Food for thought: rising prices in Israel’s food industry

Over the past decade, substantial and interesting changes have taken place in Israel’s food market. Food prices increased rapidly between 2005 and 2014. This phenomenon is relatively unique to the Israeli economy (in contrast to the rise in housing prices, for example, which was shared by other developed countries). The rapid rise in food prices during this period was accompanied by an increase in profit margins in the food industry. In only four years, the food industry’s return on capital, an indication of its profit margins, increased by 12 percentage points. This phenomenon was not witnessed in other manufacturing industries, as the graph shows below. The rise in food prices combined with the increase in profit margins indicates a change in the industry’s competitive structure, and there is indeed evidence to this effect.

One could attribute this phenomenon to a price mark-up in the industry – a simple explanation for why both prices and profits would rise. This explanation, however, is insufficient and does not address the fundamental flaws in Israel’s food market. Taub Center researcher Gilad Brand found that there were major market changes during this time period that ultimately led to less competition. The large grocery chain Club Market collapsed and was subsequently purchased by the grocery chain Supersol in 2006. Indeed, the Committee to Examine Competitiveness in the Food and Consumer Goods Market pointed to this buyout as a key contributor to a drop in competitiveness and resulting rise in prices. Additionally, the Tnuva dairy company was bought out by the private equity firm Apax in 2008, leading to more aggressive corporate policies of maximizing profits. Finally, in 2006 the Ministry of Health toughened its procedures for parallel imports of food items, which reduced competition via trade and thus decreased incentives for the food industry to offer competitive prices. This is examined further below.

An international comparison of food prices also supports the assertion that Israel’s food market became more expensive due to a decline in competition. In his study, Brand compared the change in food prices in Israel to that of other developed countries. His findings indicate that Israel’s food prices have risen exceptionally compared to other developed countries – for example, between 2005 and 2013, the rise in food prices in Israel was higher than the rise in food prices in other developed countries by up to 20 percent. This is another indication that within Israel, there was a decrease in competition during this same time period.

One would expect the opening of a price gap between Israel and other countries to create opportunities for importers which would introduce foreign competition, and ultimately equalize the price gap over time. Israel, however, has no free trade policy when it comes to the food industry. As the second figure shows, Israel’s import rate out of total consumption in the food industry remains the lowest among Israel’s major commodities. Brand attributes this to high customs protections and tariffs, the proliferation of maximum quotas in the sectors of food products and agriculture, and the introduction of testing standards in the industry. A change in government policy in this regard would introduce new competition to the market and lead to lower prices.

Consumer needs are not met by these economic conditions in the food market. Israel’s food industry is centralized, and a small number of large local companies supply most of the food sold in Israel. To make matters worse, food products with high consumption rates, such as grains, meat, fresh fruit and dairy products have very low import rates. Likewise, foods with low consumption rates, such as sugar products and fish have high import rates, as the third chart shows below. As such, the majority of Israel’s food basket depends predominantly on local manufacturers in Israel with very little competition from abroad.

The changes in market structure that took place a decade ago, as well as the barriers to imports point to the major reasons food prices in Israel are so high: lack of competition. A look at other industries is informative. In the early 1990s, a plan to gradually introduce imports was implemented in the Israeli economy. This led to a significant rise in imports among certain consumer items. As such, shoes, clothes, furniture, and household goods actually dropped significantly in price. The import rate of food items, however, remains quite low, and this issue is exacerbated by changes in the local market structure which also played a role in decreasing competition. As such, this study, along with previous Taub Center studies on the subject, indicates the importance of continuing to expose the economy to imports as a means of increasing competition, reducing prices, and improving consumer welfare in Israel.