Removal of price controls
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Price controls of essential food doesn’t work. File picture of the Dambulla Economic Centre.
Priyanga who is in his fifties, has some knowledge about selecting food and other consumables in good quality. He and his wife are both always careful about what they purchase for the family with three children. He is also brand-conscious; he knows the brand names of the producers and suppliers who are keen in protecting and promoting their business by selling products with high quality to the customers. While he often admires such businesses, he is always prepared to pay a higher price for quality products. His wife never visits a shop twice, if it has sold her inferior products once; she also doesn’t forget the names of such shops.
After living many years in Europe, Priyanga and his wife know why they should feed his family with good quality products. He believes that when the countries improve the income levels of people and become developed nations over time, people will shift to buying ‘good’ stuff. As a result, eventually the markets for quality products will expand with the growth of quality businesses, while the producers and suppliers of products with inferior quality will vanish from the market. If it happens in a country, that country is developing too; if it doesn’t, that country is unlikely to develop.
Value for money
Priyanga used to buy the popular “red raw rice” from a particular agrobusiness company which has a shop in Colombo for its exclusive agricultural products. For many years since the time he returned from Europe, he continued to buy this company’s red raw rice that came in nicely packed five-kilogram bags with the brand name printed on it.
Being a middle-class person, he didn’t mind paying Rs. 110 for a kg of red raw rice of this particular brand at that time, when the normal price of red raw rice was Rs. 70 a kg elsewhere; he knew what he bought was “value for money”. The red raw rice at lower price comes in bulk, while it had many issues which make it inferior in quality: It looks dusty and hence you need to wash the hands, if you touch it; it is not clean as you find paddy seeds and peels in rice; sometimes, rice is broken and decayed, because it is already expired. After all, once it is washed for cooking, the red rice becomes white rice because its “red colour” dissolves in water. Priyanga knows that although it is cheaper, there is no value for money.
A couple of years ago, the company stopped the supply of his favourite red raw rice, and he never found it again. After looking for it a few times, he finally asked the manager at that shop: “I used to buy your red raw rice, which was in very good quality; but now I don’t find it here anymore. What happened?”
The manager replied: “We had to face problems with the government, because of the price controls on raw rice. We cannot sell it at the government’s administered prices, so we don’t produce it anymore.”
Priyanga asked: “Does it mean that your company won’t produce it again?”
“That’s right. We started producing other varieties which don’t have price controls,” the manager said, showing other varieties in the shop.
Priyanga examined other varieties of rice – white basmati, red basmati, low GI, “suwandel” and other exotic varieties. They were all expensive varieties with the price tags above Rs. 250 a kg – not even a “middle-class” family can afford to cook them every day. In fact, the company never produced its red raw rice after that.
Net outcome of price controls
As far as people’s wellbeing is concerned, the net outcome of government’s price controls has been negative. Nevertheless, some governments are keen in adopting price controls by setting maximum prices to make the public “feel good” about it; with price controls, they think that, the respective goods and services are “available” at “cheaper” prices particularly to the “poor”. This is why such price controls are often applied on essential goods and services such as food stuff (including staple food), milk, sugar, medicine, fuel, and transport.
The supply, either due to supply shortages in the country or the monopoly status enjoyed by the producers, tends to fall, and the price tends to rise. Price controls are aimed at resolving both issues so that, as it is believed, the poor is favoured by the price controls and they would vote such politicians to power.
The problem is that, however, we have never resolved both the issues – availability and affordability – by adopting price controls although we have adopted them for decades. Rather, we might eliminate the products with higher quality from the market as in our opening story, paving the way for the low quality products on the one hand, and creating space for “hoarding and black markets” on the other hand. In order to bring the culprits before the law, the government must deploy consumer authorities and police officers and, utilising lawyers and courts paying for them as well; for all these, the money should come from people’s taxes financing the government budgetary expenditure.
All these issues would have been sorted out “freely” in the market without wasting resources and tax money. If there is hoarding and black market or monopoly production, then the best strategy is to support more producers and suppliers to enter the market and relax import controls. In fact, monopoly producers love import controls which are more towards non-tariff barriers and foreign exchange restrictions than tariff controls. Even with tariffs, if imports are allowed, the monopoly producers cannot exercise their price-making power; however, they can do so and protect their market power with non-tariff barriers and foreign exchange restrictions.
Poverty and price controls
The issue of poverty has never been solved with price controls either; price controls might give some stuff with inferior quality at a cheaper price to the poor, but they eliminate the potentials for “product development” from the business world. Product development should be an essential feature of the development process of the country. And it is the development process that guarantees income growth on which the poverty levels of a country tend to fall over time. Thus, price controls only help keeping the poor in poverty and feeding them with inferior products.
After all, the most important issue is that the government gets “economic power” to control prices. But it’s only wasting tax money or, when the tax money is not enough, borrowing money and making the public to pay for the debt!
The price of a good or a service is determined by its cost structure, infrastructure, quality and price of utilities, government regulations, government taxes, and the profit margins as well as “inefficiencies” associated with all of them. In most of these areas, obviously the government has a major role to play in lowering production costs. Instead of addressing such issues at source, it’s futile to adopt price controls in achieving any meaningful objective.
A few days ago, Sri Lanka removed some of the price controls! In a situation where tax revenue has declined and money printing has strained, there was no option other than removing the price controls. As a result, prices of some of the essential goods and services skyrocketed!
Removal of price controls
We have a peculiar point to elaborate: If price controls were bad, then the removal of price controls must be good! I have a different view, however: ad hoc and piecemeal measures irrespective of whether they are intrinsically good or bad are unlikely to work for good.
The removal of price controls did not come as part of any overall reform package showing the country’s future policy direction. It was just a remedy to a crisis in a crisis-ridden economic environment, which would affect the consumers in general and low-income groups in particular. It would have been a better move, if it came as part of an overall reform process that ensures the long-term income growth and price stability.
(The writer is a Professor of Economics at the University of Colombo and can be reached at sirimal@econ.cmb.ac.lk and follow on Twitter @SirimalAshoka).