Food price inflation affects household welfare and the macroeconomy pervasively. The study estimated Quadratic Almost Ideal Demand system of six food groups to simulate the money costs of food prices inflation on households’ welfare and; predict relative potency of income and price policies to counter the effects in a particular context of South West Ethiopia. It drew on Household Income and Consumption Expenditure Survey data of 519 households collected by the Central Statistical Authority of Ethiopia. Rural households respond more to income and prices than do urban dwellers. The welfare losses from food price inflation fall heavily, more on urban households than their rural counterparts. On average, it requires resource allocations as large as percentage increases in prices to keep households’ welfare at pre-price change levels. It is suggested that a sector-specific mix of income and price policies could offset the negative consequences on consumers’ welfare.

Demand elasticities are powerful tools to quantify welfare effects of relative price changes concomitant to shocks in economic environment of consumers. This study examined food demand elasticities to demonstrate how rural households in South West Ethiopia react to income and price changes by drawing on 267 observations of Household Income and Consumption Expenditure Survey data collected by Central Statistical Authority. It estimated Quadratic Almost Ideal Demand Systems (QUAIDS) of six groups of food items controlled for censoring and expenditure endogeneity by applying Nonlinear Seemingly Unrelated Regression (NLSUR) technique after incorporating household characteristics into the systems as intercept shifters. The descriptive statistics results showed that households allocate about 55 percent of income to food consumption of which root crops, fruits and vegetables were the dominant. The inferential statistics revealed that household characteristics such as sex, family size, age, education and location significantly influence the consumption patterns, and changes in income and prices would induce adjustment in consumption patterns that manifest by change in the quantities and types of items consumed. The results implicate the need for emphasizing crop specific price policies over holistic approach and policies that target income over policies targeting prices.