In a price war, the collateral damage is a boost to living standards

A good few months could be on the horizon for anyone who does a weekly shop at the supermarket. After yet another dismal set of results, Morrisons has announced plans to slash a range of prices to try and win back some of the customers it’s lost to the
fast-expanding discount chains.

In response, Tesco has already beefed up its promotions, and it is under pressure from its shareholders to make deeper price cuts to hang on to its leading market position.

Sainsbury’s will not be far behind. Who knows, at this rate even Waitrose will be flogging off three bottles of Extra Virgin Tuscan olive oil for a pound by the end of the summer.

There is a lesson in this, and it is not just that savvy shoppers can save some money by shopping around. Politicians have started talking a lot about raising living standards.

Labour leader Ed Miliband had proposed price controls, starting with energy, and then perhaps extended to other sectors as well. But what the supermarket sector shows us is that what really raises living standards is competition.

Discounters have been allowed the space to expand – and to shake up the industry. There are plenty of other sectors – from utilities to property to finance – which could use the same treatment. Living standards would rise if they were shaken up in the same way.

The big supermarkets have always competed on price. There has never been a moment when Tesco and Sainsbury’s didn’t have big piles of stuff on special offer at the front of the store. But it was mostly a phoney war.

While ice cream was on half-price, and the satsumas were usually on a buy-one-get-one-free offer, across the industry as a whole prices were relatively high.

The British supermarket chains had high margins by global standards, and they achieved that by effectively over-charging their customers. At the height of its dominance, for example, Tesco had margins of 6.1%, compared with the 3% earned by its American rival Wal-Mart. Given that it accounted for 10% of retail spending, that margin was by itself adding significantly to the cost of living.

Like many British industries, food retailing was in fact a cosy oligopoly between a few big companies. Then in 1989, the German discount chain Aldi opened its first store in Britain, followed in 1994 by Lidl.

They made slow progress at first and were treated with plenty of suspicion. But in the last two or three years they have started to make real progress. They are no longer just selling right to the bottom of the market.

The discounters have moved squarely into the mass-market. At the Lidl that opened a few months ago near me in Sevenoaks there are plenty of Range Rovers in the car park.

The model of selling lots of basic stuff at brutally low prices, and accepting wafer-thin margins, has turned into a big success. Rather like Easyjet and Ryanair in the airline industry, Aldi and Lidl have focused simply on what customers want, and provide it at far lower cost than their rivals.

It is a winning formula, and one that has their bigger rivals in trouble. When they started, the German discounters did not have the space to mount a serious challenge to the big four supermarkets. In the last few years, planners have allowed them to open up lots of medium-sized stores. The result? A new business model has flourished and the existing players have been forced to react.

The same thing happened in airlines. It was only when the budget carriers were allowed to offer lots of flights from peripheral airports, such as Luton or Southampton, that prices started to come down – and the big airlines had to lower their prices as well.

There are lots of other industries where more competition is needed. The property market is soaring out of control because not nearly enough new houses are being built, especially for a country with very high levels of immigration.

Allow more land to be developed, allow new players to experiment with different forms of ownership, and the cost of buying or renting a place to live will start to moderate, if not fall. That would be a lot more effective than rent controls – which will only create windfall gains for a few sitting tenants and drive many investors out of the market.

Likewise, sectors such as energy need to be freed from restrictions that prevent new resources, such as shale gas, from being developed as fast as they should be. Again, that would be a lot more effective than price caps. All those would do is entrench the existing players, while also making them reluctant to invest.

Similarly, the banks provide poor value for money. But the fix is surely to relax regulations so new banks can emerge with better and cheaper ways of doing business.

The same is true in sectors such as insurance, transport, and medicine, and perhaps most dramatically in state-dominated industries, such as education and healthcare.

Prices will be falling in the supermarkets this summer, and not just on a few special offers. That is great news for consumers, and bad news for shareholders. But most of all, it is a reminder that it is competition that improves people’s living standards – not government regulation.

Merryn

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