By Zaldy Dandan – Variety Editor
KNOWING how prices are set is key to understanding how an economy works. It won’t make us more tolerant of high prices, but it will help us understand why they are rising.
Too often, we grumble about costs without understanding the realities of producing and delivering goods in small, remote island communities with limited populations.
A common complaint, for example, is that a small bottle of Ginebra San Miguel is “inexpensive” in Manila — about 70 to 90 pesos, or $1.17 to $1.50 — compared to its price here, which is about $6. But as I’ve told my friends, buying Ginebra here actually costs far less.
To get a 70- to 90-peso bottle in Manila, you would have to book a flight, take a taxi from the airport to the nearest store, then return to the airport and, if available, catch a flight back to Saipan. If you’re here on a CW-1 visa, you would also need to set an appointment with the U.S. Embassy in Manila and pay the $205 fee before returning.
In other words, if you’re based here, the real cost of a bottle of Ginebra from the Philippines is about $656.50. By comparison, the price on Saipan — about $6 — is actually a steal.
Now consider the cost of bringing other commodities and services to Saipan from the States or elsewhere in the world.
Oil is “cheap” if you buy it directly from, say, Saudi Arabia. But what do you think is the cost of safely refining oil so it can be turned into gasoline or diesel, and then bringing it to Saipan?
Did we ever, even for once, consider the costs of operating a gasoline station on an island in the Pacific typhoon alley — the labor, maintenance, safety measures, regulatory fees, taxes, lease payments and loan payments, among other expenses a station owner must cover just to remain in business?
The same is true for providing air transport to and from these islands with a dwindling population and a shrinking tourism market.
Do we think about all that? Probably not. It’s easier to call businesspeople greedy and demand that the government “do something” about “price gouging.” Like most of us, sadly, many politicians and elected officials are just as eager to blame “capitalists” or “capitalism” for how a market-based economy works.
There is no single “correct” or “fair” price for each of the commodities and services we need. Prices vary depending on where we are — our economic, geographic and demographic realities, as well as the government policies that shape trade and business.
As economic professor Pete Boettke has noted, prices are neither set in stone nor arbitrarily fixed. “Instead, they emerge from real exchanges. When the price of [oil] rises, it is because buyers and sellers are competing for a limited supply. This price increase signals something about relative scarcity. It also provides an incentive to adjust consumption and conserve the resource, to look for a substitute, to increase production and to innovate.”
The only practical “solution” to items or services that are “expensive” is to buy less of them. Another “solution” is for the government to subsidize them. But subsidies cost money — where do you think the government gets it?
Governments can lower business and import costs, but doing so often means confronting entrenched special interests that benefit from those restrictions. (See cabotage laws, the Jones Act, tariffs and other protectionist measures backed by powerful political blocs and lobbyists).
We will never grasp the true nature of prices if we view them as arbitrary or moral judgments rather than what they actually are: signals wrapped in an incentive.
In a free market, a price is a vital piece of telecommunication. When oil prices rise, we don’t need to understand the wars behind them — we just know we have to drive less. The price tells us what to do without explaining why. A “high” price is a signal that a resource is scarce and needs to be conserved or that more entrepreneurs should enter the market to provide it.
Another source of (righteous) confusion is the Labor Theory of Value, or LTV. Adam Smith endorsed a version of it, but it was Karl Marx who turned it into a creed. Today, many leftists spout it as if it’s gospel.
The LTV argues that the economic value of a good or service is determined by the total amount of “socially necessary labor” required to produce it. So, if it takes 10 hours to carve a wooden chair and five hours to bake a large cake, the chair should be twice as valuable as the cake. Price, in this theory, is merely a reflection of the sweat and time invested by the worker.
In reality, value isn’t “built-in” by the producer; it’s granted by the consumer. A bottle of water is cheap because it is usually abundant, but if you are dying of thirst in a desert, the price you’re willing to pay skyrockets.
According to the LTV, diamonds are expensive because they are hard to mine. However, if you happen to find a giant diamond sitting on the ground — requiring zero labor to “produce” — it is still worth millions. The value comes from its scarcity and the fact that people desire it, not the effort spent picking it up.
We can think of the economy as a massive, conductor-less orchestra. Prices are the sheet music. High prices tell producers: “We need more of this! Come make a profit here!” Low prices warn them: “Stop wasting resources on this; people want something else.”
Calls for price controls — such as rent control or anti-gouging laws — are like smashing the thermometer because we don’t like the temperature. By distorting the price signal, they weaken incentives to produce and conserve, causing shortages.
For free-market economists, prices are the only reason we don’t have to fight each other for every resource. Without prices to allocate goods to those who value them most, we would have to rely on political favor, black markets, long lines, or raw force. By suppressing the price, you don’t make an item more affordable; you make it unavailable.
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Zaldy Dandan is the recipient of the NMI Society of Professional Journalists’ Best in Editorial Writing Award and the NMI Humanities Award for Outstanding Contributions to Journalism. His four books are available on amazon.com/.
