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IS Rs1,400 the real price of a two-pound chocolate fudge cake sold by a good bakery? Not according to economists. This is the nominal price. The real price is what you are foregoing by buying this cake. This is known as the opportunity cost. For example, you could have bought seven kilograms of delicious mangoes, at the nominal price of Rs200 per kilo. This means that the real price of 1kg of mangoes is one-seventh of the fudge cake, or the real price of the cake is 7kg of mangoes. Instead of buying this cake, you could have bought a 6kg basket of fruit consisting of 1kg each of mangoes (Rs200) peaches (Rs150) cheekoos (Rs150) cherries (Rs300) apricots (Rs350) and apples (Rs250) at their current prices. I now ask a simple question: are we looting fruit-growers, or are they looting us? Is the baker looting us, or are we looting the baker?
The answer is simple: no one is looting anybody. Market prices are a strange phenomenon. They emerge because of many factors, including our preferences for cake over fruit, or vice versa, that translate into prices through equilibration between demand and supply of cake and fruit. If we keep on preferring cake over fruit, the relative price of the cake will rise. Baking will become more profitable compared to growing fruit. More bakery shops will emerge than fruit shops. The relative price has given a signal to entrepreneurs to invest more in designer bakeries compared to the natural bounty of delicious fruits. Is this a distortion brought about by our preferences? Fruit-growers are not rewarded as much as bakers. Look at our fruit-sellers and ourselves. We do not stop haggling with the poor fruit-seller standing with his pushcart over Rs10 or Rs20 per kilo of fruit, and yet buy a cake for Rs1,400 without demanding a discount.
The fact that I have chosen the example of cake over fruit indicates my own preference for the former. A poor (or a low-income) person would have thought about a more useful relative price; the real price of a Rs1,400 cake is 93 tandoori naans (at Rs15 per naan.) Do we ever think about this comparison when we buy a cake? Perhaps not. But economists base their analysis on relative prices or opportunity costs. We often lament the inadequacy of investment in our fruit sector. One reason (among many others) of this inadequacy is that relative prices of fruit are lower compared to the relative prices of cakes. If we all start preferring fruit over cakes, fruit prices will rise and consequently attract more investment. Fruit here is just an example. It could be any sector of our economy.
Some may object to this analysis saying that it will cause fruit inflation, and poor people will not be able to afford it. But if the income of the poor rises in this process (an increase in the relative price of fruit, and more investment, leading to more employment and income) fruit will become affordable. Hence, economic policies that are directed towards keeping prices at lower than market rates are inferior to policies that promote income, investment and savings. Should we always look towards the government to increase the income of the poor? Many a time, we can do this ourselves with simple changes in our behaviour and preferences. For example, if we stop the unnecessary haggling with the pushcart fruit-seller, it will raise his income. By not haggling, and trusting the fruit-seller regarding the price of his ware, we may lose Rs10 or Rs20. It will not mean much to us but add a meaningful amount to his income in a month.
We seldom think of a tandoor as an enterprise where naans are baked.
We think of bakeries as an enterprise where cakes, bread and biscuits are prepared. We seldom think of a tandoor as an enterprise where naans are baked. Have our tandoors been modernised compared to bakeries? While you may laugh at this question, the fact is that our tandoors are operating under much the same conditions as they did decades ago. They seem to have received much less investment compared to bakeries. Why? Simply because the relative price of bakery products is higher compared to tandoor products. Relative profitability is higher in baking cakes compared to baking naans. Our preferences are not only determining the price of products, they are also guiding investments. Can we increase the relative price of naan without increasing its nominal price? Yes, by reducing the price of cakes. How? By following the exact opposite of what Marie-Antoinette is said to have recommended: ‘Let them eat cake.’
Our tandoors’ main product is the standard naan. Poor tandoori bakers sweat over extremely hot, circular, grave-like pits and for a few seconds, their heads seem to sink into the furnace when they place the circular dough in the lowest depth or take out a crisp naan. They operate in inhumane conditions in front of us while we wait impatiently to receive our order. There has been no innovation in the production techniques of baking naan. Why? Because naan prices had been much more attractive for consuming rather than producing it. The relative price of naan is low and does not give rising profitability signals to investors. Consequently, even a slight improvement by changing the grave-like oven into a horizontal one does not take place. Are we living happily seeing the poor tandoor baker making naans? I am sure he is living in horrid conditions, almost the same as prevailed before independence.
So, what is the solution to this low-level investment trap? How to improve the living conditions of the poor baker? How to get investment in any productive sector? ‘Solution’ is a simple word. Many of us regard solutions as the key or set of keys that unlock the doors to prosperity. We live in a world that demands struggle. There are no keys to sidestepping this. We have all witnessed, experienced or heard about the last 75 years of struggle, which has given us some progress but not widespread prosperity. It is our economic policies of keeping prices artificially low in various sectors that has led to low investment. It is our bad policies that are looting and fooling all of us.
The writer is a former deputy governor of the State Bank of Pakistan.
Published in Dawn, June 23rd, 2022
