Economics 101: Government tinkering with prices is like hiding all of the street signs

Governments constantly tinker with prices. Government people claim it's in our best interest, but price manipulation creates all kinds of unseen negative consequences.

Sometimes governments set price ceilings, mandating that the cost of something can't rise above a certain level. One example we see often is price gouging laws. In extreme cases, the government will even implement price controls. President Richard Nixon did this in the 1970s.

Sometimes governments set price floors such as minimum wages (After all, a wage is simply the price of labor).

Another example of price manipulation we see every day is Federal Reserve interest rate policymaking. The interest rate is the price of borrowing money. That means the Fed is literally engaged in price fixing.

The impact of government price manipulation

As economist Frédéric Bastiat made clear in his essay That Which Is Seen and That Which Is Not Seen, a good economist must try to account for the unseen effects of any policy. Sadly, most people aren’t good economists — and that includes a lot of economists.

It's easy to see the supposed benefits of wage and price controls. A minimum wage benefits workers who have jobs. Price gouging laws keep prices lower during a disaster. But what about the unseen impacts?

During World War II, British Civil Defense workers turned around and moved street signs to confuse German troops in the event of an invasion.

The U.S. Army recommends this same tactic in a 1978 manual titled Tactical Deception, Part 101.

“Change all traffic signs in the defensive area to confuse rapidly-moving attack forces.

It makes sense. Changing or removing basic points of reference certainly makes it more difficult to navigate.

In the same way, government tinkering with the price system makes it more difficult for markets to function.

Prices serve as the street signs of the market system. They make the efficient allocation of resources possible. Economist Thomas Sowell explained the fundamental role of prices in his foundational book Basic Economics.

“Each consumer, producer, retailer, landlord, or worker makes individual transactions with other individuals on whatever terms are mutually agreeable. Prices convey those terms, not just to the particular individuals immediately involved but throughout the whole economic system – and indeed, throughout the world. If someone else somewhere else has a better product or a lower price for the same product, that  fact gets conveyed  and acted upon through prices, without any elected official or planning commission having to issue orders to consumers or producers – indeed faster than any planners could assemble the information on which to base their orders.

The problem is that elected officials, bureaucrats, and central planners insist on issuing orders to consumers and producers anyway. They set minimum wages, price ceilings, and price floors. They subsidize some transactions and penalize others through taxation.

Generally, these central planners have noble intentions. They want to eliminate some perceived unfairness or right some perceived wrong. But in effect, they change the street signs. This causes chaos and confusion. Inevitably, we end up with misallocations of resources. The economy becomes less efficient. Markets cease to function properly. Society as a whole becomes poorer.

In effect, government action distorts, and in some cases, obliterates the price system.

As economist Ludwig von Mises explained,

“Prices are by definition determined by peoples’ buying and selling or abstention from buying and selling. They must not be confused with fiats issued by governments or other agencies enforcing their orders by an apparatus of coercion and compulsion.”

“Prices are a market phenomenon. They are generated by the market process and are the pith of the market economy. There is no such thing as prices outside the market. Prices cannot be constructed synthetically, as it were.

We tend to think of markets as some kind of mechanical, faceless abstraction. In truth, a market is simply the aggregate of all of our voluntary exchanges.

Mises explains it this way:

“The pricing process is a social process. It is consummated by an interaction of all members of the society. All collaborate and cooperate, each in the particular role he has chosen for himself in the framework of the division of labor. Competing in cooperation and cooperating in competition all people are instrumental in bringing about the result, viz., the price structure of the market, the allocation of the factors of production to the various lines of want-satisfaction, and the determination of the share of each individual.

So, when you break a market, you are effectively interfering with peaceful, voluntary associations. It harms real people, either forcing them to enter into transactions against their will or preventing them from engaging in exchanges they desire to make. It seems beneficial on the surface. But as Bastiat implored, you have to consider the unseen to get the full picture.