April 30, 2009

Kenya: Price Controls are in!

Zeddy Sambu, a business journalist in Kenya reports on their government's efforts to save consumers from starvation in the face of a draught. According to her, their Catholic Church leader, and many different leaders in the agricultural branches of Kenyan government are outraged over failure of tarrifs on foreign wheat to protect starving consumers from high prices. Zeddy reports that they are eager to staunchly domestic wheat production and save the country from starvation. Instead of simply stating the facts as Zeddy did, to tell readers about the government's plans, her article would've benefited enormously from economic models of monopoly and perfect competition. She may have been able to highlight that aside from the Kenyan Government's proposed solutions to high prices, insight from microeconomics would provide them with a whole range healthier and quote possibly more effective solutions.

Zeddy reports that a draught in Kenya recently has made it more difficult for wheat growers to produce and sell their product to local millers. The draught has prompted them to raise their prices, as an economist's model of a firm in perfect competition would certainly tell us. She takes quotes from the leaders of their argricultural sectors to verify this. In turn, her article says that millers, facing this price, have resorted to buying wheat for flour through imports at much lower prices than local growers in draught season charge. Economically, not alot is missing from this report. It says that because import prices for wheat were much much lower than local wheat, millers resorted to the lower cost capital input. What her report does miss is that the millers must have a certain degree of monopoly power (can hold price well above it's cost of production) to be able to purchase wheat at a lower price yet still charge a dangerously high price for flour. These high prices, according to the report were the reason for government action in the first place. With this monopoly power, the millers can take adavantage of starving consumers who want to make bread to feed their famalies. There is the real reason for the people to complain.

To solve this, according to Zeddy, the Kenyan government has tried a number of things. The first attempt to regulate the milling industry was a 35% tarrif on imported wheat. Their hopes were to discourage millers from buying at a low price and selling and high and buy more domestically-produced wheat. To further propogate the effort, the government required all wheat growers to bring their harvest to market to be sold to the millers in government stores. It wouldn't be surprising to an economist that these measures did more harm than help.

Had Zeddy asked an economist what he thought of the Kenyan government's decisions, she may have been able to provide the article with a description of their problem's solution. The first place they went wrong was to impose an import tarrif on wheat. Removing it would have the effect they desire. If there tarrif did not exist, this would mean very large economic profits for those firms importing to Kenya, because of the large demand for bread and wheat. If these firms were encouraged to import, or even move to produce domestically, as models would tell us, the market for wheat would become more competitive and help keep the prices consumers want. Furthermore, if a more competitive wheat market caused prices to drop, it may encourage more milling firms to enter the industry (domestically or in imports) and drive down the price for flour. The government's movement to make millers buy domestically, also, would simply, as a quote in the article indicates, force millers to charge even higher prices for flour. Removing the tarrif, or even imposing a price ceiling on the millers where price equals the amount millers would be sell a given output and consumers would be willing to buy it.

Such analysis of perfect competition and monopoly would've provided Zeddy with a proper economic solution to Kenya's price problems.

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