Price Controls Are Disastrous for Venezuela, and Everywhere Else
Images of citizens waiting in lines to get basic goods — toilet paper, flour, milk — throughout supermarkets in Venezuela abound across the internet. Such surreal imagery is the norm in present-day Venezuela. From the 1950s to the late 1990s, Venezuela was Latin America’s most economically and politically stable country. Fast-forward to the present, and Venezuela is not only undergoing an unprecedented economic collapse, but it is also on the verge of becoming a failed state.
Understanding Venezuela’s Shortage Crisis
How could a country that was once so prosperous fall to such lows? Basic economics dictates that goods do not just vanish out of thin air. To comprehend the phenomenon of shortages in Venezuela, a cursory analysis of the economic measures passed by Hugo Chávez’s regime and his successor, Nicolás Maduro, is needed.
The main culprit in Venezuela’s economic tragedy is government intervention, specifically price controls implemented during the Chávez and Maduro administrations. These controls have been the underlying factors behind the rampant scarcity of basic goods in Venezuela.
Venezuela’s Current Price Control Experiment
Emboldened after an unsuccessful coup attempt against his government in 2002, Hugo Chávez initiated a series of interventionist measures with the aim of preventing capital flight. These measures included expropriation of key industries, exchange controls, and price controls.
Despite the harmful nature of these policies, the flow of petrodollars thanks to high oil prices could give Venezuelan businesses the luxury of importing basic goods and raw materials as a short-term, fallback measure. Even with high oil prices, shortages of price controlled goods began to slowly pop up in 2006 due to the exchange and price controls.
When oil prices started to fall, harsh economic realities began to surface. Scarcity would soon become a nationwide phenomenon in Venezuela thanks to the combined effects of stringent exchange controls that did not allow for the free entry of dollars and a price control regime that prevents the price system from functioning in the economy.
With high levels of inflation coming into the mix, Venezuela’s socialist government would strengthen its price controls. Through its passage of the Fair Prices Act in 2014, the Venezuelan government aimed to tame shortages by banning profit margins over 30 percent and tightening price ceilings on basic goods.
The aforementioned law has only aggravated Venezuela’s shortage crisis and has put the country on the road to famine. In heavy-handed fashion, the government continued its interventionist policies with the establishment of CLAPS, local supply and production committees, that only ration food to government supporters. These measures will result in further misery and poverty, as the government and its supporters will be the only beneficiaries of such policies.
The Laws of Economics Must Be Respected
In the free market, prices function as signals to both consumers and producers of how much of a product or service must be demanded or supplied respectively. For producers, prices communicate whether it is a good time to enter or leave a certain market. Falling prices and the potential for losses signal to employers the need to leave a market. On the other hand, rising prices and the potential for profit-making incentivize producers to enter a market.
On the consumer end, lower prices signal to consumers that it is a good time to buy said good or service. Higher prices generally discourage consumers from buying a certain product or incentivize them to look for cheaper substitutes. This dynamic ultimately leads to an equilibrium price that is the product of market forces, not government decrees.
When price ceilings are implemented, this price coordination mechanism is turned on its head. An artificially low price leads consumers to demand more of a good than producers are willing to supply. When demand outstrips supply, shortages emerge.
These arbitrary ceilings disrupt the productive structure of businesses and do not allow them to bring goods to the market in a cost-effective manner. Unsurprisingly, many businesses are forced to incur losses, especially if the legislated price falls below the natural market price that is needed to meet operational costs. Less fortunate enterprises will find themselves compelled to shut down their operations as they can no longer afford to supply goods to the market given the artificially low prices.
Businesses that have the means to adjust to these regulations end up supplying less products or products of inferior quality. Consumers must then cope with a market that provides fewer and inferior goods, thus leading to lower consumer welfare.
Price Controls: A Historical Analysis
Price controls have existed since time immemorial. No matter the time or place, the result of such measures has always been the same — shortages and black market activity. Under the rule of Roman Emperor Diocletian, price controls were imposed through the Edict on Maximum Prices in 301 AD. The purpose of this law was to combat the inflationary prices present throughout the Roman economy and reign in the avarice of merchants. A half-measure, at best, that did not address the underlying cause of the inflation — monetary debasement — this law resulted in shortages, businesses shutting down, and the emergence of black markets.
The US was not exempt from the harsh laws of economics either. In 1971, Richard Nixon issued Executive Order 11615 in order to “stabilize the economy, reduce inflation, and minimize unemployment.” Despite being passed under the premise of fighting inflation and curbing the effects of the Organization of Petroleum Exporting Countries (OPEC)’s production cuts, these price controls not only proved to be ineffective in curbing inflation, but they also created a new problem — shortages.
Analyzing the Nixon-era price controls, renowned economist Thomas Sowell noted that “price controls turned a minor adjustment into a major shortage.” Instead of letting prices rise, thus providing oil companies an incentive to produce more, the US government decided to impose arbitrary controls that delayed the necessary market adjustment.
Like clockwork, long lines resulted. Consumers that were frustrated with waiting hours in line would use black market means to buy gas at significantly higher prices. Consumers that are desperate to attain price controlled goods will resort to the black market, no matter how much more expensive the good is, given the stark reality that the price-controlled white market cannot meet consumer demand.
Even Venezuela has dabbled in price controls in the not too distant past. In 1975, President Carlos Andrés Pérez passed a price ceiling on the sale of arepas (corn cakes), Venezuela’s staple food. In short time, a significant number of areperas (arepa vendors) would shut down their operations or shift their production toward other foods such as hamburgers, sandwiches, and tacos.
Ironically, it was under Pérez’s second term (1989 – 1993) that these controls were lifted. With time, areperas returned to their pre-regulation production levels, while seeing an accompanied increase in their quality. Although these controls were not as comprehensive as the current price controls regime, the economic effects were still the same but on a microcosmic scale.
The laws of economics are universal; they apply to developed countries just as much as developing countries. When price controls are implemented, shortages and black market activity are to be expected. No government, no matter how well-intentioned or powerful it claims to be, can violate these principles without consequences. In the realm of economics, no government can play god.