Though the government’s reported plans to encourage supermarkets to freeze the prices of essential goods have since been dropped, the episode highlights a wider problem in the policy debate. Any future intervention of this kind needs to be judged against the economics of UK grocery retail rather than public perceptions of supermarket profitability.
A recent survey found that British consumers believe supermarket margins are around 50%, ranking them amongst the most profitable of any sector. In reality, grocery operating margins are structurally low, typically between 2% and 4%. Tesco’s most recent operating margin, for example, was around 3.6%. While supermarkets generate significant revenues, there is a risk that the public’s misconception on supermarket profitability is also distorting the policy debate, writes Jan Schneiderbanger, Partner at L.E.K. Consulting.
Retail is one of the most heavily taxed sectors in the UK economy with its combined burden of corporate tax, business rates, employer NIC and sector levies at a share of Gross Value Added amongst the highest of any sector in the UK despite some of the thinnest margins.
The structural anomaly is most visible in business rates: retail contributes around 5% of UK GDP but absorbs roughly 21% of England’s business rates bill. Recent policy decisions have significantly added to this burden: the 2024 Autumn Budget alone introduced an estimated £7 billion in annual costs across UK retail, driven by the higher employer NIC rate, the lower NIC secondary threshold, the new packaging levy and the reduction in business rate relief.
The implication of such a proposal is straightforward. A request to hold prices on essentials must be reconciled with a cost base that policy has actively been raised. If retailers comply, the cost has to land somewhere: there is limited room for further margin compression, so freezing prices on certain lines is likely to result in higher prices on the rest of the basket, or in lower payments to suppliers and farmers. A blanket commitment to freeze prices on certain items cannot address the underlying inflationary pressure.
A further consequence sits beyond the immediate price effect. Retailer investment, whether in supply chain resilience, cyber security, technology or store networks, is funded from the same margin pool that a freeze would compress. The 2025 cyber attacks on M&S and the Co-op illustrated both the scale of investment now required to operate a modern grocery business safely, and the disruption consumers face when that investment proves inadequate. Compressing margins in the short term reduces the sector’s capacity to invest in the resilience that protects consumers over the long term, including against the kind of supply shocks that the current Middle East disruption is already creating.
The regulatory concessions that were reported to be on offer, including packaging relief and deferred healthy food rules are real but would not offset the structural cost increase. The more productive intervention is structural. Business rates reform that genuinely reduces, rather than redistributes, the sector’s fixed property tax burden would directly relieve the cost base now under inflationary pressure. Equally, restraint in adding further costs in upcoming fiscal events would prevent the cumulative burden from building higher still.
The UK already has amongst the most competitive grocery markets in Western Europe, sustained by genuine rivalry between the major multiples and the discounters. That competition is the mechanism that protects consumers, and it is working, but it has been delivered at the cost of severe margin pressure throughout the supply chain. A voluntary price freeze or any similar suggestions from the government in the future would further compress the margin pool that funds the investment in resilience, innovation and capacity that keeps the system working.
The UK’s grocery market already delivers intense competition and some of the lowest operating margins in the economy. The challenge for policymakers is not how to squeeze that system harder, but how to avoid undermining the investment and resilience that allow it to keep delivering for consumers in the first place.
Comments are closed.