The economics of price gouging after a natural disaster.

If you want to encourage students to analyse both sides of an issue using economic theory and then to provide evaluative comment, there are few better examples to use than price gouging.

What price gouging is depends on what definition you choose but in relation to natural disasters, several states in the USA have put their own definitions into law, ranging from the vague to the specific. Florida defines it as “unconscionable prices for goods and services following a declared state of emergency” (and even have their own nifty graphic)

Arkansas prohibits price increases above 10% for storm recovery products (i.e. water, batteries, food, fuel, and construction materials). Alabama prohibits raising prices above 25% of the average price for the previous 30 days.

This website outlines the main thrust of the arguments in favour of price gouging laws, with the quote “Now as the victims of the tornadoes try to rebuild, they are left vulnerable to another foe—people who use the disaster for economic gain by price-gouging” and use the example of US$7 per bottle of water after Hurricane Katrina. So price gouging is mean, unethical and essentially about profiting from other people’s misfortune.  It is right for the government to try and protect consumers from price gougers.

On the other hand, the basic forces of supply and demand still exist after a natural disaster and it can be argued that they actually help consumers in disaster situations. If a severe storm is forecast to knock down power lines for an extended period of time then it could be expected that demand for batteries and candles would soar.  If prices stay the same then shops will sell out very quickly to those who get in first and buy huge quantities and most people will miss out. If prices were higher, those who got their first would probably buy less and therefore the stock of batteries and candles would be more spread out amongst those who need them.

In addition, higher prices attracts more of the needed products to the market. In “The virtues of price gouging” the author gives two opposite examples of this point. Firstly, a Florida man was charged with violating the Florida price gouging statute after renting a truck, driving to North Carolina to buy thirty-five generators, bringing them back to Florida and selling them for roughly twice what he paid for them. But the end result was positive – 35 generators were brought in to an area that desperately needed them and sold to people (presumably) happy to pay for them. Secondly, one national gasoline retailer shut down its stations in Florida “because the firm could not afford to re-supply the stations without either selling gasoline at a loss or risking that it would violate the state’s anti-gouging laws.” The end result was an even greater shortage! Mark Perry argues that “If the goal is eliminate shortages of critical goods…..by directing scarce resources as quickly as possible to the areas where they are needed the most, then there’s no mechanism more efficient than the price system to achieve that outcome.

Further thoughts on the question of who really serves the public interest - the merchant who boosts his price during a crisis, or the merchant who refuses to can be found in this Boston Globe article, which outlines two scenarios to consider.

Enjoy the discussion!

Unit 2 Macro: Cyclical and Structural Economic Issues Facing the UK [23 May 2012]
Unit 2 Macro: Evaluation on Supply-Side Policies [21 May 2012]
Unit 2 Macro: The Current Account of the Balance of Payments [20 May 2012]
Unit 2 Macro: Positive and Negative Multiplier Effects [20 May 2012]
Unit 2 Macro: The Importance of Productivity [20 May 2012]
Q&A: What do we need to know about output gaps? [20 May 2012]
Unit 2 Macro: The Output Gap [20 May 2012]
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Unit 1 Micro: Revision Presentation on Elasticity of Demand [16 May 2012]
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Unit 1 Micro: Price Elasticity of Supply [13 May 2012]
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Unit 2 Macro: Aggregate Demand Glossary [5 May 2012]
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Macro Revision: Putting Things in Context [29 Apr 2012]
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Unit 3 Micro: Revision on Monopoly Price and Output [6 Apr 2012]
Unit 1 Micro: Revision on Price Elasticity of Supply [5 Apr 2012]
Unit 1 Micro: Revision on Producer Surplus [4 Apr 2012]
Unit 1 Micro: Revision on Elasticity of Demand (for Rice) [3 Apr 2012]
Unit 4 Macro: Productivity Improvements in China [3 Apr 2012]
Unit 1 Micro: Revision on Producer Subsidies [2 Apr 2012]
Unit 3 Micro: Revision on Scale Economies, Technology and Prices [1 Apr 2012]
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Unit 3 Micro: Revision on Fixed and Variable Costs [31 Mar 2012]
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Unit 1 Micro: Public Goods [11 Feb 2012]
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Unit 2 Macro: Focus on China - Inflation [26 Jan 2012]
Unit 2 Macro: Focus on China - Per Capita Incomes [26 Jan 2012]
Unit 4 Macro: Focus on India - Supply Side Issues [25 Jan 2012]
Unit 2 Macro: Factors Driving Business Investment [10 Jan 2012]
Hopes and Fears 2012 [10 Jan 2012]
Unit 4 Macro: Natural Disasters and their Economic Impact [7 Jan 2012]
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Unit 2 Macro: The UK Housing Market in 2011 [26 Dec 2011]
Unit 3 Micro: Sub Normal Profits - BP Leaves the Solar Industry [21 Dec 2011]
Unit 3 Micro: Oligopoly and Duopoly in Bus Markets [20 Dec 2011]
Unit 4 Macro: India - the Road Ahead [7 Dec 2011]
Unit 1 Micro: Inside a Biscuit Factory [1 Dec 2011]
Unit 3 Micro: Brand Loyalty in Mobile Phones [27 Nov 2011]
AS Macro: The State of British Business [13 Nov 2011]
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Unit 2 Macro: Homework Assignment on Consumer Spending [3 Oct 2011]
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AS Macro Key Term: Economic Recovery [23 May 2011]
AS Macro Key Term: Recession [23 May 2011]
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