INFLATION DRIVERS – REASON #3
Today, food, energy and other consumables are subsidized by the governments of countries where about 4 billion of the world’s people live. China and India are rife with subsidies for food, energy and other goods…as are many dozens of other countries globally. These subsidies are a mistake and will create inflation when they are lifted.
Governments subsidize the price of food, energy and other consumables for political purposes…it is a good way to curry favor with voters. These have been a favorite with centrally planned economies for decades. Their history goes back much further to some of the world’s ancient civilizations. There has in my opinion, never been a track record of long term success for these types of programs. Politicians are attracted to them because they are popular with consumers. The programs cut costs for consumers, but someone has to absorb the loss on the subsidy. Usually, it is the taxpayers or the owners of companies who are asked to lose money on the goods that they sell to consumers at below cost.
For example, if world prices of gasoline are $4.50 per gallon and you can buy gasoline for $2.00 per gallon in Vietnam, why would you not purchase gasoline for $2.00 and resell it in another locale (a neighboring country) at something closer to the world market price of $4.50? The answer is that many people will, and this leads to over-consumption, black markets, shortages, smuggling and many other socially unattractive side effects. Higher prices ration demand and lead to lower consumption artificially low prices incentivize consumption. Eventually, shortages and rationing follow…and the government is then forced to move the subsidized price closer to world prices. By now world prices will be much higher than the subsidized price thus setting off a wave of price inflation.
Subsidies are a shortsighted strategy to “improve” the standard of living for their constituents, but they encourage waste and inefficiency…and eventually painful adjustment when they are lifted. Subsidies often lead to inflation and redistribute wealth from the government or the rich to the poor. Once the cost becomes too expensive for the government to bear, or when the private companies who have been forced to sell at below market prices go broke, prices are forced to rise rapidly. The price rise hurts those who have not learned to conserve…often more than they would have been hurt if subsidies had never been introduced.
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