Price controls in a market economy - could it work?

In the run-up to its election victories at the presidential and parliamentary elections, the JVP/NPP combine promised to bring down the cost of living. Today, while a majority of ordinary workers earn between Rs. 40,000/- to Rs. 60,000/- per month, the cost of providing a family of four, three meals a day (breakfast, lunch and dinner), costs over Rs. 100,000/- per month! 

To make matters worse, bad weather intervened and over 300,000 acres of paddy and vegetable cultivation during the last season were destroyed.  

Unsurprisingly, there is a shortage of both rice and vegetables in the market. In an earlier era government used to maintain buffer stocks of paddy to meet sudden drops in production and or unexpected disasters. 

However, with the advent of the open economy introduced by late president J.R. Jayawardene, paddy harvests were increased and stored in go downs of paddy millers. State banks bankrolled their operations. As time went on, a few millers cornered the purchase, milling and storage of paddy. 

At the same time state involvement in purchase and storing of the grain decreased. These millers are now manipulating the market. They have created artificial shortages via limiting supplies. In turn it has resulted in the rising cost of rice. The adverse weather conditions also resulted in driving up the cost of vegetables.
Adding fuel to fire, the price of coconuts -a vital ingredient in preparation of food in the country- has also skyrocketed. The price of eggs -also locally produced- rose dramatically as have prices of chicken, fish and beef. 
In an attempt to bring down the cost of living, government held discussions with the millers demanding that they increase stocks of rice to the market. It also held discussions with poultry farmers and imposed a floor price for the sale of eggs. Neither measure has worked. The controlled price on sale of eggs remains a dead letter. The paddy millers too have not acquiesced to the government’s demand to release adequate stocks into the market.
Government also imposed a controlled price on the sale of canned fish and eggs, in an effort to make them affordable to the poorer sections of the community. 

Bringing the down the cost of living is increasingly important given that nearly a quarter of our people are living below the poverty line, according to studies carried out by the World Bank. It is in this light we have to view the government’s decision to impose a price control mechanism on particular products deemed essential to the public. 
But, can or will this strategy work? Past governments have tried this strategy. In the 1970s the coalition government of Mrs. Sirimavo Bandaranaike brought in strict price control measures to resolve a similar economic crisis. The measure failed. 

President Gotabaya also attempted to control prices using this tried and failed method during the economic crisis which hit the country during his presidency in response to the economic problems of the day. 

The strategy backfired spectacularly and Gotabaya was soon forced to flee the country. 

Rather than bringing stability, the controls led to shortfalls, creation of a supply-demand imbalance and led to the birth of a thriving black-market.

The lessons of the 1970s and of President Gotabaya’s era reveal, clear warnings against any temptation to rely on artificial price caps as a tool for economic management. Price controls undermine the functioning of markets, disrupt supply chains, and discourage domestic production, all of which exacerbate rather than alleviate economic challenges.

For example, when a government caps the price of a particular article, the consumer is happy. But the primary producer gains nothing. Sometimes, as in the recent case of the ill-judged cap on the price of eggs in our country, producers stood to lose. They threatened to close down their farms. 

Although price controls aim to cap prices, it is like trying to control a river flowing downhill. Market forces find a way to allocate what remains of the goods for sale by ratcheting up prices through the outlet of black markets. 
We can only hope our new government, voted into power by all sections of the electorate irrespective of race, class and religion, will read the handwriting on the wall and not repeat the mistakes of past governments who tried to take short cuts to solve economic problems.