Increasing Food Prices Eat into American Wallets

This morning, your bowl of cereal and milk probably cost you 49 cents. Last year, it was 44 cents. By next year, it could be 56 cents. It's enough to make you cry in your cornflakes.

The forces behind the rise in food prices — China's economic boom, a growing biofuels industry and a weak U.S. dollar — are global and not letting up anytime soon. Grocery receipts are bulging because the raw ingredients, packaging and fuel that go into the price of foodstuffs cost more than they have in decades.

It's the worst bout of food inflation since 1990, but not yet worrisome to the economy, said John Lonski, chief economist of Moody's Investor Service. While high food prices can cut into consumers' discretionary spending, the 4 percent rate of food inflation is still far below the crippling double-digit levels of the 1970s.

Still, consumers anxious for relief in the checkout line may have to keep waiting.

Andrea Williams, 32, can track the rise in prices of the food she buys for herself, her husband and their three children by looking back at the receipts she says she meticulously saves.

"In 2004, I bought a gallon of milk, it was a $1.63," Williams said before heading into a Wal-Mart in Savoy, Ill., about 140 miles south of Chicago.

A gallon of milk cost nearly $3 a gallon last month in her area.

A couple of years ago, Williams would spend about $250 a month on one big grocery trip. Now she says she's spending $250 on big trips every two weeks.

It's possible to trace the jump in food costs to the commodities markets, where the price of agriculture products and energy have reached multidecade highs this year. Crude oil, which helps dictate the price of gasoline and plastic packaging, hit an all-time peak in September. Wheat prices also climbed to a record.

The run-up in commodity prices has as much to do with short-term supply and demand in each market as with long-term shifts in who produces and consumes those products.

China is the juggernaut. Rapid growth there — and in Brazil, Russia, India and other developing nations — has led to massive demand for raw materials, including energy to run factories and cars, metals to build infrastructure and beans and grains to feed livestock and people. China will import almost 50 percent of the world's oilseeds within a decade, becoming the world's largest importer, according to estimates from the Organization for Economic Cooperation and Development.

Oils made from oilseeds such as soybeans are used widely in packaged foods, while corn is used to make high fructose corn syrup, an ubiquitous sweetener found in everything from soda to bread.

China's oilseed demand reflects another trend: The world is using more of its food supply to make fuel. Corn in the U.S. and China is being converted to ethanol, a gasoline additive. Europe is using more wheat for ethanol and rapeseed for biodiesel, a cleaner burning fuel that is mixed with regular diesel. Brazil has bulked up its production of sugarcane to make ethanol.

Demand for corn from the burgeoning ethanol industry in the U.S. helped drive corn prices to a peak earlier this year, setting in motion a domino effect of price increases through the food chain as livestock raisers, food makers and retailers tried to recover costs.

Corn prices have come off their high due to expectations for a huge crop this year, but prices remain historically elevated because of inflation across the agriculture market. A bushel of corn that went for about $2 a couple of years ago costs about $3.50 today.

Higher commodity costs have led Kellogg Co. (K), General Mills Inc. (GIS), Kraft Foods Inc. (KFT) and others to hike prices this year. Kellogg boosted prices 5 percent in April based on weight; in June, General Mills shrunk cereal package sizes in a way that had the effect of lifting prices. Starbucks Corp. decided to charge more for lattes and other drinks to cover its milk costs.

"Ethanol got us started down this line, but other things moved to the forefront," said Darrel Good, professor of agricultural economics at the University of Illinois.

This year, such tectonic shifts in demand have met with shorter-term supply constraints to exacerbate the inflation. Because the markets for raw materials are often linked — both across geography and with each other — problems in one market can spread to another.

Take soybeans. When U.S. farmers planted more corn this year to meet demand for ethanol, they devoted less acreage to soybeans. That has squeezed soybean supplies and helped push prices up more than 40 percent since the year began. Soybeans recently cost as much as $10 a bushel, up from $7 a bushel in January.

Or witness the wheat market. A failed crop in the Ukraine started prices rising sharply in the U.S. The situation snowballed as one wheat crop after another worldwide was damaged by either too much rain or too little, leaving foreign buyers frantic to stock their shelves. Global stockpiles have dwindled to a 26-year low and sent prices surging higher. In Italy, consumer groups staged a symbolic pasta protest last month over the rising price of the country's wheat-based staple.

A bushel of wheat recently topped $9.50 — nearly 90 percent more than it cost at the start of the year, when wheat traded around $5 a bushel.

In addition, a weaker U.S. dollar has raised foreign demand for commodities, which appear cheaper to buyers abroad. The greenback tumbled earlier this month to an all-time low against the euro.

"All along the chain, you're seeing price inflation," said Standard & Poor's Chief Economist David Wyss. "It's a significant impact on food prices, but it takes a long time to show up."

High commodity prices tend to trickle slowly down to the consumer as growers, food manufacturers, distributors and retailers each swallow a portion of the added cost before passing a chunk of it on to the consumer. But with costs up for more than a year the trickle-down process is under way.

The Labor Department reports food inflation is running at 4.2 percent annually — twice the rate of overall inflation. Nationwide, milk prices are up 18 percent since the start of the year, while eggs cost 35 percent more than they did a year ago. The USDA estimates overall food price inflation will run 3 percent to 4 percent in 2008.

The big picture, at least in the U.S., is that higher food prices don't hurt like they used to. Today, about 8.5 percent of the American household budget goes to food at home, down from an average of 19 percent of the total budget in 1960, Wyss said. While food inflation is high, it's not hyperinflation, he said.

But it's enough for some shoppers to notice and alter their habits.

Talking in a parking lot a stone's throw of two corn fields, Andrea Williams said she's cut back on buying beef, and steaks in particular, and she's begun scanning grocery advertisements for sales.

"That's basically my meal planner," she said. "If pork chops are on sale, guess what's for dinner?"