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Mises Economics Blog

Concise Guide to Price Gouging

September 2, 2005 10:08 AM by B.K. Marcus (Archive)

6. Price Gouging

Price gouging -- charging higher prices under emergency conditions -- evokes strong emotional responses that are understandable but terribly wrong-headed.

In the words of economist Walter Williams, "passionate issues require dispassionate analysis." The passion generated by price increases for necessities in an emergency is just such a case.

Three lines of analysis demonstrate that "price gouging" is not only not offensive, but that preventing it would increase misery, and that it is even a desirable practice!

Let's take for example, the case of some hot item during an emergency, say plywood as in the aftermath of a hurricane. Before the hurricane, plywood was selling for the nationwide price of $8.00. After the hurricane prices of $50.00 or more may not be uncommon.

The first line of analysis should be the most meaningful for red, white and blue, freedom-loving Americans. If one person (the seller) has plywood and is willing to part with it for $50.00, it is because he would prefer having the money to having the plywood. If another person (the buyer) has $50.00 and is willing to part with the money for the plywood, it is because he would prefer the plywood to the $50.00. No one is forced to engage in this transaction, individual freedom is preserved in this voluntary exchange, and it results in a mutual benefit. Can anything be less objectionable than a free exchange of goods which results in a mutual benefit?

Secondly, a successful effort to prevent price gouging would harm the very intended beneficiaries in our example. With thousands of needs, there is a vastly increased demand for plywood. At the same time the storm has destroyed existing plywood (trapped under rubble, damaged, or lost) and made it exceptionally difficult to transport additional supplies into the area.

Preventing increased prices as a way of allocating the reduced supply with the increased demand would result in a more severe shortage, and plywood going to uses that are less than the most urgently needed ones. An example: If one could sell a sheet of plywood for a legal or socially-stigmated maximum of $8.00, he may well decide to keep it for some relatively trivial use rather than part with it for a use considered by the potential buyer to be of the most urgent importance. At $50.00 the choice is likely to be otherwise. Misery is thereby increased by the implementation of measures to prevent price gouging.

The point should also be made that the price of a good is determined by the actual conditions of supply and demand. The willingness and ability of buyers and sellers to trade is what establishes any particular price -- before and after an emergency situation. In an emergency, the facts have obviously been changed. It is reactionary and a revolt against reality to demand a never-changing price forevermore in the ever-changing world we inhabit.

And last, the desirable effect of successful "price gouging" would be in the higher $50.00 price motivating sellers to increase the supply of plywood reaching the citizens in need. The fact is, the cost of sending goods into a disaster area is dramatically increased because of the damage. Trucks now take longer to reach their destination -- time is money after all -- the likelihood of driver and rig being trapped within the affected area is another increased cost, and the prospect of looters seizing merchants' goods has also increased. All of these and other factors have the effect of discouraging shipments at the old $8.00 price; the supplier could do just as well in any other area. The increased price resulting from the misnamed price gouging should be harnessed to encourage the needed supply -- it is one bit of salvation disaster victims can scarcely afford to do without.

None of this analysis is intended to disparage the heroic efforts of charitable relief agencies, only to pause to consider that in addition to the relief efforts, higher prices are themselves a necessity to assure an increased flow of goods in time of need. These higher prices are not a matter of what is fair or unfair, regardless of anyone's initial gut reaction, but a matter of what is, given the actual facts of the situation.



The Concise Guide To Economics © 1995, 1997 Jim Cox

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Comments (20)

  • Aaron Singleton

    Information like this is so necessary. The media and the political establishment do so much to paint market processes as evil, calloused, and self-centered. Hopefully sites and works such as this can make some small difference.

    Published: September 2, 2005 10:31 AM

  • Yancey Ward

    Though I agree with your essay completely, you will never convince even 5% of the population that it is true.

    Published: September 2, 2005 10:43 AM

  • Bill R.

    I think that if we get on message and comment boards (other than those that are explicitly free market) we may be able to convince one or two people at a time. We all frequent boards and sites related to our professions, not all of us are economists, if we try to spread the word where we are, we might have success. Here are some of my recent efforts at a site intended for insurance professionals.

    http://www.insurancejournal.com/comments/?a=/news/southeast/2005/08/30/58921.htm&c=30161

    http://www.insurancejournal.com/comments/?a=/news/southeast/2005/08/30/58921.htm&c=30528

    http://www.insurancejournal.com/comments/?a=/news/southeast/2005/07/25/57555.htm&c=27413

    http://www.insurancejournal.com/comments/?a=/news/southeast/2005/07/25/57555.htm&c=27443

    http://www.insurancejournal.com/comments/?a=/news/southeast/2005/07/25/57555.htm&c=27446

    Published: September 2, 2005 11:08 AM

  • L. Luhrman

    I think this is a shameful argument. In a time of disaster, most people are ill-equipped to afford 'what the market will bear'. Following your argument, only those with reserves of money will be able to afford to get the things that are needed to survive and recover from a disaster, and those who for whatever reason live paycheck to paycheck are left out in the cold. Just look at all those people in New Orleans. Most have only the clothes on their backs, and it would be shameful to offer them a bottle of water, but only if they could pay you $5 for it. Also, I have seen the price of gas go up at all the gas stations around me, as much as three price increases between the morning of 8/31/05 and the evening of 9/1/05, a total increase of 57 cents a gallon. I know this station has not received three deliveries of gasoline in this time. I will remember this. This company and all gas companies are losing goodwill, and consumer choice is driven by goodwill. Losing goodwill can cost a business more in the long run. By not raising prices when there has not been an increase in cost, that helps to build, or even create, consumer loyalty. If a consumer 'speaks with their wallet' after the disaster has passed, they could very well lose money in the future. Just something for 'price gougers' to consider.....

    Published: September 2, 2005 11:23 AM

  • Artisan

    Besides, there's a limit to that price increase when the scarcity is relatively brief, due to the wish of a seller to preserve his good image...
    Around year 2000 in fact, I was trapped in the middle of the French countryside with just one station still delivering gasoline 50 miles around. Angry truckers protested the gasoline tax by blocking all the main depots in the whole country for a week...
    That station sold gas for the normal price till the end though. If they hadn't, they would have lost their usual customers after the crisis.

    Published: September 2, 2005 11:26 AM

  • Artisan

    OOps, it's interesting. Another post got just registered before mine. Even though Mr. Luhrman doesn't agree, he precisely confirms my own free market point through his actual similar experience it seems!

    And yet I'm sure some people can be despicable beyond free-market consideration of course...

    Published: September 2, 2005 11:36 AM

  • Bananas

    As far as the gas situation, no station owner charges more than they can get away with. It is a silly argument to make.


    Gas stations make their money on the stores inside, not on the fuel they offer. No owner is going to raise the price up putting himself out of the market for people to stop in the store to shop. Owners will keep the profits on gas as low as possible to entice people to get in and spend their dollars.


    As for gas rising over night by $.40, you need to understand the reasoning. Say you get 1000 gallons of fuel in on monday for $1.00 a gallon. You will turn around and start selling it at $1.01, to make a small profit. Now, say early tuesday, you have sold half, but you get a phone call in saying the price of gas has gone up $1.10. As the owner, what are you going to do? You are going to raise the price of the product to $1.11 so you can cover your costs of purchasing the new fuel are offset. You haven't received new fuel, but you are expecting the price to rise and you need to cover your bases to be able to afford the new fuel. This is how it goes, by the book. Owners will minimize the price jumps because it falls back on getting people into the stores, but they must raise prices to cover costs.

    Published: September 2, 2005 11:43 AM

  • Yancey Ward

    L Luhrmann,

    Goodwill is taken into account by any merchant, however, those without the means to buy a needed item at the offered price are dependent on either others to buy it for them, or on the sellers to discount it. If you cap the price for items that are in shortage, however, you extend the problem to those who could have paid the higher price, but are now dependent on someone else to actually sell them the item at the capped price. If there is no incoming supply, then the capped prices inhibit the transfer of items between those who need them and those who can part with them. In any case, capping a price can only decrease the incoming supply. One may judge that incoming supply isn't going to be timely enough to matter in an emergency, but officials never seem to think the problem through deeply before resorting to caps and outright confiscation.

    Published: September 2, 2005 12:50 PM

  • Bill R.

    I simply love emotional attacks like "that's a shameful argument" when we're dealing with an economic issue. L. Luhrman, let's look at what happens if the price of water or gasoline at the convenience store is locked in at pre-catastrophe prices. That bottle of water remains at $1.09 and you are mildly thirsty, and get to the station before Bananas, Artisan, and myself do. You have enough money to buy seventeen bottles, so you do - having no disincentive to do otherwise. I get there before Bananas and Artisan, so I likewise buy more than I need, simply because I can afford it. Now the shelf is empty, and Bananas and Artisan remain thirsty. There's not even any water for the owner of the store to donate to them, because it has all been bought. Additionally, the lack of increased profit margins discourages entrepreneurs from bringing new supply, so the shelves will stay empty longer.

    IF the price increases, you and I have disincentives to buy more than we need, which preserves water for other users (like the late-arriving Bananas and Artisan). Suppose Artisan (like most artists) is cash-poor - since there ARE reserves of water (because of the higher price) the owner of the store still has water to "donate" to charity cases like Artisan. Additionally, the higher profit potential will incent businessmen to ship more water there, or maybe even incent people to ENTER the business of disaster shipping. As more people enter, the price is driven down.

    In market cases of "price gouging," the high price NEVER persists. The profit attracts entrepreneurs who bring greater supply which drops price.

    The choice is simple: allow the market to work, which involves spiking prices followed by increased supply, or don't allow the market to work, which involves low prices but a shortage of supply. Which do you think is more likely to satisfy the wants and needs of the afflicted? Which would YOU rather have? A five dollar bottle of water, or a dry throat and an empty shelf?

    Published: September 2, 2005 12:56 PM

  • Yancey Ward

    I forget who to credit for the original argument (probably Thomas Sowell), but it was the one that first convinced me that price caps were extremely poor policy. Bill R.'s reminds me of it since it deals with water. The thrust of it was this: Price caps do not limit the ability of those with the means to buy scarce items, it only increases their purchasing power irrespective of their need.

    Published: September 2, 2005 1:04 PM

  • Matthew Armstrong

    Yancey -

    That 5% might be too high of an estimate! There was an interesting article in the NYT yesterday about the poor performance of teaching economics to college kids. I've had to TA introductory courses and it's a mess, students just get bogged down in cost curves and end up learning nothing.

    Click here

    Published: September 2, 2005 1:39 PM

  • Matthew Armstrong

    url didn't work.

    http://nytimes.com/2005/09/01/business/01scene.html

    Published: September 2, 2005 1:40 PM

  • anarkhos

    We also should keep in mind that even in the very short term, gasoline and water can be shipped/trucked in from surrounding areas--provided there is an incentive to do so.

    Some may argue that the incentive of charity ought to be enough, but the problem is who needs the goods most urgently, and more importantly, by what means should they be distributed. Logistics of this nature become impossible without relevant prices, especially at the onset. Look at the typical disaster relief efforts governments try to organize in, for example, the tsunami disaster--piles of clothes dumped willy nilly on the street.

    Of course if people distribute 'necessities' by profit motive, they're labeled 'profiteers'. I'd rather take the profiteers over the bumbling idiots thank you very much!

    Published: September 2, 2005 4:01 PM

  • Ammonium

    You're so mean!!!

    You guys just don't understand. If prices are capped, there will be shortages. But shortages lead to hoarding. This increases demand. And we all know that demand creates its own supply, therefore price caps increase supplies and make everybody (but the greedy capitalist (better off).

    I can prove this with a game theoretic model. Assume a utility function...

    Published: September 2, 2005 10:24 PM

  • Yancey Ward

    Ammonium,

    LMAO!

    Paul Krugman might sue for copyright infringement if he finds out.:~)

    Published: September 3, 2005 8:15 AM

  • Maikel Van Zaanen

    Ammonium, are you for real? Do you seriously have a model that proves that 1) there is a large demand during a shortage(…) and 2) that companies are going to supply the demand by selling under market value, while they can sell there products at market price in other regions? I think there’s one vital variable missing from your model, namely government intervention.

    Published: September 3, 2005 11:30 AM

  • anarkhos

    Sigh, don't take a joke seriously unless you're going to make a bigger joke, lest you make a joke of yourself.

    Published: September 4, 2005 3:47 PM

  • Yancey Ward

    Come on, Anarkhos, be kind. Ammonium could have lifted that comment from any number of statist blogs (The really sad part is that a majority of people believe such reasoning!) in the last week. Had I not known him from previous comments, and he had actually finished the comment with some silly game situation, I would have had a hard time being sure of the joke myself.

    Published: September 5, 2005 9:26 AM

  • Maikel Van Zaanen

    Honest mistake. I didn't pick up the sarcasm, nobody knows when the next socialist Keynesian comes around in a time where economic fallacies are repeated time after time.

    Published: September 5, 2005 11:58 AM

  • rexcurrydotnet

    As an attorney, I cannot advise clients to ignore laws, even bad laws like "price gouging" laws.

    As a libertarian, I can damn the media for reporting the government's "1-800-narc" number to snitch to the government against free market economics. The media should drop the 800 number and stop being mindless mouthpieces for our police state. The media should show more respect to the public.

    If the media really cared then they would promote an 800 number to explain free market economics and why anti-gouging laws cause hoarding, shortages,
    poverty and suffering.

    The media are more likely to add an 800 number to snitch on hoarders, and pair it with the gouging line. That is probably the next step in the police state.

    Price-gouging is beneficent and anti-gouging laws should be repealed.

    True gouging is taxation. Government steals money and then pays people to build and rebuild dangerous housing in dangerous locations that cause injury and death. Then, everyone must weather the storm of socialism, as government sabotages the free market again with anti-gouging laws. Government creates total dependency on moronic government. It is the economic exploitation that is so characteristic of global socialism. Anti-gouging laws prove that catastrophes are too important to have government involved.

    One of the reasons why I am an undefeated media debate champion, is via my standing challenge to publicly debate any media mouthpieces about their
    coverage of "gouging."

    For additional articles about this topic see http://rexcurry.net/gouging-laws.html

    The media debate challenge (and the win) against a newspaper columnist at http://rexcurry.net/Ruth.html

    And see http://rexcurry.net/gouginglaws.html

    http://rexcurry.net/gouging.html

    Published: September 10, 2005 11:48 AM

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