29/09/10

By Claire West

New figures from Kelkoo, produced by the Centre for Economics and Business Research (CEBR), reveal that higher inflation is in the pipeline for cotton dependant goods in 2011 due to the compound effect of a historic 15 year high in cotton prices, the rise in VAT to 20%, and rising world labour costs. As a result, clothing prices are forecast to rise by 0.2% by the end of 2010 for the first time since 1992, and could increase to 2.4% by the end of 2011. In addition, the price of furnishings is also set to rise by 4.2%, the biggest increase since the summer of 2008.

The retailers most affected by rising input costs are likely to be ‘value’ chains such as Primark as prices in these stores are more closely aligned to costs, whereas ‘premium’ clothing brands utilise factors such as brand image to increase their mark‐up. As a result, some retailers may find it difficult to hold consumer prices constant without observing a decline in profit margins. On average, the cost of clothes is expected to increase by 1% in the four quarters of 2011, compared to a decrease of -8.5% in 2009, and -1.3% this year. Retailers will be reluctant to risk declining sales volumes resulting from large price rises, but even if price rises are modest, they mark an end to the 18 year “era” of declining clothing prices.

Home furnishing will also take a hit with inflation set to average 3.3% next year, peaking at 4.2% by the end of 2011. If furniture prices increased by an average of 4.2%, this would increase the cost of a £2,000 sofa by £84. This would represent the highest rate of inflation in this sector since the summer of 2008 when it reached 4.9%.

Despite the increase in clothing costs, footwear will actually see an average decline of -0.4% over the next 12 months. Although footwear inflation has seen an average increase of 0.18% this year, it is expected to return to a negative rate of -0.1% from October to December 2010.

Bruce Fair, UK Managing Director, at Kelkoo comments: “Both retailers and consumers are struggling in this new age of austerity, and the future of cheap clothes could be hanging by a thread according to industry commentators.

Unfortunately price increases among ‘value’ clothing suppliers may become unavoidable in order for retailers to protect their profit margins, with lower income households most likely to be worst affected by the rising cost of consumer goods. Inflationary increases may also result in lower levels of consumer spending given that clothing and furnishings are non-essential items, unlike food and fuel.
“Cotton prices have risen to a historic high of $1 per pound for the second time in history, and there has been much speculation from major retailers in recent weeks warning consumers to brace themselves for a steep increase in clothing costs. The magnitude of the year‐on‐year decline in clothing prices has decelerated significantly since the start of the year from -4.1% to -0.3% at present, suggesting that a transition to price rises as high as 2.4% by the end of 2011 is a real possibility, especially given the scheduled rise in VAT to 20% in January.”

Along with the imminent rise in VAT, rising labour costs, and exchange rate fluctuations, the price of cotton also plays a key role in driving up inflation on goods such as clothes and home furnishings. Cotton prices have displayed a great deal of volatility over the past 40 years, with sharp upward and downward movements - falling from a record high in 1995, to their lowest level since 1970 in 2001, and have been on an upward trend since 2001. This month, the cost of cotton rose above $1 per pound for the second time in history due to bad weather, tight supplies and growing demand.

Over the medium‐to‐long term there are reasons to expect cotton prices to be more volatile (though not necessarily consistently rising). Increased frequency of extreme weather events such as floods could result from climate change, leading to less reliable cotton harvests and increased volatility in these markets as financiers speculate on future movements in prices. However, there are several alternatives to cotton in the production of consumer goods such as polyester, acrylics, nylon, rayon, wool, mohair and silk. In 2002, cotton lost its position as the world’s most used fibre, with polyester taking a greater market share. If cotton prices continue to rise at the current rate, retailers may have no choice but to substitute cotton based goods with cheaper alternatives in order to keep down production costs.