In Defense of Gouging

C. C. Kraemer defends the practice of “price gouging” during times of crisis (like hurricane Isabel), and he gets it exactly right, so I’m rather surprised by Tyler Cowen’s more skeptical take. Kraemer’s basic point is that higher prices induce suppliers to bring more of the scarce good – generators, batteries, flashlights, etc. – to market. Tyler responds by pointing out that, in the short run, the supply is fixed – but then he immediately offers the obvious counterpoint, which is that “in the long run the economy will stand readier with emergency flashlights.” Exactly so, and this seems to me a decisive argument. In order to stock generators and such, shop owners have to take up valuable shelf space that could have been used for other items. The added profit they can reap during times of crisis is the financial reward that compensates them for making sacrifices during ordinary periods. A policy that clamps down on “gouging” during a crisis makes it less likely that necessary items will be available during the next crisis. Also, as Kraemer notes, the higher prices attract suppliers in non-crisis regions to transport their goods to the region where they’re needed most.

There is another economic argument in defense of raising prices during a crisis. Even if the higher price does not attract greater supply to the market, a higher price for the fixed quantity assures that the goods are allocated to their highest-valued uses. When the price is kept low, the first consumer to walk in the door is more inclined to buy a large quantity when a small quantity would do. Perhaps he’ll buy bottled water not just for drinking during the hurricane, but for watering his indoor plants. As a result, the next consumer finds himself unable to buy water for drinking, even though he’s willing to pay much more than the fixed price.

One more defense of price hikes during crises is that it encourages people to think ahead. If you live in a hurricane-prone region, it makes sense to have a stock of fresh water and batteries on hand instead of rushing to the store and fighting the crowds at the last minute. When I lived in Washington, D.C., I made a point of buying umbrellas when it was not raining. To the extent that people think ahead like this, the magnitude of price hikes during crises is dampened because the demand is lower.

So why does Tyler oppose such a policy on “libertarian freedom grounds” alone, when strong economic grounds exist as well? His point seems to be that gouging creates resentment, and “not wanting to be gouged is a preference too.” Of course, the desire not to be gouged may be no different from the standard desire to pay a lower price, in which case the argument carries no weight. But the resentment may also play the added role of punishing gougers by depriving them of future sales (of the same goods and other goods they sell) in non-crisis periods. This, Tyler suggests, is a desirable norm because it keeps the gouging in check: “our current norms help keep our suppliers in line and limit their ability to defraud us.” While there is truth to this point, it does not follow that a law is needed to reinforce the norm. The resentment does the job on its own, by forcing suppliers to take into account the lost trust and good will resulting from steep price hikes, while not putting them in the legal straightjacket of never raising prices during a crisis.

It is true, as Tyler says, that we can critically evaluate whether stronger or weaker fairness norms would be desirable. The more competitive are the markets in question, the less important such fairness norms should be. Why? Because when there is competition among suppliers of emergency provisions, a supplier who raises his price more than is necessary to compensate for stocking costs will lose out to other suppliers – either immediately or during the next crisis. In more monopolistic situations, by which I mean situations where both actual and potential competition is weak, a stronger norm might be necessary. (This may be the point of the Mankiw/Akerlof paper Tyler cites, which I can’t seem to access.) But the broader point is that, given the strong economic defenses of price hikes during crises, it seems wiser to rely on flexible private norms over inflexible anti-gouging laws.