Government Intervention in Venezuela’s Economy

Economic Commentary_1 The article: How can Venezuela be so rich in resources, but so low in supplies? By Douglas French/April 24, 2012 http://www. csmonitor. com/Business/The-Circle-Bastiat/2012/0424/How-can-Venezuela-be-so-rich-in-resources-but-so-low-in-supplies To what extend do a country’s natural resources explain whether consumer goods are on the nation’s shelves for people to buy. Venezuela is a prime example of this question.

This is a country having abundant natural resources for it is one of the world’s top oil producers and rich in gold and other minerals, also the rich soil and temperate climate allow the country for productive agriculture. However, there are shortages of staple products like milk, meat and writing paper. This commentary focuses on the main reason causing this problem in Venezuela that is over intervention of the government towards the free market. In order to maintain the level of consumer prices, the president of Venezuela imposed price controls by setting the price ceilings.

Government officials claim “companies cause shortages on purpose, holding products off the market to push up prices. This month, the government required price cuts on fruit juice, toothpaste, disposable diapers and more than a dozen other products. ” However, bad consequences of the price ceilings set by the government were inevitable in terms of shortages in supply, decreased market size, elimination of allocative efficiency and black markets. In figure1. 1, the original market equilibrium price under the intervention of free market is at Pe where the quantity demanded and the quantity supplied are equal.

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After intervention of the central government, a binding price ceiling is set and the new market price is created at Pmax where the quantity supplied is much lower than quantity demanded. The artificially low price has caused more demand for the product, thus creating a movement from Qe along the demand curve to Qd. At the same time, producers cut production in response to the lower price, moving down along the supply curve from Qe to Qs. The distance between Qd and Qs shows a shortage of the good in supply.

Because of this, now residents in Caracas are forced to rely on the once-a-week deliveries made to government-subsidized stores. Moreover, as figure1. 2 suggests, the gap between Qs and Qd creates a tension in the market. At Qs there are many consumers who would be willing to pay more than Pmax if Qs is on the market. These consumers may have a strong incentive to gain the goods and services they want on the black market. As a result, the supply curve will shoot right up at Qs and the price will raise right up at that point high on the demand curve.

This shows that some price ceilings may actually drive the price higher than the original equilibrium and can be just applied to the case of Venezuela. Also, setting a maximum price lower than the market equilibrium price will result in a decreased market size as some of the companies will be driven out of the market. The government setting prices are too low for companies to make money so they either curtail production or stop all together. As shown in figure 2. 1, initially the producer surplus of the private companies, in terms of profit, derived by firms is shown as the area from the initial market price line to the supply curve.

After price controls by the government, now the new producer surplus is shown as the area from the new price line to the supply curve which is smaller than before and this reflects a lower producer surplus, therefore a welfare loss in the society. In addition, the price ceilings eliminate an allocative efficiency in the country’s economy in a competitive market as it can only be achieved when the society produces enough of a good so that the marginal benefits is equal to the marginal, in other words, producer supply and consumer demand meet at a market equilibrium price.

Due to intervention of the government, price controls disenable society to get goods and services it wants most. As Times mentions, “some of the shortages are in industries, like dairy and coffee, where the government has seized private companies and is now running them, saying it is in the national interest. ” But the consequence of this action is that the government will turn the markets into monopolies as there would be only state ownership in these industries, so there are no competitions between various firms and consumers will not be able to acquire substitutes in the markets.

What’s more, while these industries are being completely controlled by the central planner and create state ownership of the factors of production in addition to the guide of Venezuela socialist government, it will result in the lack of individual property rights and incentive to achieve maximum efficiency in the use of resources which characterize private ownership. To conclude, Venezuela is a typically very rich in resources but very low in supplies, price controls in the markets as well as

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