Fuel, Food and Inflation

Stacey Unsworth, a 36-year-old actor and independent contractor, is squeegeeing the windows of his Dodge Caravan at a gas station on Highway 7 in Vaughan. The cleanliness of his car is something he still has control over; the soaring cost to get from A to B however, seems inexorable these days. What once cost him around $50 for a fill-up is costing him nearly $75 today. “I live in the suburbs and commute, which millions of people do every day. Unfortunately as much as I would like to throw my hands up and start biking, like a lot of Torontonians or people in the GTA, we’re held captive by the oil companies. We have no choice but to drive,” says Unsworth. Though he’s bitter about the spike, Unsworth knows that he’s not the only one suffering from what’s been referred to as ‘pain at the pump.’ “I feel that oil prices are grossly inflated for no real reason at all, but I think that’s the general consensus of a lot of people,” he says.

Similar feelings are felt just a few lanes down, where 27-year-old Franco Ruscetta is clutching the pump and watching the price surge by the second. Statistics Canada reported that gas prices rose 15.7 per cent in the 12 months to February, in addition to the 13 per cent rise that took place in January. “It’s crazy – we pay so much in gas and all these taxes. I just came back from the [United] States and it’s not even $1 for a litre there – and here we are paying 125 or 130 cents … it’s nuts,” says Ruscetta, who began carpooling with friends to help cut costs. Though some U.S. cities like San Francisco and Los Angeles have climbed just past the dollar mark, the average U.S. retail gasoline price is still below at 97 cents per litre as of March 2011.

According to data reports prepared by Calgary-based energy consulting firm Kent Marketing Services Ltd., Ontario’s average retail price of mid-grade gasoline, including taxes, for February 2011, was 122.3 cents per litre. Contrasting that to one year ago, which was significantly less expensive at 104.1 cents per litre, it’s easy to see why some are fearful that fuel prices might shoot up even higher by summer 2011. But let’s not forget the spring of 2008 – yes, the recession – a time when gas prices were putting a major damper on an already turbulent economy, with costs hovering around 138 cents per litre. While the disparity of these numbers seems to only underscore market volatility, they also offer a silver lining: what went up in 2008, eventually did come down. “Crude oil prices need to climb dramatically higher ($125 and above) and stay there for a year or more before threatening the global recovery,” says Patricia Lovett-Reid, senior vice president of TD  Waterhouse Canada Inc. As one of the world’s leading net exporters of oil, many economists suggest that high
oil prices will actually benefit Canada’s economy.

A number of factors can be attributed to pumping up gas prices across Canada’s oil-rich landscape, but there are two that continuously come into play. “We have seen oil prices climb as turmoil in the Middle East and North Africa unfolded. At current levels, TD Economics believes the overall impact on the world economy will be limited. However, the fallout could be greater, given the vulnerability of the world economy, to shocks at the moment,” says Lovett-Reid. Michael Ervin, vice president of Kent Marketing Services Ltd., thinks that there’s a crude explanation. “My view is that we’ve seen crude oil prices leading to higher wholesale gas lane prices, which in turn led to higher retail prices; more of a result of the fundamentals of supply and demand than the geopolitical issues taking place in the Mideast, in particular Libya right now,” says Ervin, who doesn’t foresee crude prices shooting much higher. Ervin is bullish about Canada’s post-recession economy and doesn’t believe high gas prices will hamper recovery. “I don’t think higher gasoline prices are going to necessarily cause any reduction in jobs … Canada has weathered the recession over the last two years far better than any other OECD [Organisation for Economic Co-operation and Development] country,” he says.

Gas prices aren’t the only thing crude oil is impacting these days. The United Nations Food & Agriculture Organziation (FAO) says a combination of rising oil prices, smaller crop sizes and changes in supply and demand have put global food costs at record highs, with an exclamation point on the cereal market. A recent report by the FAO states that, “A decline in world production in 2010 in the face of growing demand is expected to result in a sharp drawdown of world stocks. Reflecting this prospect, international cereal prices have increased sharply, with export prices of major grains up at least 70 per cent from this time last year.” Data from The World Bank shows a 15 per cent increase in its food price index between October 2010 and January 2010, with particularly steep increases in wheat, sugar, corn and edible oils. Though Canada has yet to fully digest the effects, inflated food costs have led to riots in some developing nations that are extremely vulnerable to nutritional implications, such as Algeria and Mozambique. In its report, The World Bank estimated that 44 million people in low and middle-income countries may have slipped into extreme levels of poverty as a result.

Other factors are also driving up the cost. “Number 1, we’ve had a calamity around the world, where you’ve had a number of crop failures. Number 2, you’ve got a change in consumptive patterns so people in Asia are eating more cereal-based products than they did before and the cost of energy and cost of production have gone up,” says John Scott, president and CEO of the Canadian Federation of Independent Grocers. As it stands right now, Canadian consumers are more affected by the fear of soaring grocery bills than the reality of it. “The actual impact of those [increased] prices won’t be felt on the shelves, if they are indeed by consumers, until later this year … So consumers can look at something very gradual over a long period of time. It’s certainly not dramatic and it’s not something that’s going to upset the competitive balance in any way,” he adds.

So while many might feel like they’re standing in the ring waiting for the upshot, word on the aisle is that grocers will be pulling punches for as long as possible. “Food processing companies usually hedge their current raw material requirements, which means the impact of food price increases is usually felt with a lag … To some extent, the strong loonie has [also] helped shelter some of this inflation as food prices are in U.S. dollars,” says Lovett-Reid. It also doesn’t hurt that Canada’s grocery industry is one of the most cutthroat in the world, which means major chains will be looking critically at the numbers before bumping up prices for fear of losing a loyal consumer base. One of the ways grocers will try to absorb costs is by limiting the number of promotions offered or figuring out alternative methods of reducing operating costs, says Scott, adding that as of right now, Canadians spend nine per cent of their disposable income on groceries. “You have to have a little bit of faith in a very, very competitive supermarket industry. Nobody’s going to pass costs on unless they absolutely have to. And again, what goes up, comes down.”

With only a few companies such as George Weston Ltd., Tim Hortons and Maple Leaf Foods announcing impending price hikes, it isn’t costing Canadian parents too much more to feed their kids yet. However, it’s a bit of a different story for some of the local mom-and-pop shops whose businesses are hypersensitive to food inflation. Guiseppe Scarcello, who founded his Vaughan-based business Cosenza Bakery 20 years ago, attests to this, as he’s now dishing out $10 more per sack of flour than he was just a few months ago. “It’s not good, but what can we do? We have to absorb it for now. If it goes up a little bit more, we’ll have to increase [prices] … Even hydro went up: we’re paying so much in gas and hydro, too,” he says. As an entrepreneur in the business for two decades, Scarcello isn’t too surprised by fluctuating food costs. He recalls 2008, when the price of flour was almost double what it is right now. “It came down pretty fast, too, so let’s hope that’s the case now,” he says.

For Canadians who feel stung by the climbing price of commodities, there are a few ways to help minimize personal financial repercussions. “For a consumer, usually inflation is followed by an increase in nominal incomes. However, it makes sense for everyone to develop and stick to a household budget and cut on discretionary spending, especially on comforts and luxuries in a time when unemployment is still 7.8 per cent and Canadian household debt levels are very high at 147 per cent of disposable income,” says Lovett-Reid. Based on TNS Canada’s monthly consumer confidence survey for March, many people are beginning to put the breaks on big-ticket buys like major appliances and cars. “Canadians have said that they’re OK right now, but with Libya and the Middle East, resulting high oil and gas prices, and now the uncertainty with regard to how Japan will unfold, we’re collectively hedging our bets on the future,” says TNS Canada’s vice president and director of public opinion research, Norman Baillie-David.

As a highly advanced economy, Canadians can at least have confidence in the country’s historical record for rapidly recovering from volatile climates. If the last few years have illustrated anything it’s that, much like a quilt, the world is a highly connected community whose diverse economies are intricately woven together. Whether it’s the impact of political unrest in the Middle East, the reverberations of natural disasters in Haiti and Japan or poor weather in crop-producing countries, our nations, in the face of their visible polarities, are united exceptionally.

*The statistical information and quotes used here were obtained in early March 2011, and may have fluctuated at the time of press.

Q&A with Patricia Lovett-Reid, senior vice president of TD Waterhouse Canada Inc.

Q: What impact will higher gas prices have on Canada’s economic recovery?
A: For Canada, the high oil prices are good news. Canada is a net oil exporter, which is positive when oil prices rise. However, the Canadian economy is deeply tied to the U.S. economy, which is a major oil importer. In Canada, the overall economy would feel little impact, but provincial economic growth rates would show greater divergence.

Q: Is inflation climbing at a healthy rate?
A: The Bank of Canada aims to keep inflation at the two per cent target, the midpoint of the 1 to 3 per cent inflation-control target range. It will be interesting to see the impact on inflation when retailers are forced to pass the impact of higher food prices onto consumers. However, given current economic data, core inflation is within the Bank of Canada’s comfort zone and provides them the flexibility and luxury of time before hiking interest rates in July.

Q: What is the status of our economic recovery post-recession?
A: As we move further away from the 2008/2009 financial crisis, the Canadian economic data continues to paint a picture of an economy returning to normal, characterized by moderate, but healthy growth. For example, recent employment and housing data shows that the labour market has become well-entrenched and the level of employment has surpassed the pre-recession peak by 65,000 jobs. But, there are external concerns that require close monitoring including European sovereign debt issues, political unrest in Middle East and Africa, a sluggish U.S. economy and unforeseen circumstances, such as the quake in Japan. The bottom line is that while the Canadian economy has made significant advances along the path to renewed expansion, there are still a myriad of external risks that could impact Canadian economic growth and financial market prospects. www.tdwaterhouse.ca