I’m not going to write about the coronavirus because after the last three mad weeks of media overload I suspect most of us are over it. What I do want to explore is the seeming failure of our market system to allow the Law of Supply and Demand to do it’s thing.
That is, to send price signals to buyers so that they demand less as prices rise and more as prices fall. What we have currently seen in our supermarkets is prices being held below the level of equilibrium which inevitably has led to supply running out.
In part this has been driven by herd mentality, or mob mentality, which occurs when people adopt the behaviours of those around them. Farmers see it in sheep all the time. The psychology of the mob comes from the basic urge to follow, driven by a fear of the unknown.
It’s unavoidable, we all like to think we’re rational individuals but when someone looks up and starts running, most of us are inclined to follow. What might seem objectively like a bad idea begins to look quite good as a few more people around us join in, no one likes to be left behind or miss out.
Those with cupboards at home recently stuffed full of weeks’ supplies of toilet paper will understand what I’m talking about. But it’s when things escalate, and the mob moves from buying and hording non-essentials like toilet paper to essential life saving products like face masks and asthma medications that we have a real problem on our hands.
When vital safety equipment for medical workers is not available and essential over the counter medications needed to keep people alive have been brought and horded by the few, then in the current world of COVID-19, such behaviour will result in preventable deaths.
Economic theory tells us that in a perfect world of supply and demand, a market shock that spikes price’s will in time stabilise as demand drops and supply rises. The bigger the price spike the faster the brakes go on to end any panic buying.
When the market fails as we have seen in the supermarkets with their empty shelves, it’s the government’s job to step in and impose controls to ensure availability of supply for those who have the greatest need, just as they did with the use of ration cards during the war years. The cards were issued to ensure there was fuel for farmers and milk for mothers.
In the current situation if the government or the market was working, and people were rational, there would be no problem with availability of medical masks for our doctors and nurses.
But when the market spiked on the news of the virus, Australian consumers panicked and rushed to buy what the media was telling them was in short supply. What should have happened is as demand shot up, prices should have followed and panicked buyers would have reconsidered their need and/or the government should have stepped in and used its powers to ration supply.
In this current crisis the government has been slow to react when the market failed. It’s as if the government forgot that it still has Second World War powers to step in and take control of the market.
When supermarket shelves remained empty day after day it is a clear sign that prices were not responding to the demand signals. In comparison a visit to any weekend farmers markets would have shown stall sellers charging two or three times what the supermarkets were asking for toilet paper or eggs at the height of the frenzy.
Unlike the supermarket chains with their down, down, down approach, when demand spikes at the street level prices go up, up, up to match the market. Just as it does on the global market for the price of grains, meat, and dairy, it moves up and down by the second.
What we have been seeing in supermarkets across Australia is what the citizens of such bastions of socialism such as Venezuala, Zimbabwe and Cuba see year in year out. When price signals have been distorted via price controls they have ended up with permanently empty shelves.
We have just had something similar happen in our supermarkets, they left the normal weekly price on toilet paper, so with no price signals to slow demand the mob cleaned out the shelves.
In the real world there are only three ways to control unmet demand by the mob; queues, quotas or prices. The USSR under communism found queues worked just fine in restricting demand, those who ever visited Eastern Europe will recall the sight of empty supermarket shelves in the socialist nirvana.
During the Second World War the British and Australian governments managed limited supply by issuing coupons. As a quota control measure, it generally worked, but it worked even better for the black marketeers, just as it does today in those countries that attempt to control the market.
Post war our quota system morphed into the statutory marketing schemes for agricultural commodities which supposedly ensured food security and farm incomes. Potatoes, eggs, lamb, grain, milk were all set by government quotas, a system in Australia that survived until 2000 for milk and 2016 for potatoes.
Just how effective the marketing schemes were in supporting the various farming sectors is still hotly debated, it is strongly defended by those farmers that face an imperfect local market dominated by the big retailers.
The one thing that statutory marketing schemes did do was at least give growers who were reliant on domestic markets a single voice for negotiating on a more equal footing against the growing power of the two major retailers who have a vested interest in bypassing the economics of supply and demand.
The retailer’s approach to the market has been to use their duopoly powers to squeeze the supply side of the equation at the cost of the growers and the food manufacturers. It worked a treat in keeping prices low at the expense of farmers, but with no latent capacity when demand spikes industry is now very slow to respond.
When supermarket chains get so big that they can afford to hold down the price of a product be it eggs or toilet paper so that they run with empty shelves there is clearly something wrong with government regulatory settings that are supposed to encourage competition.
When demand runs high, economics tells us sellers will not let the shelves for sit empty for long, it’s not in their interest for their shareholders or their suppliers. Instead the retailers should be cranking up the prices to maximise profits and ensure demand equals supply. Consumers might not like it in the short term but it’s the only way to ensure supply equals demand in the long term.
In the global trading world, farmers know that when supply tightens up and the global wool price goes to $20 a kilo or lamb to $10 a kilo they benefit. Why has that not happened when shelves lay empty in supermarkets across Australia? The egg and toilet paper suppliers and all the other products in hyper demand should be making super profits for their suppliers, at least for the short term before the market rebalances itself and the big retailers go back to driving prices down, down, down.
Even for our economically illiterate politicians, this latest episode of the mob madly buying anything they could lay their hands on at prices below equilibrium leaving shelves empty for weeks should have told them that the domestic retail market was not working. Too much power in the hands of too few retailers has left us open to problems with potentially our own food security in the future.
No doubt this madness will come and go but the government should take heed if we want to ensure our supermarket shelves stay full during the current – and future – shocks to the system. We need to let price signals flow quickly to the consumer to curb irrational or selfish behaviour and encourage our farmers to keep up with demand.
Some will ask “What about low income households, how can they afford food when the price spikes?” The response has to be, “What about the poor dairy and egg farmer for the last decade?”
It’s not the farmers job to subsidise consumers but it’s been happening because of the power of the supermarket chains. If governments want to subsidise consumers when prices spike then the government can send money just as they have recently done with the $750 payment to pensioners and newstart recipients.
Outside the rich, we all have to buy rationally in the market place, carefully considering the price and compromising on quality or quantity. It’s how the market works and it works a treat. Certainly, the Russians and Chinese are not rushing back to a centrally controlled socialist economy with their memories of decades of empty shelves.
While supermarket shelves remain empty we need to ask hard questions of the Commonwealth Government on how they have allowed the Australian retail structure to be so devoid of market signals that, like North Korea, Venezuela, or Cuba, our shelves became as empty as those in a failed state.