Price Controls Fight Inflation

In Germany, government price controls are rarely a matter of public debate. Politically regulated or negotiated prices such as the Deutschlandticket for regional public transport are seen as exceptional. Economic policy debates and everyday common sense are both dominated by the idea that prices are determined by supply and demand. But that is ultimately a foolish notion, since pure competition and laissez faire do not actually exist and nor are prices free from the effects of political influence.

It is inevitable that the circumstances under which production occurs be conditioned in multiple ways by government policy. The question is simply whether, in addition to this, the government intervenes directly to define price floors or caps for particular items.

The minimum wage, for instance, is a minimum price that the state sets for the sale of labour power. It is a result of the political pressure exerted by unions and the Left, and a necessary measure that goes some way towards securing an income for workers (and thus also the reproduction of sellable labour power) in cases that are not covered by collective wage agreements or other arrangements. Rent controls on social housing are an important example of government-defined price caps that have existed in Germany for decades.

Two Types of Price Controls

We need to distinguish between two types of price controls. First, governments can prescribe caps or floors, in which case firms are obliged to observe legal requirements when they set their prices. That said, in a capitalist society the state is not able to define prices at will. If enterprises are to produce commodities at all, prices need to suffice to cover their costs; and if we are talking about capitalist enterprises, they must also be able to keep up with prevailing rates of profit over the longer term.

Especially if the goods in question are scarce, there is a risk that a black market will form on which they can be traded at higher prices. Additionally, unless the market is essential to them on account of its size, foreign companies cannot be simply compelled to supply a market at set prices. From a government’s point of view, the question thus arises whether it will at all be able to enforce a given price limit.

We do not live in a world of perfect competition as presented in the textbooks of neoclassical economics, but in a world of oligopolies in which corporations possess considerable pricing power.

At this point, a second type of price control comes into consideration: the government can limit the price paid by end users by subsidizing it, that is, by paying the difference between the higher market prices and the lower, politically defined price paid by end users. Then the question arises of how these subsidies are to be financed and what effect the financing will have on the distribution of income.

The economist John Kenneth Galbraith participated in the design and implementation of price controls in the United States in the 1940s and 1950s. In his 1952 book A Theory of Price Control, he writes that in certain situations governments have no choice but to introduce price controls. For products sold by only few vendors, controls are relatively easy to impose. In markets with many vendors, by contrast, prices are often raised illegally, or the products are traded on black markets. In that case, the effective imposition of price caps requires a bigger regulator that is able to monitor firms more closely. Accompanying measures such as the establishment of a public supply or the rationing or distribution of products by the state may also be necessary to ensure that the population retains access to certain commodities.

Price Controls Should Ensure Stability

In countries of the capitalist periphery, price controls for products such as basic food items or petrol play a much more crucial role than in the core. When most people are on precarious incomes, inflation rates are high, and poverty is widespread, government-imposed price caps on staple items are an essential means of stabilizing the ruling order.

At the same time, government subsidies are highly contested in these countries too. While the International Monetary Fund often only lends money to Global South countries undergoing financial crises on the condition that they abolish subsidies on staple foods and other products, popular revolts recur frequently when the prices of essential products are raised. In Germany, too, the experience of recent years has shown that people with low incomes suffer the most when inflation rates are high.

The dominant method of combating price rises is for central banks to raise the base rate of interest. This makes loans more expensive, and so the requirements for capital investments to be profitable become more stringent. Investment becomes more difficult, economic growth is dampened, and pressure on incomes increases. The background assumption is that prices rise because demand is too high relative to supply. If the supply of goods cannot be increased accordingly, purchasing power must be reduced in order to prevent a price rise.

According to economic policy orthodoxy, in situations of high inflation, growing unemployment and falling wages resulting from increased base interest rates are even desirable. When this happens, the working class is thrown out of the frying pan into the fire. Inflation primarily hurts the working class, but the therapy applied by the ruling class to combat inflation also hurts the working class. This raises the question of whether there is an alternative to the policy of increasing interest rates in order to combat inflation — and that is where price controls come in.

In the past, the industrialized countries of the Global North made large-scale use of price controls, especially in periods of war. During World War II, they were widely used. In the US, price controls continued to operate during the Korean War at the beginning of the 1950s and at the peak of the Vietnam War from 1971 to 1974. In West Germany, too, supply shortages and high inflation rates meant that government regulation of prices played an important role well into the 1950s.

Free Competition Is an Illusion, Oligopolies Are the Reality

Advocates of a “free market economy” view price controls as a policy that inhibits the free interaction of the forces of supply and demand, and leads to inefficient deployment or even waste of scarce resources. But in a modern capitalist economy, free competition is an illusion in any case.

During the last 200 years, capitalist dynamics have led to the formation of gigantic corporations, just a few of which dominate in each sector. We do not live in a world of perfect competition as presented in the textbooks of neoclassical economics, but in a world of oligopolies in which corporations possess considerable pricing power.

To the degree that inflation increases, price controls will also become more important.

In addition, the subordinate position of wage earners within capitalist relations of production forces them to form unions and political parties if they wish to defend their interests. One of the forms that class struggle takes is collective bargaining, in which wages and working conditions are negotiated for large numbers of workers.

This, too, represents a divergence from the neoclassical doctrine. Neoclassical economics views collective bargaining negotiations as an impediment to free competition. Thus, the situation into which governments intervene through price controls is already characterized by considerable concentrations of power, rather than perfect competition.

Costly and Socially Imbalanced

It is largely owing to economist Isabella Weber that price controls have been discussed again at all. Writing in The Guardian in December 2021, Weber proposed strategic price controls as a way to combat inflation. Initially, this was roundly rejected, even by Keynesian economists such as Paul Krugman — who, however, later changed his mind.

In February 2022, together with Sebastian Dullien, chief economist at the union-linked Macroeconomic Policy Institute (IMK), she called for a cap on gas prices to curb inflation. The German government took up the suggestion, but only after a further six months. The Spanish government acted faster, capping electricity and gas prices, and so was more successful at getting inflation under control.

While the German socialist party Die Linke made early calls for restrictions on electricity and gas prices, the traffic-light coalition — consisting of the SPD, the Greens, and the FDP — initially pursued an opposite strategy. Beginning in October 2022, the coalition responded to the sharp rise in gas costs in the wake of Russia’s invasion of Ukraine with a gas levy that raised prices even further. The idea was to finance bailouts for gas importers such as Uniper, who were facing potential bankruptcy.

Caught in a storm of criticism, the government scrapped the levy and relied initially on tax cuts and one-time payments to reduce the pressure exerted by rising costs of living. However, these measures were completely inadequate, since inflation was very high and the measures primarily benefited people on higher incomes.

The federal government only appointed the Expert Commission on Gas and Heating on 23 September 2022, tasking it with developing a mechanism to slow the rise of gas prices. Nonetheless, opponents of government price controls, who resisted sensible measures, were also appointed to the commission. The government ultimately settled on electricity and gas price brakes, which entered into force in January 2023.

At the end of that year, the government let the controls lapse, since electricity and gas prices had meanwhile dropped again, and the coalition was unable to agree on how to finance the subsidies. With the debt brake in force and the Federal Constitutional Court prohibiting the further use of emergency debt authorizations dating from the Covid-19 pandemic, the Free Democratic Party (FDP) — with the support of numerous economists and business associations — succeeded in imposing a restrictive fiscal policy.

Thus, Germany’s electricity and gas price brakes were introduced too late and abandoned again too soon. But the design was also problematic. The gas price brake was intended to provide relief to households and enterprises according to what their gas usage had been in 2021. The idea was that they would receive the difference between the price currently being asked by the gas provider and the reduced price set by the government, limited to 80 percent (for households and small businesses) or 70 percent (bigger businesses) of the gas they had used in 2021.

It is true that the gas price brake included an environmental component, since the remaining 20 or 30 percent could only be obtained at an unsubsidized (and therefore higher) market price, creating an incentive to reduce consumption. But the mechanism had two major drawbacks: first, the relief followed a blanket approach, with the result that households that consumed a lot of gas received more by way of financial relief, while households that consumed less received less. To derive socially progressive effects from the price control, the supply of electricity and gas to each household could have been subsidized up to a particular threshold, or relief could have been calculated per head. However, the energy price brakes lacked provisions such as these.

Second, taking gas consumption from 2021 as a reference-point meant that enterprises had no incentive to keep up production. In the meantime, big businesses with high levels of energy consumption in particular had already drastically curbed production on account of high energy costs. Some economists even made explicit calls to pay businesses an “overwintering premium”, even if they stopped production.

How price controls affect the distribution of income depends on which prices are controlled and how, and whether limits are imposed on wages or profits.

From a neoliberal point of view, such an even distribution of government subsidies to all firms, regardless of their actual production levels, would have been best suited to preventing government-induced market distortions. In the event, this idea — which was criticized — was not implemented. As with households, it was possible for businesses’ gas and electricity bills to sink to zero if they radically cut their gas and electricity consumption, but bills could not drop into the negative range.

For major industrial consumers, Germany’s energy price brakes also made receipt of government electricity and gas subsidies conditional on fulfilling certain requirements. For rebates of 2 million euro and over, businesses had to demonstrate that employees’ jobs were secured through collective wage or employment agreements valid until at least 1 April 2025 or, alternatively, pledge to maintain at least 90 percent of their workforce as it had been on 1 January 2023. Additionally, enterprises that accepted rebates of more than 25 million euro were prohibited from paying out executive bonuses for 2023. Starting at rebates of 50 million euro, firms were also barred from paying out dividends for 2023.

These restrictions may help explain why large enterprises made hardly any use of the energy price subsidies. While private households received around 13 billion euro through the gas price brake, less than 1 billion went to large firms. Roughly similar budgets had initially been estimated for both groups.

The gas and electricity price brakes made an important contribution to providing economic relief to households and small businesses and reducing uncertainty. From a social and ecological point of view, however, it would have been preferable to design the price brakes differently. The fact that this did not occur had to do with the time pressure under which the commission of experts had to work, the influence of neoliberal forces, and the lack of data on household and business structures and their energy consumption. Above all, no effective levies were imposed on the additional profits that numerous firms made due to the energy crisis.

When Prices Rise, Fight for Price Controls

The massive inflationary surge that began in 2021 due to the shocks of the Covid-19 pandemic and was magnified by the effects of the war in Ukraine has since subsided. Alongside higher central bank interest rates, measures such as the energy price brakes and the introduction of, first, the nine-euro public transport pass and, later, the Deutschlandticket, helped to bring inflation down.

Nonetheless, rising inflation could soon exert pressure again. We live in a period of multiple crises, and there are several factors that could contribute to growing inflation in the global economy generally and Germany in particular:

• First, the ruthless exploitation and depletion of natural resources will lead to massive price rises sooner or later. The scarcer raw materials become and the more labour is required to produce them, the more productivity in those sectors will drop. Conventional price-formation mechanisms— including speculation via stock exchanges — will drive prices up drastically, even before we reach what has been dubbed “peak everything” (where production of a wide variety of raw materials hits maximum volume).
• Second, one resource whose quantity cannot be increased is land. If the formation of land values continues to be left to the market, and if governments fail to intervene effectively, the price of land will continue to rise sharply. The associated rises in rents constitute wage earners’ largest cost and thus drive up the price of labour as a commodity — insofar as they don’t lead to spending reductions in other areas, which is to say, to a reduction in working people’s living standards.

• Third, growing geopolitical tensions and the changing ways in which political systems handle them both lead to rising costs. The sealing off of domestic markets, such as through protective tariffs and economic sanctions, is increasing. When sanctions are imposed, distributors evade them via intermediaries and longer transportation routes, which drives up costs. Additionally, a growing fraction of society’s resources is devoted to armaments and is therefore no longer available for production in other areas. Overall, this new international constellation tends to lead to rising prices.
• Fourth, demographic shifts in the old capitalist centres are producing labour shortages. It might be possible to mitigate these shortages by higher labour market participation among women and through migration, but conservative and reactionary orientations in social policy render this more difficult. The labour shortage could improve the bargaining position of wage labourers vis-à-vis capitalists. However, this could put pressure on the latter to increase prices in order to maintain rates of profit.

To the degree that inflation increases, price controls will also become more important. How price controls affect the distribution of income depends on which prices are controlled and how, and whether limits are imposed on wages or profits. Accordingly, the imposition and design of price controls in times of high inflation represent key issues within the class struggle.

Translated by Marc Hiatt and Marty Hiatt for Gegensatz Translation Collective.