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In Defense of Price Gouging and Profiteering

Thursday, August 7, 2014

If you don’t like price rationing, please explain how limited supplies of a good are to be allocated.

Minor news stories with only a local direct interest nonetheless can carry large general implications, and just such a recent item emerged last weekend: Residents of Toledo, Ohio were warned not to use city water supplies due to algae growth in Lake Erie. (After a few days, the water was declared safe to drink.) For those few days, unsurprisingly, the demand and market prices for bottled water increased sharply, and few politicians can resist such opportunities for demagoguery: “Ohio Attorney General Mike DeWine is dispatching employees to the city to investigate complaints of price-gouging on bottled water.” “Price gouging” is a charge ubiquitous in the wake of such events as earthquakes and hurricanes, but the precise meaning of that phrase remains obscure.

As an obvious effect of a natural disaster, public water supplies are likely to be disrupted, and so the demand for a substitute — bottled water — increases sharply. Moreover, even the supply of bottled water might decline, perhaps because of transportation bottlenecks and the like. And so the market price rises, often significantly: There simply is less water available. Some method must be used to allocate the available water among consumers, all of whom are anxious to obtain it.

The plain reality is that any system of allocating the available water will favor some people and not others.

One method is rationing by price, that is, “price-gouging.” That strikes many as “unfair” because the poor will tend to be denied. But because there simply is less bottled water available, any rationing system will disadvantage some relative to others. For example, suppose that we impose price controls so that the legal maximum price is lower than the market price. In that case, the amount demanded would exceed the amount available; if we force people to wait in line for bottled water, we would favor those with more flexible schedules or with relatively low time values. What’s “fair” about that?

Alternatively, we could simply allocate each person a certain number of bottles. If we allow people to resell their water, we would return to "price gouging," but by consumers rather than producers. If we do not, people who really need more bottled water — people who are ill, people with small children, etc. — will find it difficult to obtain water from those who are using it to bathe their dogs, unless they revert to barter. Is that “fair”?

The plain reality is that any system of allocating the available water will favor some people and not others. How about a footrace to the local water warehouse? That would favor the swift and the young. How about violence as a rationing mechanism: letting people just fight it out. That would favor the young, the strong, and males rather than females. Suppose we allow beauty to be the criterion. A lot of guys like me would go awfully thirsty. “Fairness” in this context too often is defined as the system under which a given person thinks that he will be able to compete most effectively. Where people stand depends on where they sit.

And so the moral disadvantage of “price gouging” relative to other methods of allocating a good suddenly more valuable remains entirely obscure. The argument that the suppression of “price gouging” will advantage the poor is a fallacy: The net effect on the poor depends on the choice of an alternative rationing scheme, and on whether the poor actually are able to compete more effectively under the latter. Moreover, the nonpoor, prevented from bidding up the price of bottled water, are very likely to shift their spending to other markets, bidding up the prices of those goods instead. Is that better for the poor? And price suppression analytically is a tax borne in part by producers; are not some of them “poor”? More broadly, price controls must have the effect of making the economy smaller. Is that good for the poor? When such politicians as DeWine speak, the answers to those fundamental questions remain shrouded in rhetorical fog.

“Price gouging” — allocation by market price — provides powerful incentives to conserve, and powerful incentives for people to find ways to supply more bottled water. Are those not desirable outcomes? Price rationing may or may not be good for the poor, but, then, any rationing scheme is bad for someone. Unless we want to argue that the poor have a greater moral claim than others — a position that I would criticize sharply — the widely assumed but poorly reasoned premise that “price gouging,” that is, rationing by price, is morally deficient is a popular fallacy.

There also is the equally dubious concept of “profiteering,” a useful definition of which is nowhere to be found. Some years ago during the California electricity crisis, I had a spirited email exchange with a very prominent Los Angeles Times columnist about whether it was the politicians or the power suppliers who were responsible for skyrocketing prices. He accused me of encouraging “profiteering,” and so I asked him for a definition. His answer: “Excessive profit contrary to the larger public interest.” Well: Thanks for clearing that up!

‘Price gouging’ — allocation by market price — provides powerful incentives to conserve, and powerful incentives for people to find ways to supply more bottled water.

The first obvious point to be made is that the business sector — with the exception of investors in green energy boondoggles — is not supposed to receive bailout money from the taxpayers if investments turn sour, a traditional principle honored most of the time. So negative “profiteering” is wholly appropriate. One would presume therefore, that positive "profiteering" also would be acceptable, since risk-taking must mean both accepting downside risk and enjoying upside potential. But that is not the position of many: Only positive "profiteering" is cause for opprobrium. Well: If potential losses are unlimited, but potential gains are constrained, average expected returns cannot be competitive. And so private investment in the extreme case would collapse, forcing a government takeover of the economic sector of interest. Accordingly, the broader political reality is that the opponents of “profiteering,” perhaps without realizing it, are promoting not consumer well-being or “fairness” or compassion for the poor or any other such lofty objective. The real endpoint of this slippery slope is a bigger, more powerful, and more coercive government using its powers to redistribute wealth.

More fundamentally, investment is an effort to produce a stream of goods and services valued by other people. That value takes form in the prices that individuals are willing to pay for given goods, determined by their own subjective view of the usefulness of those goods relative to that of available alternatives. DeWine may believe that those subjective valuations in some sense are “wrong.” He may believe that they differ systematically from what can be considered “rational.” The choices made by others may differ from those that he would make. He may believe that people somehow are manipulated or brainwashed in the context of their personal values. Implicit in the “price gouging” and “profiteering” conceptual framework is the spectre of a government overriding individuals’ choices for their own good, a process promising less freedom for people and more power for officials and “experts.”

If we are to defend individual freedom — the freedom of people to better their lives as they deem appropriate, as they choose among alternative paths in the pursuit of happiness — then we must defend the market prices yielded by individual choice behavior, and the profits attendant upon them, whether low or high and regardless of the circumstances yielding shifts in demand and/or supply conditions.

The endless attacks on “price-gouging” and “profiteering” in any number of markets are a central manifestation of the long-term ideological battle against individual liberty, because it is that freedom that stands in the way of expanding government power. And so DeWine actually argues that

There is not an Ohio law on price gouging. However, the law does say that if a practice is unconscionable that it could be a violation. And so it is an unfair and deceptive practice to dramatically increase the price of in stock products based solely on the response to current events. And so we are going to look and see what the facts are but we would encourage people to give us more evidence, give us more examples because we are going to go after people who are doing this.

DeWine does not bother to tell us what “unconscionable” means; but he does argue that “for those individuals who literally held up people over the weekend, there should be consequences.” Did the sellers of bottled water force their customers at gunpoint to purchase bottled water? If so, why wasn’t the price ten, a hundred, a thousand times higher than those observed?

The real endpoint of this slippery slope is a bigger, more powerful, and more coercive government using its powers to redistribute wealth.

The last time I read the 13th Amendment to the Constitution, it said something rather sharply unfavorable about involuntary servitude. Are sellers of bottled water now to be forced to sell at prices approved by DeWine? Recall that during the natural gas crisis in the winter of 1977 — caused not by some natural disaster, but instead by federal price controls — the Ohio state police barged into people’s houses to check their thermostats, without warrants, without statutory authority, without any constitutional basis whatever. When a real water crisis arises, will DeWine try to monitor and limit water consumption in people’s homes? Someone ought to ask DeWine if that road is likely to yield greater “fairness.” This kind of metastasizing government power as always will be characterized by ineptitude, ignorance, and an overriding instinct for political self-preservation. And unlike the entrepreneurs, who have to persuade people to buy their product at a mutually acceptable price, the DeWines of the world have little basis to claim that they “represent consumers.”

Businessmen and women ought not either apologize for responding to market forces or seek approval from the morally superior, as they never will receive it in any event. Nor should they wring their hands about high prices and profits, because their ideological opponents will not do so when they decline, as they inevitably will at various times. Market competition is the true route toward consumer protection, as anyone can see upon viewing the conditions of consumers under government “protection,” crony capitalism, and worse.

Benjamin Zycher is the John G. Searle scholar at the American Enterprise Institute.

FURTHER READING: Zycher also writes “35 Years after Prop 13, Has It Worked?Would a Carbon Tax Be ‘Efficient’?” “Earth Day and Four Decades of Fear,” and “Increasing Distortions and Feeding Leviathan: The Internet Sales Tax.
 

Image by Dianna Ingram/ Bergman Group

 

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