Why price controls are detrimental to economic growth

There is a renewed interest in the country in an idea that many economists and investors thought Kenya had left behind a long time ago: price controls.

Price controls have a long history, dating back thousands of years. According to historians, the Egyptian authorities regulated the production and distribution of grain in the third century BC. Babylonians implemented price controls through a legal text named the Code of Hammurabi. Ancient Greece also imposed price controls on grain and appointed inspectors to set the price of grain at the level thought right by the government. In modern times, price controls have been implemented during times of war, such as World War I and II and in crisis (Mises Institution, 2005).

According to a 2005 report by the United Nations Conference on Trade and Development, Kenya incorporated price controls in the 1970s and early 1980s. At the time, prices of almost all goods were controlled under General or Specific Price Control Orders established under regulations dating back to 1956 and amended in the Price Control Act of 1972. The report further notes that by 1994, all price controls had been eliminated but they were officially reintroduced through the Price Control (Essential Goods) Act of 2011. Its implementation has been unsuccessful due to diverse factors, including its failure to account for market dynamics, which led to shortages and black markets. The government also struggled with enforcement, and businesses found the price caps unsustainable due to fluctuating input costs, reducing profit margins and discouraging production. The Act also conflicted with market-driven economic principles, faced legal and bureaucratic hurdles, and ultimately resulted in economic inefficiency, making it ineffective in achieving its intended goals.

The Price Control (Essential Goods) (Amendment) Bill, 2024 was recently introduced to amend the 2011 Act. Specifically, the Bill seeks to empower the Cabinet Secretary to fix both minimum and maximum retail and wholesale prices for essential goods such as maize, maize flour, wheat, wheat flour, rice, cooking oil, sugar, and certain pharmaceutical drugs; create a Price Control Unit within the Ministry to monitor, enforce, and analyze pricing trends to ensure compliance with the price controls; and provide incentives to farmers, manufacturers, and retailers involved in the production and distribution of essential goods.

A working paper by the World Bank indicates that whereas price controls are often used as a tool for social policy, they can dampen investment and growth, worsen poverty outcomes, cause countries to incur heavy fiscal burdens, and complicate the effective conduct of monetary policy. This argument is supported by historical records of economic catastrophes arising from price controls (Mises Institution, 2005). For instance, in Egypt during the third century BC, farmers were infuriated with the price control inspectors, which resulted in many of them leaving their farms. By the end of that century, the Egyptian economy had collapsed. In Babylon, the price controls killed economic progress for years. In Ancient Greece, grain shortages created by price controls resulted in the rise of a black market.

The manufacturing sector’s major concern is the long-term implications of such a law on market dynamics. First, it will stifle competition, particularly among small and medium-sized enterprises (SMEs), who are likely to struggle to sustain operations under stringent price controls. This could lead to market monopolization by larger firms, reducing overall market competition. Second, if the regulated prices are lower than production costs, this could lead to financial losses, potential layoffs, or even market exits of players in the food sector. Third, with price ceilings in place, manufacturers will have less incentive to innovate or improve product quality, as they might not adjust prices to reflect enhanced value. This could lead to stagnation in product development and reduced consumer choice. Lastly, it is likely to lead to supply chain disruptions if manufacturers reduce production in response to unprofitable price controls. This might result in shortages of essential goods, driving consumers to seek alternatives in an unregulated market.

The high cost of living continues to have a toll on Kenyans. Hence, there is a need to reduce the cost of essential products. However, this can be realized effectively by addressing the underlying issues that drive up the price of essential goods in the country. Unfortunately, the Bill focuses on symptoms rather than root causes. In this case, it is crucial to replace price controls with expanded and better-targeted social safety nets, coupled with reforms to encourage competition and a sound regulatory environment that would have a better effect on economic growth and increase citizen’s disposal income.

As manufacturers, we urge the government to address the systemic challenges, such as prohibitive tax regime, high cost of raw materials and high cost of energy and corruption, that impact the cost of production to reduce the prices of essential goods. Additionally, there is a need to regulate the current trend of runaway taxation. By tackling these issues, the cost of production will naturally decrease, leading to lower prices for consumers without the need for stringent price controls as the market will regulate itself.

The implementation of the Price Control (Essential Goods) (Amendment) Bill will have a detrimental effect on the economy. We therefore call on the government to instead adopt policies that promote free and fair competition, enhance consumer awareness and empowerment, and support the development and diversification of the Kenyan economy.