Marc Cuniberti Last week was a cringeworthy week for me as talk of something akin to “price controls” surfaced on the campaign trail.
Pulling from memory now, I don’t recall the actual use of the words price controls, but when a politician talks about addressing corporate price gouging, it rings a familiar bell in my memory dating all the way back to the early 70’S. President Richard Nixon tried price controls when he issued Executive Order 11615, imposing a 90-day freeze on wages and prices in order to counter inflation in 1971.
Such actions by central governments are an affront to free market principles and as such, fail miserably when tried across a broad front.
This latest claptrap centers on our high grocery bills. Being around half a century of economic study, a journey into the weeds is necessary on just how dangerous price controls are and why implementing such policies will not only fail but exasperate the very problem the controls are attempting to correct.
Nixon learned this the hard way and since then the U.S. for the most part has avoided such nonsense.
Assuming that current grocery prices are the result of greedy corporate price gouging, we first look at the profit margins that grocers operate on which is a factual 1-2%.
Considering that the United States defense contractors sport a healthy 11-13% profit margin, our woeful grocer struggles along with 1-2% by eking out his living by making it up on volume.
Assume it costs a baker $2.75 to make a loaf of bread and after going through the wholesaler supply chains and adding in the shipping costs, it sells at a price of 3 bucks yielding a 25 cent profit split between the wholesalers and retailers.
Along comes the government capping the selling price at $2.50. Customers love the new lower price and start buying.
The baker, however, now loses money on each loaf he makes. Since the baker and wholesalers stand to gain nothing, they untie their aprons and walk away to see about claiming unemployment.
The result is an empty bread aisle.
The happy customer, who was thrilled the government hammered down the price and taught the greedy grocer a lesson, now can’t find any bread.
Then a funny thing happens on the way to the bread aisle (not so funny really). Demand for bread skyrockets as little bread is to be found as many of the bakers suffer a similar fate and can’t make a profit and stop baking.
High demand with lower supply (or no supply as places like Venezuela found out) leads to even higher prices on what bread there is for sale.
If history is any indication, eventually there will be NO bread for sale as buyers rush to scoop up what bread they can find.
Since the number of goods transacted decreases and profit margins wane, workers are let go, and unemployment spikes.
The avalanche of bad things picks up speed as buyers now look for bread substitutes. That causes higher demand for other things and those prices also go higher.
Along comes that same government and hearing complaints that the substitute prices are going higher, they aim their price controls at more products and services and more shelves empty as the same thing that happened to the baker happens to other suppliers.
Rinse, repeat, rinse, repeat, and what you get are catastrophic results along the supply chain and chaos at the retail level with empty shelves. Prices on other goods not yet controlled skyrocket. Black markets pop up and competitive pricing goes out the proverbial window as black markets have no such price controls nor the protection of quality control.
Although price controls aim to cap prices, much like trying to control a river flowing downhill, free market forces find a way to allocate what remains of the goods for sale by ratcheting up prices through the outlet of black markets. Either that or few goods actually make it to store shelves and if they do, they are quickly scooped up by eager buyers who far outnumber the supply.
In my five decades of economic study, price controls on one area of supply always result in more price controls being needed in other areas, until finally, the instigating government realizes the folly in their attempts to control pricing and lift controls because of the resulting market catastrophe. Either that or the situation gets even worse.
In conclusion, although the very whisper of anything even resembling price controls makes me grit my teeth and squint without measure, from an economist’s point of view, in a morbid sort of way, it sure is fun to watch.
“Watching the markets so you don’t have to”
This article expresses the opinion of Marc Cuniberti and is not meant as investment advice, or a recommendation to buy or sell any securities, nor represents the opinion of any bank, investment firm or RIA, nor this media outlet, its staff, members or underwriters. Mr. Cuniberti holds a B.A. in Economics with honors, 1979, and California Insurance License #0L34249 His insurance agency is BAP INC. insurance services. Email: [email protected]
