18 August 2022

From Ancient Rome to Richard Burgon, price caps have always been fantasy economics


‘What is more useful–newspapers or television?’ the Soviet joke goes. ‘Newspapers, of course. You can’t wipe your arse with a TV.”

Shortages in the Soviet Union, extending from toilet paper to pretty much everything, were driven by the failure of prices to reflect anything meaningful. Prices were set arbitrarily by Gosplan, the central planning agency, based on crude estimates of input costs; rather than on the basis of actual production costs or consumer demand.

Comparisons with the Soviet Union, like those with the Nazis, are usually ridiculously hyperbolic. But recent days demonstrate that the lessons of history are often ignored and bad ideas rarely die.

Fantasy economics is back with a vengeance.

Labour leader Keir Starmer wants to freeze energy bills to prevent them from rising in response to higher wholesale costs – at an initial cost of £30bn to taxpayers. Not to be outdone, Starmer’s colleague Richard Burgon wants ‘price caps on essential foods’.

Even worse, Burgon proposes combining a price freeze with a dedicated supermarket tax, rather than a subsidy to pay for the wholesale costs. The combination of not being able to raise prices and higher taxes would risk supermarkets going out of business. Hardly a smart response to the cost of living crisis.

Perhaps unsurprisingly, recent polls suggest the public are in favour of price controls, at least on a superficial level. People facing hardship, looking at a real terms fall in their incomes and big increases in costs, are understandably grasping for simple solutions.

But it doesn’t take much more than GCSE economics to figure out that this is a bad idea. If you prevent people from charging higher prices, particularly as their costs are increasing from energy to labour, they will stop selling the product. The inevitable result is shortages, followed by demands for rationing, political favouritism and a black market far more expensive than the one you were originally trying to price-fix.

This isn’t just theory. Every time, in every place that price controls have been tried they have been a miserable disaster.

Back in the year 301 AD, Emperor Diocletian issued an edict fixing maximum prices for over 1,000 items, including food, clothing and weekly wages, to combat that perennial baddie, the greedy merchant. It did not reduce inflation but did result in merchants withdrawing goods from sale. The ancient Romans at least had the excuse that economic theory had not yet been invented.

Nicolás Maduro’s socialist government in Venezuela had no such excuse. Faced with economic meltdown, Maduro introduced expansive price controls to force businesses to lower prices on a range of goods, from food to electronics and toys. Once again, the result was mass shortages. By 2016, more than 11% of children in the country suffered from malnutrition and by 2018, 30% of Venezuelans were only eating one meal per day.

We don’t exactly want for home-grown examples either. Under both Labour and Conservative governments, Britain experimented with price and wage controls throughout the post-war period up until 1979, all in the name of combatting inflation. In 1974, that renowned socialist bastion The Daily Mail thundered: ‘We need statutory restraint on prices. We need statutory restraint on profits. We need statutory restraint on incomes’. Inevitably, those controls failed to tame inflation or prevent unemployment.

To return to today’s most pressing economic issue, the energy price cap has done nothing to prevent underlying prices from going up, but did result in dozens of companies going bust and higher costs for consumers.

While state-led attempts to fix prices are pretty much always a bad idea, the market is a simple, wonderfully democratic way of collating and disseminating information. Up goes demand, up go prices, encouraging more suppliers to enter the market, innovate and, ultimately, push prices back down.

No one explained this better than Nobel Prize-winning economist Friedrich Hayek:

‘Fundamentally, in a system in which the knowledge of the relevant facts is dispersed among many people, prices can act to coordinate the separate actions of different people in the same way as subjective values help the individual to coordinate the parts of his plan.’

The sad truth is that higher prices are necessary to send a signal that the underlying cost of products has increased. That does, unfortunately, mean that Britain is a poorer nation than it would have been. There are plenty of things we can do to try to arrest that slide and turn things around, but Soviet-style price controls belong in the dustbin of history.

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Matthew Lesh is Head of Public Policy at the Institute of Economic Affairs.

Columns are the author's own opinion and do not necessarily reflect the views of CapX.