Tuesday, July 13, 2010


Venezuelan President Hugo Chavez is the best current example of the wisdom that everybody who desires the highest office in the land should first have a good working knowledge of basic economic theory.

Buoyed by high oil prices, which rose to as high as $140 a barrel in 2008, the populist president maintained price controls in his country and even boasted that the global recession would not affect Venezuela. That was before oil prices plummeted, making maintaining price controls unsustainable.

Inflation has set in with prices rising more than 25% in 2008 and 2009 and expected to jump by as much as 50% this year.

Inflation is a result of too much money chasing too few goods. Either government prints too much money or production falls off making goods scarce in both cases leading to price rises. It is as natural a law as the law of gravity and you contravene it to your own detriment.

"Price controls have the effect of discouraging investment, which in turn stifles production and then the inevitable happens...

So this week Senor Chavez devalued the Bolivar in order to give relief to exporters and fatten the state coffers ahead of the legislative polls in September. It is suggested he will go on a social sector spending spree to ensure victory for his allies in the house.

Because he nationalized the oil industry he is rubbing his hands with glee in anticipation of the increased bolivars from oil exports. However he is indulging in wishful thinking because inflation will wipe out that artificial windfall faster than he can say John Maynard Keynes.

The politically expensive but economically sound thing to do is for him to lift restrictions yesterday, maintaining them is only aggravating the problem because prices tended to explode once controls are lifted and the longer you wait the worse the explosion.

Well consumers have been buying imported goods in bulk this week in anticipation of price hikes when current stocks run out.

In the early 1990s despite pressure the NRM government refused to impose rent controls in the city.

Following the repossession of many Asian properties the “new” landlords started charging commercial rates and the local “businessmen” thought this was unfair.

Rent controls were not imposed and this is at the heart of the property development boom we are in right now. Of course the convoluted nature of land holding system means it will take some time before we fully address our current housing shortage but it would have been worse if government had bowed to misplaced, popular opinion.

But our current power situation has its root in the dreaded price controls.

To begin with UMEME is grappling with an old, dilapidated, under capacity network because power prices were held artificially low for a long time. Therefore there was little investment on the network beyond perfunctory maintenance, and we are paying far higher power rates than we should be as a result.

But more recently the departure of AES the original promoters of the Bujagali dam was prompted by price controls in Argentina.

In 2002 as a step to climb out of an economic crisis, Argentina abandoned the politically fixed 1-to-1 peso-dollar exchange rate. Almost immediately the peso lost 40 percent of its value.

This was bad because AES which had power investments in Argentina had been borrowing in dollars while getting paid in pesos, this worked as perfectly as long as the 1-to-1 exchange rate applied. But when the peso was floated AES was in a bind because it could not raise its prices as fast as the peso had fallen.

Bujagali was one of the casualties.

In 2008 Zimbabwe’s president Robert Mugabe his country being pummeled by inflation of more than 1000%, ordered that commodity prices should revert to a prior level and when they did not he arrested shopkeepers and ranted at western imperialism.

Price controls are the temptation of every desperate politician but they should come with a health warning. Unfortunately economic logic rarely stands up to political expediency.

Published January 2010, New Vision

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