It’s easy to overlook skeptical issues that don’t involve the paranormal or scientific. However, political rhetoric (be it on the left or the right) is full of wacky claims and credulous belief when it comes to issues in economics. This quasi-rant was inspired by a flyer that I received recently, handed to me by a Canadian Federation of Students representative on campus. The flyer was a call to arms to protest the upcoming fee hikes in TTC fares. Now, as a resident of Toronto, I have no great love of the TTC, and I definitely don’t believe that management of our city’s transit system has been a shining exemplar of efficiency, but I take exception to the idea that an increase in fares can be considered ‘unfair’.
In order to understand why this is the case, it’s important to understand why prices go up. All businesses, whether government run, government regulated, or completely private, operate on the same basic principle: there are certain costs to providing a good or service (fixed and variable costs), and those costs, combined with societal demand for the good or service, determines the price that the company will charge. At the very least, the price that a company charges (plus any public subsidy) has to cover the costs of production in order for it to be worthwhile for that company to continue producing the good or service. This means that when the costs faced by a company go up, the price that the company charges also has to go up*. The TTC has to deal with unions demanding higher wages for its employees, rising fuel and electricity costs, a decaying infrastructure, demand for increased capacity due to population growth in the downtown core — and all of these things are placing an upward pressure on the operating costs of the TTC. It’s obvious that the TTC is going to have to start charging more — or receiving massive subsidies from government* — if it wants to stay afloat.
And so that raises the question: if the price has to go up, how do we know when the price increases are too large (i.e. when do price increases become unfair)? The problem is that this question cannot be answered in any meaningful way. Asking about ‘fair prices’ in a market economy is like asking what colour your thoughts are; in other words, it’s a nonsensical question. The fact of the matter is that the market can’t price goods or services according to fairness, it can only price them according to the available supply and societal demand. If demand for a good or service goes up, and the supply stays the same, the price is going to have to go up. You could attempt to freeze the price of the good or service, but given that labour and fuel costs are still on the rise, somebody would still have to pay for the cost increases, and regardless of which way you stack it, that somebody is going to be the consumer. The same thing applies if you try to limit the amount that the price can increase in any given year. Insofar as the price increases are not allowed to match the rising costs of providing the service, somebody’s going to have to pay the difference.
In times like these, people (read: student governments, politicians) like to fall back on the argument that the cost increases don’t match the inflation rate, and that’s why they’re unfair. But to make this argument is to grossly misunderstand what inflation represents. In an overwhelming majority of cases, the inflation rate that is being referred to is the Consumer Price Index (or CPI). The CPI is basically a measure of the increase in price of a set bundle of consumer goods over time. The purpose of the CPI is to give a close approximation to the cost-of-living increases faced by the average consumer in the previous year. The problem with comparing this rate to the TTC’s price increases is twofold:
First, and the larger of the two mistakes, is that of assuming that price increases should be governed by the inflation rate. However, this is to approach the concept of inflation backwards. Inflation rates are a measure of how much prices have increased from one year to the next, not a prescriptive measure of how much they should increase. To put this into perspective, as of last August, the 1-year CPI increase for all of Canada was -0.8%** (a decrease), due at least in part to the downward pressure that the recession had on energy and labour costs. However, not all parts of the economy suffered, and not all goods and services went down in price over the previous year. The reality is that the CPI tells us nothing about why certain prices fell, it only tells us what the overall trend was. This illustrates how patently absurd it would be for me to suggest that the TTC should lower its prices, just because the CPI fell. I could also get a completely different number for the CPI just by choosing to measure from a different month. The CPI, while a good indicator of consumer cost-of-living increases, is not a prescriptive pricing model for businesses.
The second problem is that the CPI is a measure of an entire bundle of goods spread out across the market. This means that it is not always the best measure of price increases in a specific industry. Because different industries deal with different inputs (labour, raw materials, textiles, etc.), all of which are constantly changing in price due to other external factors acting on them, cost increases, and therefore price increases, are going to vary wildly across sectors. For example, before the recession, demand for oil was particularly high due to large global demand and limited supply capacity. This resulted in the price of oil to rising more rapidly than most other goods. The same was true of food prices. Conversely, there are some goods that don’t face increased demand, or might even face a reduced demand (like American automobiles), where the price for that good will decline from one year to the next. Because no two sectors of the market are the same, it’s patently ridiculous to argue that their prices should increase (or decrease) in lock-step.
Though there’s undoubtedly more to be said on this topic, I feel like this is enough of a rant for now. If anybody is interested in exploring more topics in critical thinking and economics, especially on issues like ‘fair prices’ in market economies, I’d very strongly recommend the book Filthy Lucre by Joseph Heath. To echo his sentiment expressed in the book, it’s a shame that there aren’t more economically literate people on the political left. Despite the good intentions, student initiatives like these are bound to fail, if they can’t get the underlying economics right.
Also, happy Friday the 13th, everybody!
* Whether or not this is covered directly by consumers, or indirectly through government taxation is beside the point. The only way a government has of collecting taxes are through its consumers, or through its businesses, which in turn will pass that cost along to consumers.