Energy price, regulatory price distortion and economic growth: A case study of China

- The two-sector growth model shows that regulatory price distortion negatively affect the economy
- Based on the model, we empirically estimate the impact of the price distortion on output growth in China
- The price distortion negatively affects output growth in China during both the short and long term
- The argument of using price regulation to protect economic growth is undermined
- This study lends its support to energy price deregulation.

Energy prices are often distorted by government control, which is justified on the grounds that such control will help mitigate the negative impact of price volatility from oil imports, and thus positively affect the domestic economy. In this paper, we show in a two-sector growth model, that regulatory price distortion can negatively affect the economy, and then, based on the model, we empirically estimate the impact of the price distortion on output growth in China, using monthly, time series data from 2005M1 to 2012M12. In contrast to the usual argument for regulatory control to mitigate price volatility, we find that regulatory price distortion negatively affects output growth in China during both the short and long term, because it is robust to different measures of output and price distortion. Hence, the argument that using price regulation to protect economic growth is undermined, and subsequently, this study lends its support to energy price deregulation. A market oriented energy price regime may improve the resilience of the domestic economy to global oil price shocks.