To Tackle High Food Prices, Embrace Them

By Jordan Heim
Contributor
April 26, 2011

Food prices have recently been on a tear, grabbing headlines across the world. The UN Food and Agriculture Organization’s food price index has reached record highs this year and people are rightly concerned about what this could mean for the health of the world economy, not to mention the consequences it is having on the millions of people who depend on affordable prices for their food. Exasperated, many are looking to monetary authorities for answers. In the Wall Street Journal, one letter to the editor fumes, “we're all worried, frustrated and very angry at the prices we're paying every day for groceries, utilities and gas...is anyone at the Federal Reserve…hearing me?” These are legitimate concerns, but they are directed at the wrong audience. Central banks do not control the cost of living. They do not grow wheat, nor do they drill for oil.

Why then are people looking to central banks? Much of the confusion stems from the term “food inflation,” which is so often used in the press. Alas, this term is a contradiction in itself. Inflation, by its very definition, refers to the general price level; the instant you begin to refer to the prices of individual goods, you are talking about relative, not general, prices. To illustrate, if $10 could buy me two pounds of rice or ten pencils yesterday, but it can only buy me one pound of rice or ten pencils today, then there has been an increase in the relative price of rice. This is distinct from an increase in the general price level, where the prices of all goods—including both rice and pencils—rise in equal proportion. Central banks manage general, not relative, prices. If the Fed—overnight—was able to divide the value of all dollar assets in half, would the average worker have an easier time buying cereal? Certainly not. While the price of cereal would be cut in half, so too would her wages and assets; she would be no better off. The point is that central banks can do nothing to help reduce the cost of food. We should not look to central banks for blame, or help, when commodity prices spike.

If central banks cannot help us with high food prices, who or what can? The answer: relative prices. Relative prices are the lifeblood of a market economy. A rise in the relative price of a good encourages producers to supply more of it which in turn lowers its price. Contrary to popular belief the supply of food has considerable room to expand. Today vast swathes of arable land remain untapped, and there is also enormous potential for another “green revolution” to dramatically expand the productivity of existing farmland. While prudent government policy may play an integral role (by funding research for example) only markets can mobilize the resources necessary to dramatically expand food supply. It is crucial that policymakers recognize this.

Unfortunately, when commodity prices spike policymakers tend to respond by enacting policies designed to evade these market forces. There are several options that have proven popular with myopic legislators. One is direct food aid. This type of aid has been the mainstay of U.S. policy to the poorest countries, yet the evidence that giving people food today tends to starve them tomorrow is now too overwhelming to ignore. Another option is export controls. In recent years, many countries have opted to ban the export of certain foods entirely in hopes of suppressing their prices. If neither of these options strikes their fancy, policymakers can always turn to price controls. Long the domain of only the most economically self-destructive countries, like Chavez’s Venezuela, these policies are back in vogue. Recently, countries as far-flung as China and Serbia have imposed price controls, destined to once again demonstrate their futility. All of these policy measures exchange short-term gain for long-term pain. By suppressing price signals policymakers are suppressing food production, thereby aggravating the long-term problem of high food prices.

If policymakers are interested in feeding the poor they should give them cash or food vouchers, which allow high demand for food to stimulate higher production while maintaining support for the vulnerable. With tight budgets this may seem impractical, but the alternatives have proven to be far more costly. When the price of food rises, it sounds an inaudible alarm for producers to supply more of it. Policy measures designed to evade market forces are like pushing the snooze button on that alarm; you may get some peace and quiet in the short-run, but it doesn’t change the fact that you need to wake up. If policymakers ever hope to tackle high food prices, they must first embrace them.

Jordan Heim is a Master’s candidate at the Elliott School of International Affairs. He is studying International Trade & Investment Policy with a concentration in International Economic Policy Analysis.

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Comments

So, if the worlds leading producer of some agricultural staple suffers an economic downturn and subsequently loosens its monetary policy and increases fiscal spending to spur growth, creating more money for the same amount of output, and the price of domestic goods rises, this isn't inflation? Also, wages rise slower than prices, no? So, wouldn't this be a form of deman-pull inflation and a concommittent short term reduction in purchasing power?

I agree with your solution, but disagree with your treatment of food prices.

Anonymous,

I would certainly agree that the scenario you present is inflation. But you seem to be talking about what causes inflation which is an interesting question but is it not the subject of this article. This article discussed what inflation is and what it is not, it does not discuss what causes it. There is a debate in the economic profession as to whether or not demand-pull inflation exists (that is, whether food prices drive inflation), but there is no such disagreement over the definition of inflation.

My point was to say that central banks do not control the relative price of food, they manage the general price level. I am not arguing that the price of food does not cause inflation. (Though I take issue with the premises of demand-pull inflation, but this is a topic for another article altogether!)

I am sorry that I did not see this comment until now. If you have any questions, feel free to send me an email at jheim@gwmail.gwu.edu, I'd be happy to discuss further.

Best regards,

Jordan

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