Price controls enter the European inflation debate

Customers in a CBA supermarket in Budapest, Hungary. [EPA-EFE/Zoltan Balogh]

As inflation remains high, politicians and economists turn to other measures to contain prices, and age-old discussions around price controls are flaring up again, with Hungary’s Viktor Orbán putting them into practice.

According to estimates by Eurostat, annual inflation hit 5% in December 2021, up from 4.9% in the previous month. The biggest driver of inflation was energy prices: they were up 26% from the previous year, largely due to reduced gas deliveries from Russia. Food and industrial goods have appreciated by around 3%.

Most of the price increases are a result of pandemic-related supply chain bottlenecks, according to the European Central Bank (ECB).

While inflation is expected to recede over the course of the year as the effects of the pandemic ease, supply chain issues mean that monetary policy is limited in how much it can do to prevent the price increases without hurting economic growth.

As a result, economists and politicians are now looking at other measures that might reign in inflation.

The old controversy about price controls

Isabella Weber, an Assistant Professor of Economics at the University of Massachusetts Amherst, sparked a debate among economists when she recently argued that strategic price controls should be considered.

She compared the situation in the US today with the situation in the after World War II. “Then and now large corporations with market power have used supply problems as an opportunity to increase prices and scoop windfall profits”, Weber wrote.

Many wartime economists had argued for price controls that were in place during World War II to be kept for longer to avoid inflation. Nevertheless, price controls were scrapped in 1946, after which annual inflation rose to 14% in 1947.

Currently, inflation is more pronounced in the US than in Europe and it is driven much more strongly by wage growth than in the EU.

Still, the issue of price controls is filtering into the European debate.

Stefan Bruckbauer, chief economist at Bank Austria, sees a considerable probability that price controls will gain some footing in Europe.

“Even if we are convinced that the [negative] side-effects of price control outweigh the benefits in most cases, we would not be surprised if policymakers were to implement them anyway”, he stated in a UniCredit research newsletter.

Orbán fixes food prices

And indeed, at least one EU government has started using the tool. On Wednesday (12 January) Hungarian prime minister Viktor Orbán announced a freeze on prices of some foodstuffs.

From 1 February, the price of granulated sugar, wheat flour, sunflower oil, pork legs, chicken breast and 2.8% cow’s milk will be capped at their 15 October 2021 level, Orbán said in a Facebook video.

The prime minister said that the cap was introduced to protect families. He also runs for reelection this spring.

An EU Commission official told EURACTIV that the Commission had learned from the Hungarian government’s decision from the press and was therefore not yet in a position to comment.

Misallocation of resources or prevention of rip-offs?

Although they might seem to be tools from another time, price controls are still very common in Europe. According to figures from the ECB, around 13% of prices are administered, meaning that they are regulated by the state.

The risk of price controls is that they can lead to a misallocation of resources that could create new shortages and supply bottlenecks, according to Bruckbauer.

The ECB is also critical of price controls, saying that they were interfering with the open market. “Price control does not solve the problem, it just shifts the burden to another party,” an ECB spokesperson told EURACTIV.

Nevertheless, price controls might be used in markets in which companies have enough market power to push the prices upwards.

In some cases, this pricing power is visible. In the US, for example, companies are celebrating record profit margins. But also in Europe, the German Bundesbank recently found, that companies do not only pass on increasing costs from supply chain difficulties, but they also increase their profit margins, therefore leading to higher prices.

The political debate around price controls will depend on the further development of consumer prices, which are expected to fall over the course of this year, according to the ECB.

What should the European Central Bank do about inflation?

As fears over inflation intensity, analysts caution that while energy costs and supply chain issues exacerbate the problem, the European Central Bank cannot do much to stop it.

[Edited by Nathalie Weatherald]

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