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This is the continuation of an analysis of the beef industry: past, present and future by Dr. Wayne D. Purcell, Professor and Director of the Research Institute on Livestock Pricing in the Department of Agriculture and Applied Economics at Virginia Tech. The information is taken from his presentation entitled, "A Primer on Beef Demand" or "To Fix It You Have To Understand It." Rule 4: 
If what you are offering is allowed to diverge from what a changing consumer wants, you will be in trouble, you can expect price declines--and something needs to be done before even more market share is lost.Why Shifts in Demand Are So Important Before looking directly at the price-quantity data and the demand curves for beef, it is useful to pause, review, and emphasize why shifts in demand are so important to everyone in the beef industry. If the demand curve is stationary and not shifting, it should be clear by now that the only way you can sell more is at a lower price. For the beef or any other food sector to grow under these circumstances, you have to find cost-reducing technology and get the product produced cheaper. If demand is shifting down, the challenge to do it still cheaper and produce at still lower costs hits you hard--and continues to pound at you. If you can't do it cheaper and cheaper, you are out of business. Let's look at some examples. In Figure 7, let's assume 78 pounds of beef clear through the system and are taken by the consumer at a price of $2.50 per pound. Looking back on this year, you know price and pipeline quantities varied during the year, but the yearly per-capita offering ended up at 78 pounds and the average price across cuts from a typical carcass was $2.50. Call this year One, and we know the average position of the demand curve for this year was D1D1 in the figure, generating an equilibrium or market-clearing price for the 78 pounds at $2.50. This is the price at which the quantity that was to be offered, largely predetermined by earlier management decisions, matches the quantity consumers are willing to take. It is an equilibrium or market-clearing price, and the marketplace will always seek and find the price at which quantity offered and quantity taken are equal. If demand shifts to D2D2 in year Two, that same 78 pounds (if that is in fact the per-capita supply for the year) will get bought, but at a lower price--such as $2.35. There is nothing the producer can do except scramble to cut costs, and if this keeps happening and overwhelms producers' ability to cut costs, the marketplace will run producers out of business. Middlemen will try to protect their operating margins, so any price decrease at the consumer level gets pushed down through the system to the producer---and producers' prices decline. The sector downsizes and loses market share. The problem is that demand has decreased. The other side of the coin is there. What if the demand shifts up as is shown in Figure 8? Now, 78 pounds moves into consumption at $2.65. Demand has increased, and the sector is profitable again and will start to attract new investments and start to grow. When supply increases in response to the now-profitable $2.65 price, and it will increase with the new investments, the price will not stay at $2.65. But even if supply does increase as a result of higher prices and pushes prices all the way back down to the old price of $2.50, the industry is now offering a bigger per-capita supply, perhaps 85 pounds. The sector is growing and expanding because "demand pull" is at work, and consumers are exhibiting a willingness to take more product at steady or even higher prices. They like the product and are willing to "pay up" for it. 
It is clear what situation we would all want. Demand increases, a shift in the entire demand curve up and to the right, will finance an expanding industry. Consumers' dollars are flowing into the business and becoming the catalyst for profits, new investments, growth, and change. This type of industry will not always be profitable for every producer, nor will it be profitable every year, but every increase in demand will bring a surge in profits, new investments, and a growing industry.You don't have to look very hard to recognize that beef is not attracting consumers' food dollars. The plot in Figure 9 records a most negative picture. As a percentage of consumers' total expenditures on food, beef has gone from 14 percent around 1980 to seven percent in 1997. The only source of financing for all of the beef business, the only pot of money all the players have to divide, are consumers' food dollars. The facts show that the beef business is not competing effectively for those dollars. Another "rule" is in order. Rule 5: The name of the game is competing for consumers' dollars, and selling less beef product at lower prices is not the pattern you want to see. That leads to a decreasing percentage of consumers' food dollars going to beef. We are, hopefully, starting to grasp the true nature of the problem. Various "solutions" have been and are being proposed. One solution is a supply-side approach, arguing that the answer is to produce the product at lower and lower costs so it can be sold at low and "competitive" prices. This is not, in my assessment, the direction to take. The Cheap Product Solution To this point, the facts suggest beef prices are working lower over time--and market share is declining. The demand curve at any point in time does slope down and to the right, and that has led, as suggested, to an often proposed "solution" -- grow it cheaper and get prices to the consumer down to make beef more competitive in the retail store. A group of outside experts brought in by the National Cattlemen's Association (NCA) in the late 1980s proposed just such a solution. 
There is some truth to this argument. You can be a bigger industry and hold more market share if you can get it done cheaper and move to a lower price/bigger quantity point on the demand curve. That might even work for a year or two if decreases in demand are not just driving the demand curve --and prices-- still lower.It is not an effective solution over time for several reasons. There is a limit to how much cheaper you can grow beef. Figure 10 shows beef production per cow. After significant increases in the 1980s, which would reduce costs of providing beef, we hit a stone wall in about 1987. Recent progress has been modest at best, and we are surviving on better conversions and lower feed-related costs of gain in the feedlots. Being efficient is important and there are big differences in costs of producing a calf around the country. But there is no broad solution here unless there are cost-reducing technologies lurking that I do not know about. And remember -- beef prices have been trending lower relative to chicken prices for two decades. There is also another issue that emerges here. The benefits of production efficiency are being offset by expanding margins at the retail level. Figure 11 shows farm-wholesale, wholesale-retail, and the total farm-retail price spreads. It is apparent that the margin being extracted by the retailer is increasing significantly and persistently. Without getting into the numbers, it is also clear that any reasonable cost reductions beef producers have been able to realize are, in all likelihood, being more than offset by expanding retailer margins which drive producers' prices lower. Doing it cheap is not working as a total or stand-alone solution to the problem. |
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