Price Gouging, Shortages and the Free Market

Don’t drink the water – or even bathe in it, the city of Eagle Mountain told its residents on the evening of Sept. 29, 2014. The city reported that someone had broken into one of its water storage tanks. There was no way to tell what, if anything, had been put into the city’s water supply, until state testing results came back the following day. The city advised residents not to drink, cook with, or bathe in the water. Not even boiling the water could guarantee it’d be safe to use.

The water advisory was given around 5:30 Monday evening. Two hours later this picture of the bottled water aisle at the nearest Walmart was posted online:

Empty. Some people started posting on social media in anger, yelling at others for hoarding water and not leaving any for the rest. The next day another picture was posted of another nearby Walmart, also with a barren water aisle.

What can we learn from this? First, “be prepared” ain’t just for Boy Scouts or doomsday preppers. The unexpected can happen to you. Store some extra food and water. It’s just smart.

But second, there’s an interesting economics lesson here. Whenever there is some sort of disaster that makes national headlines, we often hear politicians make a point of saying price gougers will not be tolerated. Many states have laws making it illegal to increase prices on goods during an emergency. Utah is one of those states. Our law states that during an emergency no one may sell goods or services at an “excessive price,” which is defined as anything more than a 10 percent increase.

These anti-gouging laws have become very popular. At least 34 states have adopted some version of them. They certainly sound like a justified policy solution to a serious problem. What if the neighborhood grocer had, in response to Eagle Mountain’s water shortage, jacked up its prices on water? Wouldn’t that have been unfair, unscrupulous and amoral? Perhaps. It certainly wouldn’t have won the store any new fans from the locals and likely would have cost it customers in the long run. Which is probably why the grocer didn’t do it.

But as the picture shows, when demand rises but prices don’t, you get shortages. Because the price is so low, those in the front of the line buy more than they need, leaving none for those who follow. There likely were people in Eagle Mountain left without any water at all that night and the following day. Fortunately, the problem only affected one town, and water was easily accessible nearby had the problem persisted. But that isn’t always the case. Gouging laws have a history of “protecting” consumers from higher prices, but at the cost of going without necessities altogether. Better to have a vital supply available at a higher price than not have it at all.

Take, for instance, bigger natural disasters with further-reaching consequences and longer-lasting effects. Duke economist Mike Munger was living in North Carolina when Hurricane Fran hit in 1996, devastating his hometown. He describes homes destroyed, people without power, and roads blocked by fallen trees. In the summer heat and humidity, without electricity to power refrigerators and freezers, food quickly began to spoil. Ice became a scarce and vitally important commodity.

In a town about an hour away from the hurricane zone, a few enterprising guys rented refrigerated trucks and filled them with readily available ice and drove to Munger’s city. Along the way they cleared fallen trees from the roads so they could pass safely and get their product to market. This also had the effect of clearing it for the general public and emergency responders.

Once there, they started selling ice for an expensive $8 a bag. According to Munger, people were angry at the price, but they lined up to pay it. And life-saving ice began to flow into the city. But North Carolina had an anti-gouging law, and soon police came and shut down the operation, took the sellers to jail, and impounded the truck full of ice. No more sellers came. Neither did any ice.

Soon the newspapers were filled with stories of severe ice shortages. But they were also filled with politicians vowing to crack down on price gougers such as the aforementioned ice truckers. Of course, these newspaper reports didn’t mention that ice had been available, but the government wouldn’t allow it to be sold. No, they only quoted elected officials promising to get help from other elected officials. In Munger’s words,

“We were so desperate for ice that the only option is to beg the federal government, or other state governments, for supplies from their ice hoards, because there was no other way to get it.”

Munger explains that had the market been left to its own devices, the price of ice would have brought in other enterprising folks who would have also rented refrigerated trucks and brought life-saving ice to Raleigh. Soon, supply would have caught up with demand and the price would have fallen. In the meantime, people would have had ice. And food. And any other supply Raleigh consumers demanded.

Instead, in the name of “protecting” citizens, Raleigh had nothing, and simply waited in desperation for a government agency to provide whatever it could guess Raleigh’s citizens needed.

Dig Deeper:

Report: States with Price Gouging Laws

Website: Michael Munger

Article: Can Price-Gouging Laws Prohibit Scarcity?

Podcast: Munger on Price Gouging

Podcast: Boettke on Katrina and the Economics of Disaster

Editorial: How to Fix the Gas Shortage: Let ’em Gouge

Article: Eagle Mountain tells residents not to use city water