History shows price caps just don’t work

This month marks 50 years since the “it’s time” election of the Whitlam Labor government.

Afficionados of politics and policy are inevitably tempted to reach into the bag of Whitlam memorabilia — and a large bag it is — and make comparisons with what is going on now under another new Labor administration.

Like the current government, Whitlam came to office at a time of accelerating inflation. Six months in, inflation had sped up to 8.3 per cent.

This is eerily similar to where we are now. We had better hope the parallel ends there, because inflation went on to peak at 17.7 per cent in 1975.

One of Whitlam’s responses was to reach for the levers of direct control. If prices are rising too fast, ‘control’ them.

This was more crude populism than sophistication in economic management, but to be fair to Whitlam his was not the only government in the world at that time to fall for the allure of direct controls.

In September 1973, Whitlam launched a referendum to secure Commonwealth constitutional power over prices — and for good measure, incomes as well.

The referendum was held three months later and, like most referenda before and since, failed miserably. Not a single state approved of controls for either prices or incomes.

Whitlam persevered with a body called the Prices Justification Tribunal, but it was a political decoration with no effect.

We don’t know what use he would have made of price and income powers had the referendum succeeded, but it was ultimately tighter fiscal and monetary policies that stopped the acceleration of inflation — and that would have been the case even if the bid for controls had succeeded.

Nonetheless, uncomfortably high inflation had become entrenched and was not finally crushed until Paul Keating’s “recession we had to have” almost 20 years later.

The Hawke government had its Prices and Incomes Accord — not controls but a social contract with unions to curb wage-driven inflation — but the lesson was learned that inflation can’t be tamed without tough budgets and a vigilant Reserve Bank.

Direct controls don’t address the fundamental drivers of inflation and are like trying to stop a flood by sticking fingers in the dyke.

Fast-forward another 30 years, and direct price intervention is back in vogue. Gas and coal price ‘caps’ are being imposed — but let’s not mince words, these are price controls on a section of the private sector for goods and services they are producing at their own expense.

Anthony Albanese says this is no big deal; others (especially, but not only, gas and coal producers) say it is.

Albo is wrong and his critics are right — this is a big deal, and not in a positive way.

This has come out of the blue (rather like the new industrial relations regulation). It is poison to new investment in gas (and coal too — not that there was going to be much anyway). There will be less gas for domestic consumption.

It is also poison to new investment in other industries, because any business will think: if they can do this what else might they do?

Is it now for government to decide what is a ‘fair’ or ‘reasonable’ price for other goods and services? ‘Fair’ and ‘reasonable’ when applied to prices are the ultimate weasel words of politics.

Albanese and his Treasurer are well aware of the lessons of the past about how to bring inflation down, but have still been drawn to direct controls like moths to a flame.

What is different this time is that there is no thrust towards widespread controls. They are confined to one sector — an easy target, at that — and are probably quite popular with the public.

They tap into the sentiment that can’t understand why a nation with abundant coal and gas should have to pay the exorbitant prices charged in countries that don’t. This is muddled thinking, but it’s real.

More importantly, the controls will have little impact on inflation, and won’t stop gas and electricity prices from increasing substantially anyway. The controls might be popular now but won’t be when consumers find out that prices have ‘only’ risen by (say) 20 per cent instead of (say) 30 per cent.

The eastern states need more gas, but will ultimately get less as a result of these controls. It will take time for them to have their effect on investment and supply, but it will be negative.

This will ultimately lead to prices being higher than otherwise. It could also undermine the reliability of electricity supply and increase the risk of blackouts down the track.

As any Cuban or Venezuelan outside their ruling elites can tell you, it is better to have free market prices and well-stocked shelves than controlled low prices but bare shelves.

There is no doubt that soaring energy prices are an economic and political problem. There is no good way to address it, only bad and less bad ways.

The way the government has chosen is just plain bad.

Robert Carling is a Senior fellow at the Centre for Independent Studies and a former World Bank, IMF, and federal and state Treasury economist.