Effects of Price Regulation

Effects of Price Regulation

2020
2020

The justification for government involvement in setting prices is the lack of effective price competition due to concentration and high entry barriers, which results in high prices for consumers and which harms the overall social welfare. Entry barriers that prevent new firms from entering the market often lead to excess market power and high prices, due to a simple reason: a company that knows a consumer cannot obtain a product from a competitor, can and therefore will use market power. This often results in high prices. In the same manner, approval for exclusive imports of leading brands significantly increases the importer's power and allows it to charge higher prices for its products. In such circumstances, price regulation is a direct intervention aimed to fix this inadequacy and to set a correct price. However, this "fix" is only partially successful and has harmful side effects. Thus, the list of the most expensive products in Israel (compared to the world) is led by price-regulated products (such as milk and eggs). There is evidence that price regulations and even price recommendations that are not obligatory by law create focal points (reference) and therefore make it easier for companies to coordinate prices. This phenomenon is not unique to the food industry. In this project, IEP aims (1) to examine whether applying a maximum price in the food market made it easier for retailers to coordinate prices which led to higher prices; and (2) to quantify the phenomenon and the economic cost to the Israeli consumer.

The justification for government involvement in setting prices is the lack of effective price competition due to concentration and high entry barriers, which results in high prices for consumers and which harms the overall social welfare. Entry barriers that prevent new firms from entering the market often lead to excess market power and high prices, due to a simple reason: a company that knows a consumer cannot obtain a product from a competitor, can and therefore will use market power. This often results in high prices. In the same manner, approval for exclusive imports of leading brands significantly increases the importer's power and allows it to charge higher prices for its products. In such circumstances, price regulation is a direct intervention aimed to fix this inadequacy and to set a correct price. However, this "fix" is only partially successful and has harmful side effects. Thus, the list of the most expensive products in Israel (compared to the world) is led by price-regulated products (such as milk and eggs). There is evidence that price regulations and even price recommendations that are not obligatory by law create focal points (reference) and therefore make it easier for companies to coordinate prices. This phenomenon is not unique to the food industry. In this project, IEP aims (1) to examine whether applying a maximum price in the food market made it easier for retailers to coordinate prices which led to higher prices; and (2) to quantify the phenomenon and the economic cost to the Israeli consumer.

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