The price ain’t right

What’s wrong with cheap bread?

Two weeks ago, the central bank of Kazakhstan weakened the tenge, raising the targeted exchange rate from 150 tenge to the dollar to 185.  This is boosting prices, for several reasons.  The tenge price of imports increased immediately, because a dollar’s worth of goods requires a fifth more of tenge than before. 

Over time, the price of goods produced and sold in Kazakhstan will also rise, for two reasons.  Since imports are more expensive now than before, people will want to substitute domestic goods for them.  This increase in domestic demand will raise domestic prices.  Also, the devaluation will eventually augment foreign demand for Kazakhstan’s exports, because a dollar now buys more tenge.  This will lift the demand for exports, reducing the available supply of domestic goods for residents of Kazakhstan.  As always, the boost in demand will raise prices.

The mayor of Almaty, Akhmetzhan Yesimov, immediately ordered price controls for food and energy, reported TengriNews.  Though popular, price controls make matters worse.  To see why, consider a bread market that initially clears:  At the given price – say, 100 tenge -- the number of loaves that groceries want to sell equals the number that people want to buy.  Comes along the government, which restricts the price to 80 tenge.  At the lower price, people want to buy more, and firms want to sell less.  Demand exceeds supply.

Normally, excess demand raises prices, discouraging demand and encouraging supply until the market again clears.   But this scenario isn’t normal: We now have a price control.  The price can’t rise legally.  But, as a natural tendency, the market must clear, one way or another.  Something must remove the excess demand.  Perhaps the grocer will sell bread only to those who slip him a few extra tenge under the table; or perhaps he will sell only to those who wait in line for three hours.  In either case, the actual price returns to 100 tenge, but it now includes 20 tenge’s worth of bribes or of waiting time (a waste).  If the government cracks down on these practices, too, then buying bread may become so complicated that some buyers will drop out of the market.  Demand falls; excess demand disappears.  Again, the market clears – but fewer loaves than before will sell.

In short, price controls may keep people from getting what they want, even though they’re willing to pay the cost of providing it.

A loaf of bread, a jug of wine, and thou bureaucrat

Of course, people protest soaring prices.  Spikes in energy prices played a role in the Kyrgyzstan revolution of 2010.  But a price control will aggravate the situation.  The longer that the government holds down the price of bread, the larger the price increase will be when it finally must remove the control. 

Should the government always stay out of food and energy markets?  No.  Perhaps the public wants to provide cheap loaves to the poor rather than give them enough money to buy them (or anything else).  In that case, the government can subsidize the bread at the expense of, say, army rifles, by shifting funds.  The point is that the government should recognize the true cost of providing more bread (a reduction in defense).  The price control, however, forces buyers and sellers to absorb the cost of making goods artificially cheap.  The government gets off scot-free.  No wonder Hizzoner prefers price controls. 

--Leon Taylor tayloralmaty@gmail.com 

References

TengriNews.kz.  Mayor of Almaty orders to keep prices down.  February 11, 2014.