When economists tell us that the demand for basic food products is ‘inelastic’, this is frequently misunderstood to mean that demand will not decrease if food prices are increased.
In reality, it only means that the quantity demanded will decrease by a smaller percentage than the increase in prices.
In addition to the response of demand to price changes (price elasticity), changes in income affect the quantities demanded (income elasticity).
If demand decreases by a higher percentage than the increase in prices (elastic demand), gross income will decrease; if the quantity demand decreases by a lower percentage, gross income will increase.
A recent report by the US Department of Agriculture analyses the effect of changes in income and prices on the demand for different food items in various countries. It provides information relevant to South African food producers.
In low-income countries, an increase of 1% in prices results in a decrease of more than 1% in the demand for meat and fruit. Milk demand changes by only 0,25% in lower-income countries and by 0,4% in higher-income countries, showing that consumers regard milk as an essential, while low-income consumers regard fruit and meat as ‘luxuries’.
A 1% change in income leads to a strong demand response in low-income countries, with the greatest response being to milk, followed by meat and sugar-sweetened beverages.
The response is much lower in high-income countries. Fruit intake is not sensitive to changes in income.
In South Africa
The report also shows that income elasticity is lower among younger than older people. When it comes to price elasticity, there is little difference between age and gender groups.
There are regional differences, however. The price elasticity for milk demand is high in Asia and much lower in sub-Saharan Africa.
The income distribution of South Africa’s consumers has changed a great deal. The proportion of households in the higher income groups has increased, while the proportion of the population in the lower income groups has decreased.
The latest figures (based on the Annual SAARF All Media and Products Survey, which uses the Living Standard Measure to determine household income categories) show that while 9,5% of the population are still regarded as marginalised consumers, 52% are regarded as middle class, 22% as upper middle class, and 16% as wealthy consumers.
The proportion of the population in the middle to wealthy groups has increased from 61% in 2004 to the current 90%.
The increase in the number of consumers in the higher-income groups has resulted in more demand for higher value food items. The demand for protein has increased, while the demand for basic carbohydrates such as maize meal has decreased over time.
As per capita income has increased and consumer debt has decreased, higher retail food demand was to be expected. The growth in food demand has been limited in the past two years by very high non-food inflation, especially in ‘must-buy’ items such as transport and communication.
The economy’s slow growth in 2017, as well as the expected increase in electricity prices and likely increase in personal tax and even in VAT, will further depress the consumer’s buying power.
Figures by market research company Nielsen SA already show decreased demand for many basic food products. The current high meat and egg prices are largely due to weaker supply and are not demand-driven.
Thus, while the increase in the South African consumer’s disposable income and the growth of the middle class are driving food demand, other factors are limiting this growth.
Current high food prices are probably temporary and may decrease if the supply increases.
At this stage, I advise farmers to enjoy the high prices, but remain cautious. Current higher prices should not be discounted into higher land values.