Food Prices and the Alchian-Allen Effect
With food prices rising, journalists have predicting that consumers will switch away from high-quality, expensive, organic or free-range food in favour of cheaper alternatives. Here is Julia Finch in the Guardian reporting on the reversal:’Twelve months ago the big grocers reckoned the world had changed: food shopping was no longer about price, but provenance, green issues and healthy eating.
Organics were the new big seller - Asda doubled its range and at Tesco sales hit £1bn a year - while at Sainsbury’s Jamie Oliver was urging the public to try something new and adventurous with sage or nutmeg.
Now, as household budgets are stretched, the grocers have done an about-turn. They are screwing their suppliers to the floor to keep price rises low, filling their shelves with promotions - and Jamie’s new campaign is all about how to feed your family for a fiver.’Guardian journalists are clearly worried that the food revolution that has drastically improved British cooking in the past ten years may go into reverse. Elsewhere in the paper, Jon Henley notes that’Cheaper retailers such as frozen-food chain Iceland and German-owned Aldi have seen their sales soar as shoppers who would usually grace the aisles of upmarket alternatives such as Waitrose or Marks & Spencer poke their noses round the doors of the long-disdained, deep discounters.’ Admittedly there is some data showing that sales on organic food have indeed slowed as common sense suggests to support this but casual introspection and economic theory - in this case the Alchian Allan theorem suggest a different prediction.
First consider the casual introspection. As a shopper I’ve certainly noticed the increase in prices but I’ve noticed it most for the goods that I typically would consider cheap such as bread, milk, eggs, pasta. And my response is often to switch to the higher price versions of the same goods. The reason? Well if I’m paying that much for six eggs I might as well buy the free-ranged organic ones. My response to higher food prices has been to trade-up in quality.
Now consider the economic theory. According to the Alchian-Allen theorem if there are two goods - a high quality good and a low quality good, then a fixed increase in the price of both goods will lead to a shift in consumer demand towards the higher quality product. The reason being that relative price of the high-quality good has fallen. Tyler Cowen and Alex Tarrabok have a nice paper on it. This is just a price effect. There is of course an income effect which would predict that as food prices go up and we become poorer as a result we’ll substitute towards cheaper food types. But it is not clear to me that the income effect will dominate the price effect here and this should reassure some of the fears at the Guardian!
