Red Pen Edit: The Atlantic on Price Gouging

Apparently "follow the science" doesn't apply to the dismal one

My jimmies are rustled. Here we are in 2024. The Atlantic, a mainstream media organization with an illustrious history, is actively telling its readers to ignore the experts, the science, and do what “makes sense”. This article by Zephyr Teachout, who describes herself as an “Antimonopolist, pluralist, populist, professor” is a humdinger. Readers will be unsurprised to know that I am 1) against price gouging laws and 2) believe that economic policy should follow economic expertise.

Let’s dive into the article, which tries to justify Kamala Harris’ plan to have a federal ban on price gouging. Each block quote is from the Atlantic article with my response below it.

The strange thing about these complaints is that what Harris actually proposed was neither radical nor new—and it certainly wasn’t price controls.

Many states indeed have bans on price gouging, policies which most economists view unfavorably. What is new, however, is that there has never been a federal ban on price gouging. That said, any ban on price gouging is, in fact, a price control. They are tame compared to run-of-the-mill price controls that countries like Venezuela enacted, where there is an official maximum price set for a good or service. But make no mistake. Any rule, whether codified in law or done by executive fiat that limits the prices sellers are allowed to charge is a price control. Period.

A typical price-gouging claim has four elements. First, a triggering event, sometimes called an “abnormal market disruption,” such as a natural disaster or power outage, must have occurred. Second, in most states, the claim must concern essential goods and services. (No one cares if you overcharge for Louis Vuitton handbags during a hurricane.) Third, a price increase must be “excessive” or “unconscionable,” which most states define as exceeding a certain percentage, typically 10 to 25 percent. Finally, the elevated price must be in excess of the seller’s increased cost.

This is a great explanation and shows the multi-step test states often follow when determining whether a seller has broken a price-gouging law. What’s notable here is that the “price gouging” is firmly defined. There has to be an event, it has to be an essential good, the price increases allowed are clearly delineated, and the retailer is allowed to increase prices above that limit if their costs increase.

Price-gouging bans are broadly popular—except among economists. The reason is that, in the perfect world of simple economic models, allowing sellers to charge whatever they want during periods of heightened demand is actually a good thing: It signals to the rest of the market that there’s money to be made on the product in question, which in turn leads to more supply. Accordingly, prohibiting gouging leads to less production of essential goods and services. Plus, letting prices rise helps ensure that the product will be sold to the people who value it the most.

This is all true in the “perfect world” of simple economic models. It’s also true in reality. Here is where Teachout starts making factual errors that, had she spent time asking any of her colleagues in the economics department at Fordham, could have been avoided.

During an emergency, such as a natural disaster, short-term demand cannot be met by short-term supply, setting the stage for sellers to exploit their position by raising prices on goods already in their inventory. The idealized law of supply and demand predicts that new investors would rush in, but the real world doesn’t work like that…During a rare blizzard, sellers might jack up the prices of snowblowers. But investors aren’t going to set up a new snowblower-manufacturing hub based on a blizzard, because by the time they had any inventory to sell, the snow would long be melted. So after the disruption, all goes back to normal—except with a big wealth transfer from the public to the company that raised prices.

No economist would say that if price gouging was legal, then suppliers would increase production of a good like snowblowers to meet a short-term need. Economists say that by allowing suppliers to charge a higher price when demand increases, long-run supply will be higher. This is just common sense. Of course, a new snowblower factory won’t be built during a blizzard. Production, however, is not the only link in the supply chain. Especially in short-run situations, the relevant constraint is not production. It’s inventory.

Imagine you own a hardware store in an area vulnerable to blizzards. A place where in a typical year zero blizzards hit, but every couple of years one does. How many snowblowers do you keep in stock? Probably a couple. Why not more? Because snowblowers are large and keeping a bunch in stock will be a poor use of precious inventory space. Even if a blizzard hits, price-gouging laws keep you from making more than 20 percent profit. But what if your profits, should a blizzard hit, weren’t 20 percent? What if they were 200 percent? That is, what if you could triple the price of a snowblower when demand explodes during a blizzard? Then you will keep more in stock. When the blizzard hits, you raise your prices and turn a tidy profit. Most importantly, more snowblowers get into the hands of needy homeowners than would have otherwise, increasing societal welfare.

And that’s before taking into account the barriers to entry that exist in today’s concentrated markets. Incumbents in heavily consolidated sectors like food are largely insulated from the threat of new competition.

This is true, but only because government regulation has put a stranglehold on many industries. Try to open something as mundane as a snowblower factory and watch the red tape accumulate. Anything to do with food is going to be even harder. It’s infuriating that an otherwise smart person would look at a market that’s been distorted by regulation to the point that new entrants are prevented from competing, and decide that the solution is more government regulation. Come on.

The other big problem with the textbook economics take on price gouging is the assumption that temporarily higher-priced products will find their way to the people who value them the most. That might be true in a world where everyone had the same amount of money to spend. In the world we actually inhabit, that is not the case. During a power outage, a working-class cancer patient who desperately needs to buy the last generator in stock to keep his medications refrigerated might not be able to outbid a healthy millionaire who just wants to run their air conditioner.

Here, Teachout is appealing to the reader’s emotions. How could we embrace a system that allows a millionaire to run his air conditioner at the expense of the life of a cancer patient? I should leave the absurd example alone, but let’s map this one out. First, if we are still talking about blizzards, needing a refrigerator won’t be a problem. If you need to keep something cold, just reach outside the front door and grab some snow. But what about a hurricane? Luckily those are forecasted in advance. So our hypothetical cancer patient whose life depends on having electricity made some seriously bad decisions by not A) having a generator in advance (remember, if he can afford one in an emergency he can afford one anytime) or B) getting outside of the hurricane area before the power goes out.

I’m sure there are counterarguments here, but let’s move on from the specific hypothetical to the larger point. People who argue in favor of price-gouging laws will often make arguments that by allowing price gouging, low-income individuals, cancer patients, and red-headed orphans will be left in the cold, so to speak, while Wall Street fat cats will use generators to keep their automated mustache twirlers running. But that’s not how it works. The whole reason firms want to raise their prices during a disaster is to respond to the increase in demand. If they aren’t allowed to raise prices the result is always a shortage. Thus, when our cancer patient goes to the store to buy a generator under a price controls regime, they have long since sold out. Regardless of whether price gouging is legal or not, the cancer patient is out of luck.

That’s what escapes (or is concealed by) most advocates of price-gouging bans. The truth is that if prices are allowed to rise, the allocation fight isn’t between a working-class cancer patient or millionaire who wants to run his AC, it’s between people who have different values for the good, which incorporates both willingness to pay and ability to pay. If price gouging is banned, the allocation fight doesn’t take either of those into account. Instead, the product just goes to the person that gets there first.

This is another way of saying that price-gouging bans are a form of moral policy. The laws recognize that consumers, not being the coldly rational Homo economicus of academic models, are going to be less price-sensitive during disaster; their desperation can be exploited.

This is just flat-out wrong. First, many models do not assume that consumers are “homo economicus”, that is, perfectly rational and self-interested people. But even if they do, any model, no matter how simple or with whatever assumptions, will of course allow consumers to be less price-sensitive during disasters. Even Homo economicus will change his preferences. The idea that models assume consumers maintain constant price sensitivity and valuation of a good regardless of that good’s usefulness is nonsensical. A total strawman.

All parents, not just the wealthiest, should have an equal chance to obtain diapers even if supply chains are disrupted. Price-gouging laws represent a different set of market rules, grounded in fairness.

I agree. In a magical world all parents would have an equal chance to obtain diapers. But we don’t live in a magical world. Most importantly, banning price gouging does not put everyone on an equal playing field. It’s tiresome to repeat, but it needs to be repeated until these people understand it: price-gouging laws guarantee shortages. Those who have cars, free time, and in many cases greed (remember the photos of people buying literally hundreds of rolls of toilet paper during Covid), will obtain scarce goods. Everyone else is will be out of luck.

A strong federal law would help not only the public but also the small-business owners who lack the ability to do anything but pass on big increases—and who become, unfairly, the face of ugly profiteering for many consumers. If properly designed, such a law would very rarely need to be used. With a federal ban in place, the biggest corporations in the world would keep a price-gouging expert at the ready to wag their finger the next time they’re tempted to exploit a disaster for profit.

Ah yes. The shadowy, leviathanic corporation out to destroy society in pursuit of the almighty dollar. Either name names or spare me your boogeymen.

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The truth is there are no good answers here. No policy position ensures the truly needy get first dibs on a suddenly crucial good. When a product sees an unforeseen spike in demand, there is no way that every person whose value exceeded the pre-spike prices will be able to purchase it. It’s physically impossible. Instead, society has to choose between a system in which value matters, even though that will give an edge to the wealthy, and a system where scarce and potentially life-saving resources are allocated by chance, giving an edge to the greedy.

I’ll take the former.