Forbes Magazine published a column on September 23, 2016 by Jeffrey Dorfman, a professor of economics at the University of Georgia, “Price Gouging Laws Are Good Politics but Bad Economics.” The column is published in its entirety below; access it online here.
Price Gouging Laws Are Good Politics but Bad Economics
By Jeffrey Dorfman
A leak in a gas pipeline in Alabama this week caused a gasoline shortage in several states in the southeastern United States, including my home state of Georgia. Both luckily and unluckily for motorists in Georgia, the state has an anti-price gouging law. These laws, commonly employed by governors to stop price increases after natural disasters, make consumers happy but also stop markets from alleviating shortages. In that sense, they are good politics but bad economics.
There are arguments on each side of this issue, but the economics is pretty simple. If a hurricane knocks out power to a large area, generators are likely to be in high demand. It certainly seems unfair for Home Depot to earn extra profits by raising the price of generators they already happen to have in stock in their local stores. Unfortunately for those who hate the idea of what Jimmy Carter would have called “windfall profits,” limiting price increases in a time of high demand removes the economic incentive that would have motivated other people to bring in an additional supply of generators.
In simple terms, blocking profits on generators already where the shortage is also blocks new supply from arriving to rectify the imbalance between supply and demand. Given the opportunity to earn outsize profits, people in nearby areas might buy generators and drive them to where they are needed. Businesses would be willing to pay high freight charges to rush supply to the consumers clamoring for generators and willing to pay inflated prices. Anti-price gouging laws discourage such behavior, leaving the shortage in place.
Unfortunately, every economist would tell politicians that while some people will benefit from anti-price gouging laws, other people will suffer because of them. Artificially holding prices lower than it would take to balance supply and demand means that consumers lucky enough to buy some of the product in short supply get a better price than they would have without the anti-price gouging law. At the same time, holding prices lower than the market clearing price means that supply will run out and some consumers will have to go without.
Left alone, markets can sort this all out. If prices are raised above what people in need are willing and able to pay, the market will switch from a shortage to a surplus and prices will have to fall. Higher prices will make people conserve, not particularly easy with generators, but people can buy fewer gallons of gas during a shortage and a family can stay in one hotel room instead of two. Price gouging might seem like an evil side of economics, but it is also doing good by helping to better allocate the limited supply available when a shortage exists and to encourage people to supply more of whatever consumers want.
Laws against price gouging are really anti-consumer political theater. They look good on television, but gum up the work of the market and prolong any shortage that exists. Thus, while a few lucky consumers win when prices are held artificially low, many more lose. That is usually what happens when politicians meddle in markets, and anti-price gouging laws are no different.