Australian shoppers are facing a crisis in the fresh produce department.
Iceberg lettuce, which cost $2.80 a year ago, has doubled or tripled in price. Brussels sprouts, which used to cost between $4 and $6 a kilo, are now $7 to $14. The beans, which cost $5 to $6 a kilo, now cost more than double, and five times more in outlying areas.
That is if you can find such products at all. Supermarket shelves for leafy greens are often empty.
This is a strong hint as to why prices have risen so much. In addition to producers facing higher production costs – in line with pressures causing food prices to rise worldwide – these price spikes are driven by a lack of supply – with crops and stocks wiped out by rains and floods in eastern Australia.
Read more: Why is salad so expensive? Costs have risen and will not return to their previous levels.
The price increase has led to calls for supermarkets to set price caps so that shoppers can afford to feed their families healthy meals.
But price ceilings on goods or services rarely, if ever, work. Prices play an important role in the efficient allocation of resources. They send a signal to both customers and suppliers. Arbitrary price cuts would only widen the deficit, both now and in the long run.
Demand, supply and market equilibrium
The laws of supply and demand are fundamental concepts in economics. The law of demand states that buyers will demand less of an economic good the higher its price. The law of supply states that the higher the price, the more goods sellers will offer. There are some rare exceptions, but in general these laws apply to all markets.
The British economist Alfred Marshall was the first to graphically illustrate the interaction of these two laws in his 1890 book The Principles of Economics. Market equilibrium (balance) is achieved at a price and quantity at which demand equals supply.
If the supply falls, the market reaction is to increase prices, which leads to a new equilibrium. If supply falls and prices stay the same, demand will outstrip supply, leading to shortages.
Fresh fruits and vegetables are particularly susceptible to large price fluctuations because they are perishable and cannot be stored for long periods of time. This is why seasonal price fluctuations are common.
Higher prices send a signal to both consumers and producers. They tell consumers to buy less and switch to alternatives. They encourage growers to grow more, although the process is rather slow given the time it takes to grow and harvest fruits and vegetables.
But eventually, if the market is left to its own devices, prices will eventually return to “normal” historical prices.
On the other hand, capping the price will benefit those lucky enough to get supplies when they are available. But this is likely to reduce supply even more, as it will influence the decision of producers who are not willing to supply below market prices.
It can also lead to a “black market” where some customers purchase goods through other means at higher unrestricted prices.
Evidence of rent control
The economic theory of marginal prices is well supported by empirical evidence. The most famous of these include rent controls, which are used in US cities such as New York and Los Angeles and European cities such as Stockholm, Berlin and Dublin.
Rent control means that some are lucky to find an affordable apartment. Many others skip or make “deals” with landlords to get around control. The most disadvantaged tend to lose the most, as landlords may discriminate in favor of what they consider to be “more desirable” tenants.
As Stanford University economist Rebecca Diamond writes:
While rent control appears to help current tenants in the short term, in the long term it reduces affordability, encourages gentrification, and creates negative spillovers for the surrounding area.
As in the case of housing, so it is with broccoli and cabbage.
Read more: Why the New Zealand government is right to rule out rent controls as a solution to the housing crisis
We’ve seen it all before
Therefore, as a rule, price restrictions should be avoided.
If it is suspected that wholesalers or retailers are taking advantage of shortages, it is best to deal with the Australian Consumer and Competition Commission. While “price gouging” is generally not illegal, companies can be prosecuted by consumer watchdogs for misleading statements about the reasons for price increases and bad faith behavior (in the case of excessive gouging of essential goods).
What else can be done? Just what consumers have always done, which is to replace relatively cheaper goods with those that were becoming more expensive.
We’ve seen this before. Floods in Queensland in 2011 destroyed huge crops of bananas and watermelons, causing prices to skyrocket. Buyers switched to other fruits. Banana farmers have recovered. Prices have dropped.
These high prices for lettuce and the like right now may be a shock, but they are not a sign of a market failure requiring intervention. If we let the market do its thing, the shortage will end and prices will return to “normal” levels—at least until the next natural disaster.