Background

The food industry has undergone significant structural changes since the mid-1990's. Across the food and agricultural sector, the feverish pace of mergers and acquisitions, along with the construction of bigger plants, has resulted in fewer and larger firms.

In retailing, supermarkets are changing as chains construct larger stores in a variety of formats. Mergers among supermarket chains have led to increased concentration nationally and in some cities. At the same time, nontraditional food retailers such as Wal-Mart and Sam's Club have expanded their presence, and e-commerce providers have begun to offer services in some major metropolitan areas.

In food processing, concentration has increased sharply in major commodity processing industries such as meatpacking and grain milling. In addition, a series of large mergers in the late 1980's led to the formation of a few very large companies with a presence in a wide variety of branded product categories. Over a long period (since the mid-1960's) many branded food product categories have become highly concentrated.

Consumers have also changed in ways that may have altered food company strategies. In 1980, only 11 percent of U.S. households spoke a language other than English at home, and 20 percent of households had access to cable television. Today, two thirds of households watch cable, and a sixth speak a language other then English at home. These two developments, along with other important demographic trends, signal a potential fragmentation of consumer markets.

These sharp structural shifts are giving rise to new ways of conducting business with more contracts, alliances, and preferential agreements as well as intense category and supply chain management. Some argue that the use of slotting allowances (fees charged to processors for the right to offer a product in a store) has expanded and recent evidence suggests that retailers' use of private label brands are expanding. Some processors are developing more tightly integrated supply chains (for example, in pork, following earlier developments in poultry). Such supply chains more tightly control the agricultural product from genetics through to consumer-ready products. Considering these developments, the major question is will markets remain competitive? Or will firms be able to exploit market power to exclude rivals, to hold down prices paid to farmers, to raise prices to consumers, and to lower product variety? And, what is the role of public policy?

To explore the answers to these questions, the Economic Research Service in conjunction with seven co-sponsors hosted a conference held May 3-5, 2000, in Arlington, Virginia. The conference began with "Setting the Table for the 21st Century" on May 3. The event was kicked-off with a 25-minute video that traced the eating patterns of Americans over the past century. The video was entertaining, upbeat, and contemporary and had a nostalgic tone. It examined and discussed why and how eating has changed in America, with a special emphasis on economic factors. The video was followed by a round table in which participants discussed future trends in consumer demand and how the food industry will respond. This panel was composed of Warren Balesco, Jane Brody, Suzanne Martinson, Stan Johnson, and Adam Drewnowski. The Secretary of the U.S. Department of Agriculture, Dan Glickman, made the opening remarks.

The research component of the conference was held May 4-5. The program consisted of a policy panel discussion, an industry panel discussion, a luncheon speaker, commissioned papers, and selected papers. More than 150 researchers and government, and industry representatives attended the conference. Active participation resulted in a wide-ranging discussion. Dr. Susan E. Offutt, the Administrator of USDA's Economic Research Service, gave the opening address.

Conference Overview

The research component of the conference began with a policy discussion. Panel members represented the Federal Trade Commission, Congress, the retail food industry, and academia. The discussion identified a wide variety of important issues. Generally speaking, because local concentration has not increased dramatically, there was not a strong feeling that consumers should be concerned about mergers in retailing and processing. However, retailers' buying power has become a concern as recent mergers and acquisitions have resulted in multi-region grocery chains that were absent two years ago. In this context, the issue of slotting allowances was debated intensely. Because empirical evidence is lacking, it is not clear if these payments reduce or increase consumer prices or product variety. Arguments can be made for adverse or positive effects of these expenditures. The FTC's past experience points to discriminatory use of slotting allowances by dominant firms, such as McCormick Spice, to disadvantage rivals. Whether initiated by seller or buyer, high levels of slotting allowances could deter small firms from entering, perhaps limiting innovation.

An industry panel followed the policy discussion. Panel members were from M&R Strategic Service, a consumer advocacy group, Wal-Mart, UCCnet, BuyProduce.com, and Suiza Foods. The panel discussed the role of dairy market structure and policy issues from a consumer perspective, showing how public policy has affected economic developments in dairy markets. It was reasoned that consolidation in dairy has not hurt consumers. The discussion also highlighted innovations in business-to-business e-commerce and their effects on the efficiency of the distribution channel. Finally, the panel member from Suiza explained how it became one of the largest dairy companies through mergers and acquisitions and through efficient production of new products that meet consumer demand for convenience.

The luncheon speaker, John Sutton of the London School of Economics, presented the essence of his much-celebrated book "Sunk Costs and Market Structure." He provided a logical framework showing why larger market size can lead to higher concentration for industries with heterogeneous products, such as food, and to a tendency to have large advertising and R&D expenses.

The afternoon of the first day was devoted to six commissioned papers. The first paper, by Richard Rogers, University of Massachusetts, examined empirical evidence on recent rapid structural changes and the increasing buyer and seller concentration in U.S. food manufacturing. The evidence covered product differentiation as well. Using Sutton's theory, Rogers investigated the factors driving the change for all 4-digit food and tobacco industries. His results did not support Sutton's theory very strongly. The Food Marketing Policy Center funded the acquisition of a set of special tabulations from the Census Department for use in this paper.

The second research paper was given by Ben Senauer, University of Minnesota, who covered changes and trends in consumption patterns. Senauer argued that these changes have forced the firms to follow focused strategies. Some firms have concentrated on low-cost strategies to meet the demand of the price-conscious market segment while others have focused on quality-differentiated strategies to satisfy convenience or quality oriented segments.

The third paper, by Ronald Cotterill, University of Connecticut, provided a thorough survey of dynamic explanations of changes in the structure and performance of the food industry. The presentation covered such topics as: the neoclassical theory of vertical organization, the causes and effects of mergers and leveraged buyouts, new approaches for examining price transmission mechanisms when there is successive monopoly-oligopoly; how shifts in the balance of power drive new coordination programs; and the strategies of national supermarket chains.

Jeff Perloff, University of California-Berkeley, led the fourth study on the effects of the private-label invasion in food industries, a topic that academics have largely ignored. The study used IRI's extensive retail data for 35 categories and empirically examined the notion that the invasion of store brands has resulted in greater competition through lower prices and more promotional activity. The analysis did not support this view and showed that name-brand firms increase their prices and decrease promotional activities when store brands enter.

The fifth paper, by Catherine Morrison Paul, University of California-Davis, presented an extensive review of the literature to examine whether productivity and efficiency or cost factors support increasing mergers and acquisitions. The study provided a full coverage of conceptual, methodological, and empirical issues regarding "what we know" and where it might be "productive" to move next.

The final paper by Richard Sexton and Mingxia Zhang, University of California-Davis, reviewed the empirical evidence on market power and assessed its impact on consumers. The study considered the notion that rapid consolidation could create market power along the chain, rather than market power at a single stage. Using a model that captures the behavior of both processors and retailers, the consumer and producer welfare effects were simulated for alternative combinations of market power, such as successive oligopoly or oligopsony power. The result showed that modest levels of market power could have significant effects on the distribution of welfare between consumers, manufacturers, and commodity suppliers.

The second day of the conference was devoted to concurrent sessions composed of thirty papers. The papers were selected on a competitive basis from sixty-two abstract submissions. The papers represented the profession's cutting edge research on a wide variety of issues related to structural change.

The Agribusiness journal has dedicated an issue to several conference papers. Full drafts of many of the papers presented can be found at: http://www.ers.usda.gov/briefing/foodmarketstructures/AmericanConsumer.htm.

Conference summary prepared by Mark Denbaly, Economic Research Service, USDA.