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Farm prices won't cause inflation jump -- report

07/24/2012 @ 1:55pm

Wheat is not oil.

The drought in parts of the U.S. farm region has caused prices for commodities including corn, wheat and soybeans to jump this summer. But the rise in farm prices won't have anywhere near the negative impact on consumer inflation that would come from a similar gain in oil.

That's because, as UBS economist Paul Donovan says, "food really isn't 'food'." Much of the food purchased in developed nations has gone through some form of processing, he points out. This and other factors including marketing and distribution add to the final price tag. As a result, food's retail prices aren't wholly determined by farm prices.

In the U.S., farmers get only about 50% of the retail price of butter and a mere 7% for baked goods, according to U.S. Department of Agriculture data.

In comparison, 68% of the 2011 retail price of gasoline was influenced by the market price of crude oil, as calculated by the Energy Information Administration.

Plus, an increase in the cost of oil quickly translates into higher prices at the gas pump. Economists at Capital Economics say it can take up to nine months for increases in agricultural commodity prices to show up in prices at the grocery store.

But they say any inflation impact is small. If agricultural prices were to remain at current high levels, the Capital economists estimate consumer food inflation would rise from 2.7% in June to around 4.5%. Given food's small share of the top-line consumer price index, the rise "would add just 0.3 percentage point to overall CPI inflation," they write.

If no other price pressures build, future inflation would remain close to the Federal Reserve's 2% target rate.

Perhaps the bigger worry in the food price outlook is the possible impact on foreign wages. Food makes up a much larger share of total inflation in emerging economies. If businesses in emerging markets have to make higher cost-of-living pay increases to their workers, higher labor costs might lift prices of imports coming to the U.S.

That hasn't shown up in the import price data yet, but a persistent uptrend in global food prices could change the dynamic.

(Kathleen Madigan, a special writer, is the primary author of the Big Picture column. She covered the economy for almost two decades at BusinessWeek and worked in the economics departments at several Wall Street firms.)

Write to Kathleen Madigan at kathleen.madigan@dowjones.com.

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(END) Dow Jones Newswires
July 24, 2012 13:33 ET (17:33 GMT)
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