Not enough gouging

By Eric Crampton 15/10/2013 1

American conservatives rail (rightly) against legislation banning price gouging. The pretty standard economic case is hard to overturn: in a crisis, it’s really important to make sure that we provide incentives to bring scarce resources into a disaster area and to ensure that those scarce resources are allocated appropriately.

We can find some cases where anti-gouging legislation has done harm. The entrepreneurs who, at reasonable personal cost, tried bringing power generators to New Orleans should have been rewarded rather than prosecuted.

Mark Perry suggested that getting rid of anti-price gouging laws could bring substantial gains during crises:

Well, maybe if Home Depot, Sears and Lowe’s had been allowed to raise their prices to $1,000 (or more) this week to reflect the true value of gas generators following the hurricane, more people with children would actually have a generator right now because the retailers wouldn’t have sold out so fast!  And you really can’t blame the retailers for not raising prices, because they could have been charged with price gouging by the state of New Jersey.  So now gas generators are sold in the secondary market for market-based prices on Craigslist, where it is probably difficult for state officials to charge individuals with “price gouging.”
Bottom Line: The active market for gas generators on Craigslist demonstrates that government enforcement of “price gouging” laws doesn’t eliminate voluntary market transactions for critical items like generators at market-based prices, it just drives the market for generators into the informal marketplace on Craigslist, where market prices prevail.

Great in theory, but I doubt it has much effect in practice. Why? Matt Yglesias summarises:

Alberto Cavallo, Eduardo Cavallo, and Roberto Rigobon have an interesting paper that looks at the 2010 earthquake in Chile and the 2011 tsunami in Japan and finds that in both cases disasters led to widespread shortages of many kinds of goods but did not lead to higher prices. In fact, “prices were stable for months, even for goods that were experiencing severe shortages.”
Their research in Chile specifically suggests that firms feared sharp market-clearing price increases would lead to “customer anger” and thus departed in their strategies from what basic supply and demand economics would suggest.

Yglesias is right. After the Christchurch earthquakes, we really really really needed some petrol price gouging. Power was out on the east side of town, so all our stations were non-functional. The ones on the west side of town had massive queues, some were out, and nobody on the east side of town had any reasonable way of knowing where to go to get fuel if they left the east to get groceries and hadn’t enough fuel to get home. And everybody on the east side was running on fumes because commutes from downtown that normally take 20 minutes were instead a 4 hour nightmare. But NOBODY was hiking prices. In fact, they were doing the opposite. While prices were going up elsewhere in the country, they were held constant in Christchurch.

And so, sitting at a shopping mall on the west side of town after we figured out how to get out of New Brighton with all the bridges out and next to no fuel in the tanks, I posted a call for an emergency doubling of petrol prices, with the price increase going to earthquake relief rather than to the petrol stations.

I expanded on it here, after we were securely stationed in a house with working internet:

As for social solidarity – I totally agree with Keith that neighbourhoods coming together voluntarily to help each other out has been totally laudable. I can’t imagine anybody who’d think otherwise. But would that spirit of community have been broken if, on Wednesday following the quake, the following message had gone out?

Our critical transportation infrastructure has been badly damaged by Tuesday’s earthquake. We’ve strongly encouraged people to stay off the roads except in case of emergency. Unfortunately, many of our major roads remain completely congested, sometimes preventing emergency crews from getting through to where they’re needed. At the same time, the temporary closure of the Port of Lyttelton’s petrol terminal has resulted in a short term gap in petrol supplies. This will be solved in two days when the petrol tankers bound for Lyttelton have been diverted to Timaru and tankers have made it up from there. But we need people to show restraint during that gap. Despite our having urged such restraint, queues at those stations that have not yet run out of petrol prevail. We consequently have asked the major petrol retailers to impose a $2 per litre surcharge on petrol, with the surcharge earnings to be contributed to the earthquake relief fund. This measure will help to ensure that those who absolutely need petrol will be able to find it in a crisis. Only buy what you need to get you through the next two days. After that, the surcharge will be lifted. Know that your contributions are going to help your neighbours in Christchurch.

And so on, but with more PR. I just can’t see that temporary charge ruining social solidarity. Especially in the case where folks can see that the extra charge is going to the earthquake relief fund.

This isn’t a “screw the poor” thing. Is a poor person worse off having to spend $40 than $20 to get enough gas to get through a two day period, or worse off having to spend a whole lot of time in a queue for potentially no petrol at all? Recall that poor households are more likely to be single parent. Who’s looking after the kids while Mom’s queuing for petrol? Further, count the costs of uncertainty. Lots of folks had to be making lots of plans after the earthquake, many of which would be contingent on knowing whether fuel would be available and at what prices. Everybody who happened to have a quarter tank or less at the time of the quake had to bear a whole lot of uncertainty costs. Rationing by queuing effectively locked a whole pile of folks in a part of town with no services and no food because they couldn’t know whether they’d be able to find fuel to get home should they have left. Is that better?

Neither is this some crazy Eric libertarian thing: it’s technocratic. I’m positing a market failure – that it would have been socially efficient for the Christchurch petrol stations to have raised prices in concert, but that none would do it on their own because of hugely negative reputational effects because of public irrationality about the working of the price mechanism. Consequently, I proposed a policy solution that removes that reputation cost: government coordinating a temporary price hike with the collected excess revenues going to earthquake relief. I hate the idea of “targeted tax increase dedicated to some social project”. All manner of ridiculous redistribution schemes can gain support that way. But government coordination in this case could have helped; toss me out of the libertarian club if you like. It’s odd how the party lines have broken on this one. The libertarians have generally supported my proposed government intervention; the folks on the left who generally favour technocratic dirigiste solutions haven’t liked it.

I think this is a pretty general purpose technology. The major chains simply don’t hike prices in response to crises. They should, but they fear the reputational effects, and especially if their competitors keep prices down and run out. Why do they fear the reputational effects? Because a lot of consumers share the views of the folks on Keith Ng’s old post condemning my defence of price gouging.

Standing plans for various crises could have dedicated emergency taxes on supplies known to run out, with funds dedicated to relief efforts. Pretty hard to do it in the middle of an earthquake, but if it’s planned out in advance, it could work.

One Response to “Not enough gouging”

  • “American conservatives rail (rightly) against legislation banning price gouging.”

    And at the moment they are doing a pretty bloody good job of grabbing the short and curlies of the Great States of the US.

    I’d call that gross gouging. And not a very good advert for democracy frankly. I’m buggered if i can see that as a way to wake into a pleasant American Dream. Rather a rude awakening into a nightmare.

    But back to Chch. It would be simple to ration the petrol which I gather is what happened within and close to the city.

    I advocated at the time of the earthquake that if it was good enough for the govt to cap the payout to a govt decided valuation of your property, it should be good enough to freeze the selling price any plot of land within 50km of Chch to the same valaution date until folk had a chance to sort EQC out.

    They are certainly paying now. As we are with building supplies of course. Tried buying a piece of 4×2 – 2×4 – lately?