppliers and the desire of some companies to increase profit margins.
  • But retailers are fighting back, promoting their own branded products, which could entice consumers with lower prices and force manufacturers to offer better deals.

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Inflation may cool down. But for most Americans, the price of a cup of coffee or a bag of groceries hasn’t changed.

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In the coming months, the big question is whether consumers will begin to feel relief.

Over the past few months, many of the key factors that fueled four decades of inflation have begun to disappear. Shipping cost has been reduced. Cotton, beef and other goods fell in price. And shoppers were finding bigger discounts online and in malls during the holiday season as retailers tried to shed excess inventory. Consumer prices fell 0.1% in December from the previous month, according to the Labor Department. This was the biggest monthly drop in almost three years.

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But cheaper freight and the cost of goods will not immediately reach consumers, in part because of contracts with suppliers that set prices months in advance.

Prices are still much higher than a year ago. The overall consumer price index, which measures the cost of a wide range of goods and services, rose 6.5% in December, according to the Labor Department. Some of the price increases are stunning, with the price of large Grade A eggs more than doubling, while cereals and baked goods are up 16.1%.

“There are some prices, some commodities, that are falling,” said Mark Zandi, chief economist at Moody’s Analytics. “But in general, prices are not falling. It’s just that growth is slowing down.”

Retailers, restaurants, airlines and other companies decide whether to forego price cuts or impress investors with higher profits. Consumers are becoming more selective in spending. And economists are weighing whether the US will enter recession this year.

Tough contracts, higher wages

In the early days of the Covid pandemic, Americans continued to spend money while factories and ports closed temporarily. Containers clog ports. Stores and warehouses struggled with out-of-stock items.

This surge in demand and limited supply pushed up prices.

Now these factors have begun to change. As Americans feel inflation and spend on other priorities such as commuting, travel and restaurants, they are buying fewer things.

Freight costs and container costs have come down, pushing prices down the rest of the supply chain. According to the Labor Department, the cost of transporting a truck for long distances rose by 4% in December compared to the same period last year, but fell by almost 8% from a record high in March.

The cost of a 40-foot sea container has fallen 80% from a peak of $10,377 in September 2021 to $2,079 in mid-January, according to Drewry, a supply chain consulting firm, World Container Index. But this is still higher than pre-pandemic rates.

Food and clothing materials became cheaper. In November, wholesale beef prices fell 15.6% from a year ago, but remain historically high, according to the USDA. Coffee beans fell 19.7% in the same time period, according to the International Coffee Organization's total world prices. According to the Ministry of Labor, the cost of raw cotton fell by 23.8%.

However, to guard against unpredictable price spikes, many companies enter into long-term contracts that set the prices they pay to run their business months in advance, from buying ingredients to transporting goods around the world.

For example, Tex-Mex Chewie fixed prices for fajita beef, which are lower than last year, and plans to also fix prices for ground beef in the third quarter. But diners are likely to still pay higher menu prices than they did last year.

The Chui-based company plans to raise prices by about 3-3.5% in February, although it does not plan to raise prices again at the end of this year due to its conservative pricing strategy. Online prices have risen about 7% year-over-year, lagging behind overall price increases in the restaurant industry.

Likewise, coffee drinkers are unlikely to see a drop in prices for lattes and iced coffees this year. dutch brothers Coffee CEO Jot Ricci told CNBC that most coffee companies are hedging their prices six to twelve months in advance. He predicts that coffee chain pricing could stabilize as early as mid-2023 and even as late as 2024.

Contracts with suppliers are not the only reason for rigid prices. Labor has become more expensive for businesses that need large numbers of workers but struggle to find them. Restaurants, nail salons, hotels and doctors' offices will still reckon with higher wage costs, Moody's Zandi said.

The shortage of aircraft pilots is one of the factors likely to drive up airfare this year. Airfare prices have fallen in recent months but are still up nearly 30% from last year, according to the latest federal data.

However, if the labor market remains strong, inflation falls and wages rise, Americans will be better able to cope with higher prices for airline tickets and other goods, Zandi said.

According to the Bureau of Labor Statistics, annual hourly wages rose 4.6% over the past year, not as high as the increase in the consumer price index in December.

However, in some categories, lower demand has led to lower prices. The prices of several pandemic-causing items, including televisions, computers, sporting goods and large home appliances, have fallen in price, according to Labor Department data for December.

Budget pressure on families

Senior retail executives said they expect family budgets to continue to come under pressure in the coming year.

At least two grocery store managers Hooks CEO Rodney McMullen and Sprouts Farmers Market CEO Jack Sinclair said they don't expect product prices to drop anytime soon.

“The increase is starting to slow down a bit,” McMullen said. “This does not mean that you will start seeing deflation. We expect to see inflation in the first half of the year. The second half of the year will be much lower.”

He said there are some exceptions. Eggs, for example, are likely to drop in price as the bird flu outbreak subsides.

Over the past two years, consumer goods companies have raised the prices of items on Kroger shelves or reduced package sizes, a strategy known as "shrinkage." McMullen said no one went back to the grocer to cut prices or increase discount levels from last year. Some of them remain price aggressive, he said, as they play catch-up after margins dwindled earlier during the pandemic, or sacrifice volume for profit.

AT Procter & Gamble, for example, executives plan to raise prices again in February. Prices for key P&G consumer products such as Pampers diapers and Bounty paper towels rose 10% year-over-year, while demand fell 6% in the most recent quarter.

In other cases, companies are still dealing with factors that contributed to inflation. For example, farmers are raising cows, but there are fewer than before the pandemic, and there is less grain and corn as the war in Ukraine continues, according to McMullen.

“If you used to spend $80 and now spend $90, [on groceries]“I think for a while you will spend $90,” he said. “I don’t think they will go back to $80.”

Utz Brands CEO Dylan Lisset echoed the sentiment back in August, telling investors that list prices don't usually fall even when costs come down.

“We don’t take something that cost $1, change it to $1.10, and then after a year or two, change it to $1,” he said.

Instead, food companies like Utz typically offer higher and more frequent discounts to customers as costs come down, according to Lissette, who was once responsible for Utz's pricing of pretzels and dummies chips.

Over the next few years, companies may be reversing "shrink" packaging that will lead to cheaper snacks per ounce. Two to three years after that, buyers could see the introduction of new package sizes, Lissett said.

Ace up the sleeve of retailers

But retailers can speed up this period. They may use their own, cheaper private labels, such as peanut butter, cereals, and laundry detergents, which resemble well-known national brands.

Last fall, Kroger launched Smart Way, a new privately owned brand with over 100 items such as loaves of bread, canned vegetables and other staples at the lowest price.

McMullen said the grocer was already planning to launch a private label, but pushed the launch forward by about six to nine months because of buyers' interest in value in an inflationary environment. And he added that if a national brand loses market share, they are more likely to become discount aggressive or even permanently lower the price.

Zandi, an economist at Moody's, said that while customers may be frustrated, they are not powerless. By choosing competing brands or choosing promotional items, they can send a message.

“Companies respond to customers,” he said. “If consumers are price conscious and sensitive, it will help convince businesses to stop raising prices and maybe even offer a discount.”

— CNBC Leslie Josephs contributed to this story.

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