Advocata says fostering competition, improving productivity best form of price control

• Welcomes removal of MRP on several products; urges Govt. to avoid price control practice going forward

Independent think-tank Advocata has welcomed the lifting of Maximum Retail Price (MRP) on several products, saying fostering competition and improving productivity are the best form of price control. 

It said the recent decision by the Government to withdraw several gazette notifications imposing price controls was a step in the right direction. 

“Consecutive governments have used price controls to address equity concerns instead of undertaking the hard reforms needed to create competitive markets. 

Prices are central to solving the core economic problem that all societies face: how are scarce resources allocated to meet as many of the unlimited wants of consumers as possible? Allowing prices to carry out this function, so that more consumer wants can be met achieves the best outcome for an economy,” Advocata emphasised. 

From such a perspective, it said the recent decision to end price controls on essential foods (including milk powder and wheat flour), liquid petroleum gas and cement was a step in the right direction. 

“Price controls create distortions such as shortages, rationing and the creation of a black market as well as substitution towards low-quality alternatives. Although price controls are often introduced by governments with the intention of protecting the poorest consumers in society, they are very inefficient, as a means of redistribution. Often these subsidies are biased against the poor as they consume less of these goods than the rich,” Advocata said. 

Further, sharp increases in prices could have negative consequences on low-income households in the short run. Ideally, such price increases should be made gradually so consumers can adjust to them or be able to shift to cheaper alternatives. 

Administratively-controlled prices, particularly on goods and services provided by the Government, exert a huge burden on the fiscal, leading to high borrowings and debt. It also affects the conduct of monetary policy by masking underlying inflationary pressures.

Advocata said fostering competition and boosting productivity was a better way of reducing the cost of living. This involves removing barriers to entry and deregulating the economy. 

A good example of this is in the cement industry. The industry is dominated by two players and competition is constrained by a Government policy that restricts the number of plants that can operate in each port. If a new factory is set up, priority is given to existing operators in the port. This limits new investment and competitive pricing. 

Another key issue that makes construction prohibitively expensive according to Advocata is the use of para tariffs (CESS) on imports, reducing contestability in the market. There is a misplaced perception that imports are not necessary where there is local production, but it is the threat of imports that increases contestability, keeps prices low and improves consumer surplus. Further, it also incentivises domestic producers to improve productivity and competitiveness benefiting all stakeholders. 

“The same is true of the LP gas industry. There are only two players in the market, i.e., the State-run Litro Lanka Ltd. and LAUGFS Gas PLC,” it said, adding, “One would expect that the presence of LAUGFS Gas should create some competition in the industry. However, strict Governmental control over LP gas prices and barriers to entry for new players into the industry have prevented an efficient market from developing.” 

It said the LPG industry was highly capital intensive and the lack of storage facilities was the most significant entry barrier. Allowing the use of common storage facilities along with opportunities in distribution will make the industry more competitive, exerting downward pressure on prices in the long run.

“Our experience over the past few months illustrates the adverse impact of price controls on the economy. At the same time, governments are also concerned that removing price controls would generate inflationary pressures. However, through careful management and communication, one-off increases in prices need not feed into inflation expectations and wage negotiations. This requires tight rein over demand-driven inflation and credibility that the Central Bank would use its monetary policy tools to keep inflation within its targeted range of 4-6%,” Advocata said.

Hence, going forward, it urged the Government to refrain from using price controls to address equity concerns. “Instead, creating a competitive business environment and boosting supply is the best solution to lower prices in the economy. In order to support vulnerable households, the Government should provide a cash transfer to cushion the impact of price increases of essential commodities. This would require a re-examination of the Samurdhi scheme which currently excludes some of the most vulnerable households and tighter administration to ensure benefits accrue to those who need it most,” Advocata added.

Advocata’s ‘Analysis on Price Controls’ can be found at https://www.research.advocata.org/wp-content/uploads/2018/10/Price-Controls-in-Srilanka-Book.pdf.