Wednesday, November 14, 2012

In Praise of Price Gouging



by Ron Paul
November 12, 2012

As the northeastern United States continues to recover from Hurricane Sandy, we hear the usual outcry against individuals and companies who dare to charge market prices for goods such as gasoline. The normal market response of rising prices in the wake of a natural disaster and resulting supply disruptions is redefined as “price gouging.” The government claims that price gouging is the charging of ruinous or exploitative prices for goods in short supply in the wake of a disaster and is a heinous crime  But does this reflect economic reality, or merely political posturing to capitalize on raw emotions?

In the wake of Hurricane Sandy, the supply of gasoline was greatly disrupted. Many gas stations were unable to pump gas due to a lack of electricity, thus greatly reducing the supply.  At the same time demand for gasoline spiked due to the widespread use of generators. Because gas stations were forbidden from raising their prices to meet the increased demand, miles-long lines developed and stations were forced to start limiting the amount of gasoline that individuals could purchase. New Jersey gas stations began to look like Soviet grocery stores.

Had gas stations been allowed to raise their prices to reflect the increased demand for gasoline, only those most in need of gasoline would have purchased gas, while everyone would have economized on their existing supply. But because prices remained lower than they should have been, no one sought to conserve gas.  Low prices signaled that gas was in abundant supply, while reality was exactly the opposite, and only those fortunate enough to be at the front of gas lines were able to purchase gas before it sold out.  Not surprisingly, a thriving black market developed, with gas offered for up to $20 per gallon.

With price controls in effect, supply shortages were exacerbated.  If prices had been allowed to increase to market levels, the profit opportunity would have brought in new supplies from outside the region.  As supplies increased, prices gradually would have decreased as supply and demand returned to equilibrium. But with price controls in effect, what company would want to deal with the hassle of shipping gas to a disaster-stricken area with downed power lines and flooded highways when the same profit could be made elsewhere?  So instead of gas shipments flooding into the disaster zones, what little gas supply is left is rapidly sold and consumed.

Governments fail to understand that prices are not just random numbers. Prices perform an important role in providing information, coordinating supply and demand, and enabling economic calculation. When government interferes with the price mechanism, economic calamity ensues. Price controls on gasoline led to the infamous gas lines of the 1970s, yet politicians today repeat those same failed mistakes. Instituting price caps at a below-market price will always lead to shortages. No act of any legislature can reverse the laws of supply and demand.

History shows us that the quickest path to economic recovery is to abolish all price controls. If governments really want to aid recovery, they would abolish their “price-gouging” legislation and allow the free market to function.

Commentary
by Larry Simons

I agree and disagree with Ron Paul's usage of the word "gouging". He is correct in using the term in its literal sense. It is used pejoratively to describe when a seller prices goods at a much higher price than the fair market price. Prices should have risen after Sandy hit the east coast, but they did not due to state laws that are in place to prevent price gouging. The irony of these laws is the fact that they were enacted to preserve order and prevent hoarding. As we clearly have seen in New Jersey and New York, these laws did not prevent either.

Gouging has a negative connotation, and rightly so, because it is the exercise of raising prices for the sole purpose of profit. What Congressman Paul is arguing is that, in the case of Sandy, price increases would have weeded out the consumers with the greatest need for gas from the ones who were buying it to hoard it out of panic, or didn't really need as much as they bought. Writer Selwyn Duke puts in brilliantly in his article, when he states, "would you rather have gas available at $7 a gallon or no gas available at $3.50 a gallon?"

The free market will work itself. If consumers are charged $7 a gallon for gas and they need gas badly, they will buy it. If they think it is too expensive and opt not to buy it, they can choose not to. Or they might think long and hard about how much they need and only buy a small amount to get them by. That would be the desired purpose of rising prices: conservation. But it is not just all about how the consumer feels about it or how much they opt to purchase. The price increases also reflect the extra costs and the risk of the suppliers entering disaster-stricken areas. 

Some, like Bill O' Reilly, criticize Ron Paul for the title of his article alone, without ever considering the Congressman's reasons for it. Price controls in New Jersey have resulted in long lines, long waits, hoarding and ultimately a shortage in gas. Ron Paul's way would have eliminated long lines and hoarding completely and would have allowed the supply to remain long enough for a greater supply to arrive.

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