In Defense of Price Gougers

Understanding economics has never been a requirement to be a reporter or a politician. With gas prices moving back toward $4 a gallon, "price-gouging" seems again to be everyone’s favorite phrase these days. With the price of gasoline already Americans’ greatest concern, more so than the economy or taxes, it is a message that many people will be primed to hear. Presumably that is why a majority of Americans want higher taxes on oil companies.

Yet, if political threats of price controls and price-gouging lawsuits prevent prices from rising now, it is the consumers nationwide who will suffer in the long run. In the coming weeks, as people living in the disaster area try to get everything from fallen trees removed to food, the outcry against higher prices will only get worse.

On Friday, ABC News’ headline claimed “Gas Price Gouging Hits Hurricane States.” Across the U.S. and even in Canada, politicians knew whom to blame. Florida’s Attorney General Bill McCollum is already serving subpoenas to four gasoline companies. Missouri Governor Matt Blunt said, “I will not permit businesses to reap unjustified profits by using a natural disaster as an excuse to gouge Missouri families who are already dealing with high prices at the pump.” When Canada’s prime minister was asked if the gas price increases were due to price gouging, he said, “It certainly appears that way to me.”

States including Alabama, Arkansas, Connecticut, Florida, Georgia, Illinois, Kentucky, Michigan, Missouri, North Carolina, South Carolina, Texas, and Virginia are threatening hefty penalties for companies that raise their prices too quickly or too much. Fines can range from up to $25,000 in Georgia to up to $250,000 in Texas for each customer charged “too high” a price. Price gouging complaint hotlines and websites were being widely advertised to collect complaints.

In Texas, Attorney General Greg Abbott has already brought legal action against a Comfort Inn that took advantage of desperate people fleeing the chaos of the last hurricane that just hit the state, Hurricane Dolly. The hotel was reportedly charging customers $150 for rooms that normally went for $80. In Arkansas, Attorney General Dustin McDaniel promises “to pursue gas gougers to the full extent of the law."

You would think that people had learned their lessons about price controls during the 1970s, though memories have surely faded. Price controls didn't stop the cost of gasoline from rising. They just changed how we paid for them. Instead of prices rising until the amount people wanted equaled the amount available, chronic shortages of gasoline had Americans waiting in lines for hours. Yet, the supposedly permanent shortages disappeared instantly as soon as price controls were removed.

The free advice being offered by politicians is that it was improper for prices to start rising before Hurricane Ike disrupted production in the Gulf of Mexico. But waiting to raise prices means that consumers will end up paying even higher prices when the reduced oil flow out of the Gulf is finally felt.

Some media stories quote experts as saying that gas supplies are currently “sufficient” – feeding conspiracy stories of unjustified price increases. But higher prices today reduce consumption and increase inventories and thus reduce how much prices will rise tomorrow. The overall increase in price will actually be less.

The possibility of higher prices when disasters strike also gives oil companies an incentive to put aside more gas to cover those emergencies. Storing gas is costly, and if you want them to bear those costs, you had better compensate them. The irony is that letting the companies charge higher prices actually reduces customers' total costs when you include such things as having to wait in long lines, because there will be more gas available when the disaster strikes.

The American oil industry was no more concentrated when prices started rising immediately before Hurricane Ike hit than it was a few weeks earlier, and oil companies possessed no sudden increase in monopoly power. Neither have they suddenly become greedier.

When prices aren’t allowed to rise, gas stations in many states are resort to “putting up signs asking drivers to buy as little gas as possible.” But it appears to be having little effect on drivers’ behavior. One driver called the signs “ridiculous.” Another driver noted: why shouldn’t he buy more, why should he risk running out of gas?

Stamping out "price-gouging" by hotels merely means that more of those fleeing the storm will be homeless. No one wants people to pay more for a hotel, but we all also want people to have some place to stay. As the price of hotel rooms rises, some may decide that they will share a room with others. Instead of a family getting one room for the kids and another for the parents, some will make do with having everyone in the same room. At high enough prices, friends or neighbors who can stay with each other will do so.

There is another downside to price regulations. Companies in states all across the country, hoping to make a few dollars, are thinking of loading up their trucks with food, water and generators and heading down to Texas. The higher the prices, the faster these "greedy" companies and individuals will get their products down to desperate customers. But their greed means less suffering. The more products delivered, the less prices will rise. Political grandstanding today means future disasters will turn out even worse.

Of course, if all this isn’t bad enough, Senator Barack Obama wants to make price gouging by oil companies to be a federal crime as well as impose much higher taxes on them.

It might be too much to hope that there will be some news coverage of the latest government report yet again rejecting claims of monopoly pricing by oil companies.

But whatever the cause of higher prices, what about the poor?

Making the companies pay for others' altruism not only creates the wrong incentives, it is also unfair. If we need to help out, make everyone pay.

Bashing companies may be profitable short-term political behavior, but the discomfort will be over far sooner and less severe if markets are left to their own devices.

*John Lott is the author of Freedomnomics and a senior research scientist at the University of Maryland.