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Price Gouging: Economics and Ethics

January 9, 2006

Alabama Attorney General Troy King was recently on Fox News boasting about how he would go after those gas stations that "profiteered" after Hurricane Katrina. He noted that many economists have criticized anti-gouging laws that interfere with the function of the free market, but his response was that it was Hurricane Katrina that interfered with the market. Furthermore, he stated that he is filing the lawsuits not on behalf of economists but for the elderly citizens who need gasoline for their cars in order to buy their medicine.

Alabama's law, The Alabama Unconscionable Pricing Act, like other anti-gouging laws, arrogantly implies that it is the duty and moral obligation of sellers to provide goods and services—their property mind you—to other citizens (the buyers). The flip side of this is that the law arrogantly implies that it is the buyer's right to receive the goods and services—the property—of other citizens. Mr. King and the other Attorneys General and supporters of this kind of legislation are either ignorant of the economics principles that are involved or they are taking advantage of the ignorance of the citizens. Anti-gouging laws that take effect when supply and demand changes take place act like a price ceiling. Forgive me if you are reading this and understand basic supply and demand, but humor me. Prices are determined by supply and demand.

The point is that if you draw a supply and demand graph, you will see two curves, one representing the seller's side and the other one representing the buyer's side. Yes, the "high" price you pay for that Starbucks coffee or that movie ticket or even that gallon of gasoline is partly your fault! One of the factors that in economics jargon "shifts" the demand curve is expectations. So, when Katrina victims acted on future expectations of supply disruptions, the demand curve for gasoline "shifted to the right" and contributed to the higher prices we observed.

When the government wants to interfere with the price system it has two choices—either implement a price ceiling or a price floor. A price ceiling is a maximum legal price that a supplier can charge (or a demander can pay) and a price floor is a minimum legal price that a supplier can pay (or a demander can charge). The result of a price floor is a surplus and the result of price ceiling is a shortage. Think about it this way: if something is made artificially (by the government) expensive of course buyers do not want to buy as much and sellers would love to sell more (quantity supplied greater than quantity demanded). The result? A surplus. And, of course, if something is made artificially cheap then buyers would love to buy even more and sellers do not want to sell as much (quantity demanded is greater than quantity supplied). The result? A shortage.

Okay, that is the basic economics in a nutshell. However, what many economists fail to do or are afraid to do, because it is not "scientific," is explain the moral aspect of price controls and anti-gouging laws. These laws clearly violate property rights. Moreover, they are based on the philosophical principle that it is the duty of sellers to provide essential goods and services at a "fair" price. Well, why is it that it is immoral for a gasoline station or Home Depot to sell at "unconscionably" high prices after a disaster, yet it is perfectly fine for a prospective employee to sell himself for the highest price possible? Why are landlords evil for wanting the charge the highest rent possible, but it is perfectly acceptable and morally justified for renters to want to pay as little as possible?

This anti-capitalist mentality is not only bad economic policy that, ironically, can hurt citizens when resources are not efficiently allocated, but it is morally reprehensible. What fudamentally underlies these laws is the notion that consumers are entitled to certain goods and services and that the owners of the products being sold have a moral duty to make sure people get those goods and services.

The term that never gets defined is "fair price." And what exactly is "unconscionable?" Is $1.00 a gallon ok? Why not $3.00? And, let's say if the price goes up to $4.00 a gallon, then people will complain that they are being ripped off by greedy oil companies that are taking advantage of a disaster. The irony is that these people who now complain that gasoline should still be $3.00 a gallon (the price before the natural disaster) believed that $3.00 a gallon was a "rip off" when it became the new higher price. Ultimately, if you follow this logic, the only "fair" price to the complainers must be zero! It's funny how these people change their tune when they are the seller!

The true free-market view, the view that respects private property and freedom, is that nobody is entitled to anything. The seller is not entitled to a high price and a buyer is not entitled to a low price. As long as the government does not interfere with the market process, the price that results is the fair price. Of course, the new price will be "too high" to many people, but that will do two things: 1.) It will give users of the good an incentive to economize on what they already have and it will force consumers to purchase only what they really value and 2.) It will give suppliers an incentive to supply more of the good in question. Remember, prices are signals that affect both buyers and sellers.

I have no doubt that many Attorneys General will continue to flood the courts with lawsuits in the name of consumer protection. Unfortunately, private property and true capitalism will continue to get washed away.

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Ninos P. Malek is an Economics graduate student at George Mason University in Fairfax, Virginia.

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