Consequences of price controls

Price Control Order leads to market distortions and soaring inflation

ISLAMABAD:

As elections near, the issue of inflation and price control policies have been making headlines – though for all the wrong reasons.

The federal government’s Price Control Order 2021, like similar policies in other developing countries, apparently aimed to favour inflation-hit consumers but instead created market distortions and bore a heavy cost. Not only did producers allocate resources inefficiently, but they also started to lobby with political forces for influencing price-setting decisions.

In retrospect, we see inflation ticking around 20% (since 2021) after the issuance of Price Control Order 2021 while the average CPI for other South Asian countries remained in single digits.

Presumably, the real motive behind such policies was to target those items in the CPI basket that could artificially help control inflation for political point scoring.

In freezing prices, the government failed to understand the surging pressures around cash flows, solvency, and price recovery systems amid an economic crunch and bullish gasoline prices. Retailers and producers were expected to cut their margins to meet the government’s target of bringing CPI back below 10% before general elections.

The 2021 order also didn’t make any difference between variations in product categories. Eggs, for example, could be free range and organic ones, standard or entry-level size, private label, or proprietary branded ones, but what we saw was a one-size-fits-all policy that contracted domestic supply and worsened inflation readings on the Consumer Price Index.

The policy was slow to respond when the costs of rearing chicken mushroomed, and we saw that without access to cheap, good-quality soya feed, the price of loose eggs alone doubled in the past two years.

We can draw some parallels to a similar policy framework prevalent in Egypt. Take, for example, the case of fixed bread prices in Egypt – with the nation hooked on cheap, subsidised bread for decades.

After Russia’s invasion, the price of wheat skyrocketed, but the Sisi regime hesitated to let the price of bread be determined by market forces. Instead, the government was forced to heavily subsidise bread prices as it feared social unrest – with many Egyptians talking about the “revolution of the hungry.”

Now Egyptians are grappling with unabated inflation – in long queues trying to buy scarce rations of subsidised flour, rice, and sugar.

It is well-known that government agencies and committees have poor information about pricing and usually fail to forecast a surplus or shortage until later in the season.

Market-based prices are a signal of demand and supply, but when the government tries to control prices, they scramble that signal – making it very difficult for stakeholders to foresee a good or bad season.

Read Provincial, dist price control panels formed

Our government might have used buffer stocks to stabilise prices instead of dictating numbers in a volatile environment.

When there is a surplus crop, the government can prevent drops in prices by buying buffer stocks for future use. It can later sell during a shortage to bring down prices. This can bring stability and attract more investments in agriculture.

However, a buffer stock scheme is still a kind of subsidy and could easily encourage oversupply from producers – leading to an excess fiscal burden on the government.

Between 2022 and 2023, we saw the worst food inflation figures, and even price control committees failed to enforce official rate lists. Smuggling of wheat and flour to Afghanistan soared as foreign markets became lucrative for producers and hoarders instead of strictly regulated Pakistani ones.

Similarly, in areas close to the Pakistan-Iran border, we saw a surge in barter trade where locals exchanged Pakistani rice for Iranian cooking oil, fruits, dry milk, and cement. In fact, policy resistance in the form of smuggling was a natural response to the new price control policy.

Pakistan’s poor spend large fractions of their income on food in comparison to upper economic classes, and a higher share of food items in CPI means that it acts as a regressive tax. Floods and non-insurance of crops add insult to injury for both small farmers and lower-income classes.

But price control policies can only work if the government is willing to subsidise, which isn’t possible due to the reduced fiscal space of the federal government.

Governments usually replace price controls with targeted social safety nets along with structural reforms, but in Pakistan, we saw an approach that combined a price control policy along with an expanded BISP and Ehsaas programme.

This was a double-whammy for Pakistan’s fiscal sphere, and ultimately the price control system broke down due to a shortage of food items and the unwillingness of retailers to sell at notified government rates.

The Price Control Policy 2021 that sought to take out excessive retail profits from the equation had unintended side effects through pilferage, smuggling, and embezzlement of scarce public resources.

If the government is serious about food price control, then it should invest in improving the productivity of the agricultural sector to ensure higher supplies. It should not only focus on producers but should also look at the complete supply chain to identify leakages, dead weight, and transaction costs at every stage.

Governments should be willing to buy excess produce from farmers for export purposes and for building buffer stocks to prevent prices from falling abruptly. Similarly, it should be willing to timely import and sell buffer stocks to bring down prices in case of shortages.

In the presence of anti-market price control systems, food inflation control remains an impossible feat to achieve, and it is high time that Pakistani food supply chains, farmers, and shoppers get a better policy framework than the one in place.

THE WRITER IS A CAMBRIDGE GRADUATE AND IS WORKING AS A STRATEGY CONSULTANT

 

Published in The Express Tribune, December 11^th, 2023.

Like Business on Facebook, follow @TribuneBiz on Twitter to stay informed and join in the conversation.