Montreal, April 11, 2006 – Price controls produce many pernicious effects, and it would be better for governments to let prices play their role effectively, says Valentin Petkantchin, research director at the Montreal Economic Institute. Governments should consider other policies instead, providing direct assistance to the groups in society they wish to help.
“Prices serve as signals to economic players and enable scarce resources to be used in the most efficient way possible,” recalls Mr. Petkantchin in an Economic Note published today.
The document describes the harmful economic effects of government actions aimed at setting minimum or maximum prices for certain goods and services.
The pernicious effect of floor prices
By making products more expensive, the establishment of minimum prices (“floor prices”) deters consumption and encourages buyers to turn to less costly substitute products. They give businesses an incentive to produce more, leading to overproduction unless further regulations are applied.
Mr. Petkantchin cites the example of support prices for farm products such as milk, eggs, poultry and maple syrup that fall under supply management.
To avoid the overproduction crises these artificially high prices might have caused, regulatory authorities acted to control production volumes by applying quotas that are increasingly costly for producers.
The negative impact of ceiling prices
The imposition of maximum prices (“ceiling prices”) leads to increased consumer demand while making production and investment in the regulated good or service less lucrative. Unless other measures are taken – such as subsidizing the affected producers or investors – the direct result is a scarcity of the regulated good or service.
“A classic example of this is rent controls, intended to help poorer households,” Mr. Petkantchin writes. “Rather than helping tenants, rent controls end up penalizing them by causing a reduction in rental housing supply.”
The document also provides the example of patented drug prices, which are subject to controls by the federal and provincial governments. In this instance, controls have the direct effect of eliminating incentives to invest in R&D, making pharmaceutical innovation increasingly difficult.
“Many other examples could be mentioned, in particular gasoline and beer prices or the telecommunications charges set by the CRTC,” Mr. Petkantchin adds. “But regardless of the sector of activity, these controls are economically inefficient, and they impede wealth creation.”
This Economic Note, titled The pernicious effects of price controls, is available on the Institute’s Website.
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