Is Amazon Overpowering the Fed?

Could Amazon's impact on prices, now enhanced by its acquisition of Whole Foods, be making it harder for the Fed to raise rates? JL


Peter Cohan reports in Forbes:

The Fed has a dual mission -- to keep employment high and inflation low. With unemployment at a 16 year low of 4.3%, and the PCE inflation index growing at a 1.4% annual rate in June from a five-year high of 2.2% in February, there is little pressure to raise rates. Amazon is using its power to offer lower prices in many different product categories to keep prices low among its bricks-and-mortar rivals. Unless wages start to rise at a much faster rate, the Fed is unlikely to be able to raise interest rates.
It's been a decade that interest rates have been near zero. Why hasn't the free money caused inflation to soar? There are many reasons -- but Amazon is surely a big one. And now that Amazon owns Whole Foods, its anti-inflationary power will become more pervasive. What's more, the Amazon inflationary cap is making it hard for the Fed to raise interest rates.
Before getting into that, let's take a look at the last decade's trends in prices and wages that feed into the rate of inflation. Since 2007, the consumer price index (CPI) has risen at an average of about 1.5% while nominal wages have increased at about 2.5%.
Sadly for consumers, that CPI does not reflect the much faster rise in costs for typical family. Housing costs, for example, that represent 33.7% on the CPI importance scale, have increased at a 2.1% rate; health care -- 6.7% on the CPI importance scale -- rose at an average 3.2% during the decade, and food prices -- 13.7% on the CPI importance scale -- rose at 2.1% average annual rate.
This brings us to Amazon which offers consumers hope for making their slowly growing wages to stretch further.
Amazon said August 24 that starting August 28, it will offer lower prices on "Whole Trade organic bananas, responsibly-farmed salmon, organic large brown eggs, animal-welfare-rated 85% lean ground beef, and more." Amazon's operating margin of 1.7% is way lower than Whole Foods's 4.8%, according to CNBC, which makes Bezos comfortable cutting prices and potentially leaving room for expansion of Amazon's margins.
The reason this is great for consumers and bad for the supermarket industry is that rivals with stores near Whole Foods's 446 locations are likely to feel threatened by Amazon. Indeed, if consumers discover that Whole Foods offers better value -- high quality at a lower price -- than those rivals, the rest of the supermarket industry could lose customers. And unless those Amazon rivals fight back effectively, they are in danger of losing those customers permanently. One way that supermarket rivals could fight back is to lower their prices which would cut into their profits while possibly damping the slowdown in their sales.
To be sure, Whole Foods has had plenty of problems of its own over the last few years and it remains to be seen whether Amazon can fix them by lowering prices on a few items.
For example, Whole Foods has lost millions of customers recently. According to Dow Jones Newswires, Barclays noted that Whole Foods has lost about 14 million customers in the last 18 months -- a 3% traffic decline -- the sixth consecutive quarter of such traffic declines.
Barclays estimated this has translated into a loss of between 9 million and 14 million transactions annually, "with an average basket size in the range of $30 to $50." Kroger's $16 billion in natural and organic sales seem to be coming from Whole Foods refugees since 47% of Kroger's stores are within three miles of a Whole Foods and 51.8% are within five miles.
However, if Amazon can win back those customers, price cuts are likely at stores near the Whole Foods locations. Indeed, Federal Reserve Bank of Chicago President Charles Evans said August 21, “For me, it just seems like technology keeps moving, it’s disruptive, and it’s showing up in places where -- probably nobody thought too much three years ago about Amazon merging with Whole Foods," according to Bloomberg.
But when those supermarkets -- whose average operating margins of 2.7% are much higher than those of Amazon -- consider price cuts, they should also recognize that Amazon hopes to use discounts to lock in customers over the long run by using more in-store discounts and other benefits to sign up grocery buyers for Amazon Prime.
Amazon Prime is hugely beneficial to Amazon's business.  Prime members spend $1,300 a year on Amazon goods and purchase 25 times a year compared to $700 and 11 visit per year for non-members, Consumer Intelligence Research Partners estimates.
Indeed, Piper Jaffray believes that Amazon is hoping to draw in lower income families to Amazon Prime through these discounts -- to boost Prime subscriber growth. After all, of the 50 million households using Prime now, 82% make $112,000 or more a year while 67% have income in the range of $68,000 to $112,000 and those making less than $68.000 are only 50% penetrated. Jeff Wilke, CEO of Amazon Worldwide Consumer, said in a statement that the discounts will make healthy and organic food affordable to
"everyone," according to CNBC.
The Fed has a dual mission -- to keep employment high and inflation low. With unemployment at a 16 year low of 4.3%, and the PCE inflation index growing at a 1.4% annual rate in June from a five-year high of 2.2% in February, there is little pressure to raise rates.
Amazon is using its power to offer lower prices in many different product categories to keep prices low among its bricks-and-mortar rivals. Unless wages start to rise at a much faster rate, the Fed is unlikely to be able to raise interest rates.
Thanks in part to Amazon if we have another one of our once-a-decade financial contractions soon, the Fed is not going to be able to create much additional liquidity by lowering rates from 1% to 0%.