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Source link: http://archive.mises.org/4540/price-gouging-economics-and-ethics/

Price Gouging: Economics and Ethics

January 9, 2006 by

Alabama Attorney General Troy King was recently on Fox News boasting about how he would go after those gas stations that “profiteered” after Hurricane Katrina. He noted that many economists have criticized anti-gouging laws that interfere with the function of the free market, but his response was that it was Hurricane Katrina that interfered with the market. Furthermore, he stated that he is filing the lawsuits not on behalf of economists but for the elderly citizens who need gasoline for their cars in order to buy their medicine.

Alabama’s law, The Alabama Unconscionable Pricing Act, like other anti-gouging laws, arrogantly implies that it is the duty and moral obligation of sellers to provide goods and services–their property mind you–to other citizens (the buyers). The flip side of this is that the law arrogantly implies that it is the buyer’s right to receive the goods and services–the property—of other citizens.Mr. King and the other Attorneys General and supporters of this kind of legislation are either ignorant of the economics principles that are involved or they are taking advantage of the ignorance of the citizens. Anti-gouging laws that take effect when supply and demand changes take place act like a price ceiling. Forgive me if you are reading this and understand basic supply and demand, but humor me. Prices are determined by supply and demand.

The point is that if you draw a supply and demand graph, you will see two curves, one representing the seller’s side and the other one representing the buyer’s side. Yes, the “high” price you pay for that Starbucks coffee or that movie ticket or even that gallon of gasoline is partly your fault! One of the factors that in economics jargon “shifts” the demand curve is expectations. So, when Katrina victims acted on future expectations of supply disruptions, the demand curve for gasoline “shifted to the right” and contributed to the higher prices we observed.

When the government wants to interfere with the price system it has two choices–either implement a price ceiling or a price floor. A price ceiling is a maximum legal price that a supplier can charge (or a demander can pay) and a price floor is a minimum legal price that a supplier can pay (or a demander can charge). The result of a price floor is a surplus and the result of price ceiling is a shortage. Think about it this way: if something is made artificially (by the government) expensive of course buyers do not want to buy as much and sellers would love to sell more (quantity supplied greater than quantity demanded). The result? A surplus. And, of course, if something is made artificially cheap then buyers would love to buy even more and sellers do not want to sell as much (quantity demanded is greater than quantity supplied). The result? A shortage.

Okay, that is the basic economics in a nutshell. However, what many economists fail to do or are afraid to do, because it is not “scientific,” is explain the moral aspect of price controls and anti-gouging laws. These laws clearly violate property rights. Moreover, they are based on the philosophical principle that it is the duty of sellers to provide essential goods and services at a “fair” price. Well, why is it that it is immoral for a gasoline station or Home Depot to sell at “unconscionably” high prices after a disaster, yet it is perfectly fine for a prospective employee to sell himself for the highest price possible? Why are landlords evil for wanting the charge the highest rent possible, but it is pefectly acceptable and morally justified for renters to want to pay as little as possible?

This anti-capitalist mentality is not only bad economic policy that, ironically, can hurt citizens when resources are not efficiently allocated, but it is morally reprehensible. What fudamentally underlies these laws is the notion that consumers are entitled to certain goods and services and that the owners of the products being sold have a moral duty to make sure people get those goods and services.

The term that never gets defined is “fair price.” And what exactly is “unconscionable?” Is $1.00 a gallon ok? Why not $3.00? And, let’s say if the price goes up to $4.00 a gallon, then people will complain that they are being ripped off by greedy oil companies that are taking advantage of a disaster. The irony is that these people who now complain that gasoline should still be $3.00 a gallon (the price before the natural disaster) believed that $3.00 a gallon was a “rip off” when it became the new higher price. Ultimately, if you follow this logic, the only “fair” price to the complainers must be zero! It’s funny how these people change their tune when they are the seller!

The true free-market view, the view that respects private property and freedom, is that nobody is entitled to anything. The seller is not entitled to a high price and a buyer is not entitled to a low price. As long as the government does not interfere with the market process, the price that results is the fair price. Of course, the new price will be “too high” to many people, but that will do two things: 1.) It will give users of the good an incentive to economize on what they already have and it will force consumers to purchase only what they really value and 2.) It will give suppliers an incentive to supply more of the good in question. Remember, prices are signals that affect both buyers and sellers.

I have no doubt that many Attorneys General will continue to flood the courts with lawsuits in the name of consumer protection. Unfortunately, private property and true capitalism will continue to get washed away.
—–

Ninos P. Malek is an Economics graduate student at George Mason University in Fairfax, Virginia.

{ 27 comments }

Manuel Lora January 9, 2006 at 8:53 am

This kind of thing happened in New Orleans of course, for everything from roof repair to tree removal. Everyone was being “ripped off” *sigh*

George Gaskell January 9, 2006 at 9:21 am

We moved to Florida just in time to live through 4 hurricanes.

As a result of Florida’s idiotic price-fixing gouging laws, along with the protectionist regime that makes it a felony (!) to engage in “unlicensed contracting,” about half of the damage that was caused by last year’s hurricanes was still unrepaired by the time this year’s hurricanes rolled in.

A felony! For unlicensed carpentry!

Let’s say that, after a hurricane, some poor person is unable to afford the increased price of a tradesmans’ services. Thus, he must wait until the price returns to normal (which would happen, since many tradesmen would be attracted to the area by the premium wage rates). Let’s say this takes 6 months.

I fail to see the difference between this situation and the way things are now, where due to the SHORTAGE of labor, one must wait for 6 months to get a roofer to even answer your telephone calls. In fact, the current situation is worse, since the shortage affects everyone, including those with the greatest need who would be willing to pay the early higher prices. These are generally the people and businesses that provide the most important goods and services.

Consider Governor King’s mythic little old lady wanting to buy gas to get her medicine. With the increased demand caused by impending disaster, gas consumption skyrockets. At forcibly depressed prices, the gas is all purchased in a matter of hours. Now, due to the SHORTAGE caused by the price-fixing, Granny has no gas to buy, even if she were willing and able to pay the higher price for it.

Are the politicians just that stupid, or do they know they are causing these problems but just don’t care?

Damien January 9, 2006 at 10:55 am

This is the sort of facile economic analysis that gives the science a bad name in my opinion.

Rather than assuming curves on a blackboard have any applicability when you’re waist deep in water, let’s look at these neat demand and supply curves as they are described above. It’s been awhile since Econ 101, but if memory serves S&D curves are, at best, loose approximations for real life market operation. They are informative and descriptive heuristic models, but not prescriptive tools with perfect applicability under the best of circumstances, less so in a time of crisis and chaos.

Also, please bear in mind that the hinge in the scissors upon which the supply and demand curves cut are assumptions that are rather drastic, and as yet, unachieved market conditions that further reduce the efficacy of diatribes against price controls such as this, which are only pseudo-rigorous in the first place (s&d curves assume the preposterous conditions that markets contain only rational buyers and sellers, zero transaction costs, perfect information, etc. – obviously, none of which was present in Katrina).

Perhaps free market capitalists should first concede that the US is no where near a free marketplace, so let’s dispense with the rhetoric about artificial ceilings and shortages when it comes to a natural disaster. Do we not normally subsidize the suppliers of goods like food and oil to enhance their profitability, so what is the point of railing against price controls in the time of an emergency anyway?

Let’s think of it this way: an economist is dying of thirst in the desert until a Bedouin appears offering water, but in exchange for the water he wants the economist’s life savings, future earnings, first born and a lifetime of indentured servitude. Is this a fair price according to your mantra – market equilibrium at any and all costs? What would the economist’s indifference curves look like in this example, please rationally choose between death and servitude? What is the marginal utility of life for an economist when he has to choose between a glass of water and a life of futility, or impending death from dehydration with capital preservation?

Does anyone really think that even a radical, puritanical, unwavering free market economist can solve this problem with charts and graphs alone?

billwald January 9, 2006 at 11:32 am

These silly laws don’t matter because half the economy is sub rosa – and half the “contractors” in Florida are illegal aliens.

Michael A. Clem January 9, 2006 at 11:34 am

They don’t understand the unintended consequences because they don’t understand the production side of the market, and what influences production and supply. Like many, they simply assume produced goods already exist (in some kind of market vacuum, I guess), and that the only real problem is equitably distributing those goods.
And, as Damien shows, a little knowledge is a dangerous thing. ;-) The point, Damien, is that regardless of the less-than-free market that exists, price controls are exacerbating the problems, not helping. Crises are solved by people being able to provide the necessary goods and services–restrictions on people providing them make the situation worse, not better.

Vince Daliessio January 9, 2006 at 11:55 am

Damien’s and billwald’s posts illustrate excellently the effect of price-gouging and immigration laws. When confronted with a law outlawing a particular economic behavior, one has but three real choices; 1)Conform to the law, which negatively affects business; 2)Abstain from the market, which negatively affects business, or; 3)Ignore the law. Already, in the case of illegal immigration, we know the most likely outcome.

Damien compounds the problem by asserting that perfect competition everywhere is the only way any market can ever be free or fair. I answer that even in markets highly damaged by anticompetitive regulation there can still be a modicum of freedom, maybe not much, but sometimes enough to be significant. “The Market” is not some monolithic thing that can be controlled – it is simply the place and the moment where a willing buyer and a willing seller agree upon the price of a good that is amenable to both parties at that time and place. So what if it’s double, or even triple what the buyer is comfortable paying in normal circumstances? He is paying it HERE & NOW. And his payment of a higher price calls more goods into production as soon as other sellers become aware of the premium, rapidly decreasing the price. This is an approximation of how a market SHOULD respond to a sudden increase in demand. What’s your problem with that?

Vince Daliessio January 9, 2006 at 12:02 pm

Two more things;

1) the above example isn’t just an Austrian one – it is fundamentally the way all economists understand markets to work.

2) The correct response is not to pass laws turning businessmen into felons, but for others to see the temporarily high price not as something evil, but rather an opportunity to both make a profit and to help the buyer by competing, thus lowering the price.

Unfortunately, because the selling of gasoline for example is HIGHLY regulated by each state (at the behest of the gas dealer’s lobbies), it’s difficult to jump in and perform that function unless you already own a gas station in that market that has all the various fire, pollution, and other controls in place. I wonder what would happen if the state laws were changed to allow mobile refueling of automobiles by tankers…

George Gaskell January 9, 2006 at 1:39 pm

I am perplexed by the perfect-market-or-nothing sentiment every time I see it on display. It makes no sense for Damien and others to claim that because the market is not perfectly and completely free that we should therefore tolerate, promote or continue other rules and restrictions that make the market even less free. It’s a bizarre thing to say.

I have also gotten a little tired of the contorted and strained analogies that anti-freedom advocates like Damien expect us to swallow. Just look at the doomsday scenario he has painted — two lost souls, wandering in the lonely desert, nothing but necessity and distess as far as the eye can see.

To make the analogy something less than laughable, we’d have to make a few changes: instead of a lonely, parched desert-wanderer, lost in the wilds (having been dropped there seemingly at random), we would have to have about 6 billion or so people, all of whom constantly need the same commodity (albeit in different quantities).

And, instead of the one greedy water merchant holding out for his devilish price, free to extort the desperate man, we’d instead need to have many thousands of vendors, one parked on every street corner, all competing with one another for the privilege of getting some of the business, all of which is supplied by a worldwide distribution network designed to deliver the commodity to the many billions of people who constantly demand it.

So, when we think beyond this one, tiny, strained, bizarre analogy of the man needing water in the desert, we see that when prices go up due to temporary and isolated natural disasters, producers and consumers actually have the ability to alter their behavior. When prices rise, consumers will consume less (prompted to do so by the need to conserve cash for other necessities instead of topping off the Hummer). Producers will move more of the commodity into the affected area to take advantage of the higher price.

Both of these changes are beneficial, and beneficial on a broad basis. More importantly, both of these changes can ONLY occur when the price of the commodity in question is allowed to move freely.

When you restrict the price, you prevent the alteration of the behavior. Shortages and other inefficiencies result.

Yancey Ward January 9, 2006 at 1:53 pm

George,

It is no mystery why you see such arguments. It arises because such purveyors desire government intervention on a grander scale, and by setting a nearly impossible bar to decreased intervention, they hope to win the argument by default. You see such arguments frequently on sites like Washington Monthly, as you are well aware.

PR January 9, 2006 at 2:44 pm

It amazes me that people use “lack of perfect information,” “irrational actors,” and others as arguments for government intervention. As if those same things didn’t apply tenfold to political democracy.

tz January 9, 2006 at 2:48 pm

So, how much would you pay for morality? I’ll leave it with the thin definition of some kind of free market. There are too few citizens of Alabama who then prefer morality over immorality, so what is imposed is the preferred immoral variant. Too few would sacrifice for liberty, i.e. pay a price, so is it any wonder that it isn’t available?

Except that I see it as a confusion of two spheres which ought to remain separate.

The most efficient, market clearing price for an item might not be the most moral or “just” price.

Imprudence or short-sightedness on the part of the buyer (he or his church could have stored some extra gasoline, food, batteries for emergencies), or lack of charity on the part of the seller (charging old ladies who need medicine the same as SUV joy-riders) ARE moral problems, but they don’t have anything to do with S/D curves or whatever is done with the market.

To a certain extent, respecting property rights is also not a market problem per se, although the market will have problems if they aren’t respected. But if you have immoral and viceous people, why do you expect them to respect property when they don’t respect charity or prudence?

If people are virtuous, there will be no “gouging” even if the price goes up. If people are viceous, they are probably gouging even when prices are low (dilution, miscalibration).

Gouging is a moral problem, not a market problem. It cannot be fixed by distorting the market – at best you will shift from a shortage for some who can’t afford as much to a shortage for those who can’t get to the store before things run out – will the old ladies be there at 5am and wait 2 hours in a gas line?

With the internet, if someone gouges today, they can be out of business tomorrow (sans the regulations preventing competition).

So to come full circle, if someone has a reputation for actual gouging or some other problem where they are considered “immoral”, people will pay a premium to buy for someone who didn’t gouge, or at least was more charitable.

Virtuous people will pay for morality.

Lisa Casanova January 9, 2006 at 3:26 pm

Tz,
Raising the price of gas can actually ensure that that old lady in need of medicine, who probably has a hard time getting to her car and drives really cautiously way under the spped limit, will still find gas at the station when she finally gets there behind everybody else. So even keeping the price down out of some sense of virtuousness may not achieve the best ends. The relationship between prices and morality may be a quite complicated one.

Don May 18, 2011 at 11:21 pm

This is exactly what happened in Atlanta in 2009. Price controls were put on gas so low income people literally sat at the gas stations waiting for the gas trucks to show up and then filled up. By the time I got off of work, even though I had a pocket full of money, there was no gas left to buy. I had to call AAA to bring me a gallon or two to get home on. The harmful affects of price controls fill volumns. Anyone advocating them simply doesn’t understand what they are talking about. And the “fairness” argument fails the test.

Roy W. Wright January 9, 2006 at 3:26 pm

Let’s think of it this way: an economist is dying of thirst in the desert until a Bedouin appears offering water, but in exchange for the water he wants the economist’s life savings, future earnings, first born and a lifetime of indentured servitude.

First of all, it would be extremely unlikely in such a situation for exactly one Bedouin to appear, rather than more or none. If more appear, the price will most likely drop substantially. If none were to appear, you’d be dead, and such a possible outcome prompts me to say that the water is worth your life savings, etc., if you value your life. But that’s your choice to make, under free conditions.

Of course, that hypothetical situation doesn’t apply one bit to “price gouging” in disaster-struck areas, since such disasters are highly publicized and there are profiteers aplenty.

hz January 9, 2006 at 3:44 pm

From TFA:

Furthermore, because the gasoline came from an already existing supply of gas that the stations had previously purchased, the increase in prices they charged to consumers was not attributable to an increase in the costs of the gasoline in question.

Hilarious! I look forward to Attorney General King going after all those unscrupulous people selling homes in Alabama for far more than the materials and labor cost to build them in, say, 1980.

Vince Daliessio January 9, 2006 at 3:49 pm

Let’s not forget – after Katrina, Wal-Mart and others sent truckloads of water and ice to the disaster-stricken areas in Louisiana, FOR FREE – FEMA turned them away. This is a pure example of how the putative government ideal is worse even than the alleged free-market gouge.

Sasha Radeta January 9, 2006 at 4:20 pm

I feel it’s necessary to revisit this old and often forsaken document called the United States Constitution.

_________________________________________________

Amendment I

“Congress shall make no law… abridging the freedom of speech…”
————————————————-

A market is an arrangement through which buyers and sellers meet and COMMUNICATE for the purpose of exchanging goods and services at mutually agreed upon prices. From basic principle of non-slavery (self-ownership), we derive this freedom of speech. A seller has a constitutional right to express himself however he/she wants to. Seller has a right to say that his/her loaf of bread costs one trillion dollars. You may laugh at him/her, or think: that person must be crazy. Or you may to convince him to charge you what you are willing and able to pay. But what kind of right do politicians have to commit such an act of aggression on private property, as to infringe on someone’s right to manage their own property and to freely express themselves, without committing any kind of aggression on someone else’s property rights?

Even though the Article I, Section 8 was self-explanatory, the founders (correctly) felt a need to provide additional guidelines and interpretation in The Bill of Rights.

_________________________________________________

Amendment V

“…nor shall private property be taken for public use, without just compensation.”
————————————————-
This amendment defines the scope of “promoting the general welfare (well-being)” the founders referred to. Forced charity with the taxpayers property does not provide any “just compensation” to a taxpayer, hence it’s unconstitutional.

_________________________________________________

Amendment XIV

“…nor shall any state deprive any person of life, liberty, or property, without due process of law; nor deny to any person within its jurisdiction the equal protection of the laws.
————————————————-

Whether we like it or not, this amendment provides that the Bill of Rights protections extend to the states and their legal systems. Since so-called “price gouging laws” represent a violation of the Bill of Rights, they are as constitutional as “Jim Crow laws”.

.

Crosbie Smith January 9, 2006 at 5:10 pm

Wouldn’t it be better to leave “fair price” undefined? The important question is: Is it right stop two people trading when they want to? I’m sure most readers of this site would say it isn’t.

Damien may have a point when he says price curves can tell us nothing about “fairness”. I will leave fairness aside for a moment. Suppose I was dying of thirst, and suppose a Bedouin did offer to save my life, in exchange for a lifetime of servitude. If the Bedouin should ride off into the desert because the state Attorney General threatened him with anti-gouging proceedings, I may then die of thirst. The Bedouin’s actions may not have been fair, but now I’m going to die!

Okay, so that’s a ridiculous scenario, but so was the original.

Sasha Radeta January 9, 2006 at 5:20 pm

It’s not so original. Richard Epstein included it in his fifth of six basic principles of law.

1. Individual are self-owners;

2. Individuals may acquire unappropriated property;

3. Individuals may make contracts with other people;

4. The law of tort shall redress violations of individuals such as murder, rape, theft, robbery, and fraud;

5. Private property may be violated only when there is overwhelming necessity;

6. Whenever government violates private property, whether by regulation or outright taking, it must compensate the owner

The solution is to help yourself in a life-or-death necessity, even if it means breaking the law (as long as you don’t make a damage that can’t be recovered, like killing someone), and than you owe a compensation to that person after you survive.

————————————————-

Logic actually suggests that an average Bedouin will rather give you a credit than watch a potential customer die or risk an imminent danger from a desparate individual.

Sasha Radeta January 9, 2006 at 5:29 pm

If there is a more frequent traffic through desert, Bedouins will be attracted by a potential profit and start competing with one another, lowering the price of their help. This actually happened during the Holocaust in Central and Eastern Europe.

If there’s no traffic and you started that trip for no reason, wouldn’t it be “fair” that you pay some kind of price for that kind of behavior. When the government starts subsidizing people’s stupidity, we can only expect more irresponsible behavior at society’s expense.

Roy W. Wright January 9, 2006 at 7:36 pm

If there’s no traffic and you started that trip for no reason, wouldn’t it be “fair” that you pay some kind of price for that kind of behavior.

I was going to mention that, too.

Paul Edwards January 9, 2006 at 10:03 pm

I was somberly reading along this article when, without notice I came across the title of the legislation “The Alabama Unconscionable Pricing Act” which unexpectedly forced me to laugh out loud at the irony. It’s a wierd thing when our elected criminals, err, politicians, entitle their legislation this way. Oh well. It was good for an unexpected laugh.

Paul Edwards January 9, 2006 at 10:17 pm

Tz, i agree with you here, “if someone has a reputation …where they are considered “immoral”, people will pay a premium…” to deal with someone else. And if i am following your thrust, i agree with you further that only in a free market, unmolested by the coercive intervention of state regulation, can the true character of such consumers be known. Only in a free market can the consumer act purely in accordance with his principles or in accordance with his pocket book as his moral fiber and personal circumstances dictate.

David G October 8, 2007 at 5:36 pm

Wow! you hit that one out of the park, Ninos! That’s some legit basic Microeconomics. Guess what? I just made an economic decision right now. I’m wasting my time writing this comment instead of writing a summary for your homework due tomorrow because for some reason, I feel the opportunity cost of not writing this comment would be greater then just writing my summary and moving down the Internet Reading list you posted. See you in class tomorrow

Michael Jordan July 20, 2010 at 8:20 pm

This article sucks dick. Get a life.

Ninos Malek July 20, 2010 at 11:31 pm

Dear Michael, thank you for taking the time to read my article. I would expect something more thoughtful and less crude. But again thank you. And not sure why so angry with my writing? It’s just an opinion.

Ninos Malek July 20, 2010 at 11:30 pm

Dear Michael, thank you for taking the time to read my article. I would think a man of intelligence and class could write something more thoughtful and less crude. But again thank you. And not sure why so angry with my writing? It’s just an opinion.

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