China: Worried about the biggest price increases in over two years, China’s local governments have come up with price caps on some vegetables to control inflation. But China and price controls have an unhappy history. Such measures can encourage hoarding, discourage production and create shortages. No wonder Shanghai’s benchmark index fell four per cent as the idea spread on November 16.
Food and property prices are troubling. Consumer prices were 4.4 per cent higher in October than a year earlier, mainly due to food, which makes up a third of the basket of goods measured. Beijing had already raised interest rates for the first time in two years, and locked up more money by raising bank reserve requirements, but with little visible result.
Price controls were easy enough to police in a planned economy. Now, China has tens of millions of privately owned supermarkets and market traders. Controlling prices on shelves is not like controlling the price of petrol, which comes from just two state-owned refiners. Retailers will seek ways to protect their profits: when China limited instant noodle prices in 2008, producers simply made packets smaller.
External forces are also at play. Minimum wages have risen as much as 30 percent across China in 2010, and are a natural part of China getting richer. Global crude oil prices have doubled from their financial crisis trough, but China takes rather than sets the price of such globally traded input commodities.
Finally, it is not clear who will bear the cost. If supermarkets are forced to keep prices down, they are likely to squeeze their suppliers, namely China’s farmers. The government may then have to step in with subsidies, which ultimately are met by taxpayers and depositors. Otherwise, farmers will switch to more profitable crops, laying the ground for future shortages.
The root of the problem is money. Loose money policies from Western governments have helped bid up the price of globally traded goods. And China’s own 28 per cent money growth last year is starting to filter through to shoppers’ pockets. Price caps won’t fix that, but they might exacerbate the sense that Beijing is shying away from more decisive tightening. That could make a bad situation worse.