(Bloomberg View) — If you want to understand how inflation will affect the U.S. economy, take a close look at two industries: packaged consumer goods and restaurants.
Markets are focused intently on inflation. Is it picking up, and what will that mean for profit margins, interest rates, and the Federal Reserve’s monetary policy? Investors and economists dutifully track the monthly economic data, but there’s something to be said for seeing how actual companies are experiencing changes in prices and wages. Consumer-goods and food-service businesses are great candidates, because they’re among the most sensitive and they happen to be in the midst of reporting earnings.
Consider Campbell Soup Co., which might be the poster child for cost-pressured food companies. In an earnings call last week, the company reported that higher costs on dairy, meat, steel cans, and aluminum subtracted 330 basis points from gross margins. It also noted higher freight costs, which have been hitting a number of companies amid a nationwide truck driver shortage. On the price side, the company says it’s not able to pass increases on to consumers, because soup is a “price elastic” product. This means that cost inflation, currently running at 3.5 percent, will keep eating into profits. Campbell Soup stock closed Wednesday at a 52-week low, down 27 percent from a year earlier.
Restaurants are interesting, too, because they have so many moving pieces and different approaches to navigating this cost environment. I mentioned last week how Chipotle saw a decline in customer traffic after raising prices by 5 to 7 percent. Texas Roadhouse, which reported earnings this week, raised prices only 1 percent and had strong traffic growth – but mid-single-digit wage growth ate into the bottom line. The company expects more of the same this year, as it holds prices steady in an effort to maintain traffic, even at the expense of margins. Cheesecake Factory offered a creative interpretation of the labor environment: The government is squeezing them by raising minimum wages but giving back some via tax cuts, so it mostly balances out when looking at after-tax profit margins.
Nobody’s saying that they’re planning to aggressively pass on cost increases to protect profit margins, at least not yet. This sends a mixed signal for investors. On one hand, it suggests that for now, consumer inflation will remain somewhat contained, allowing the Fed to stick with its plan of gradual, rather than rapid, interest-rate increases. On the other hand, companies are absorbing major increases in labor, food, energy and transportation costs, to the detriment of profits. At least in some industries, this will undermine the boost to profits that investors have been expecting from tax cuts.
Investors aside, the effect on inequality could be positive. If wages rise faster than prices, workers will be better off – and it’s the lowest-paid workers, such as those in restaurants and trucking, who are getting raises the fastest. Those workers are also the consumers most likely to spend each added dollar of income, a dynamic that will keep boosting growth and reducing inequality until inflationary pressures become too strong.
In the meantime, food and restaurant businesses will have to contend with 3 to 5 percent cost inflation, 1 to 2 percent price increases and falling profit margins.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Conor Sen is a Bloomberg View columnist. He is a portfolio manager for New River Investments in Atlanta and has been a contributor to the Atlantic and Business Insider.
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Source: Investing.com
