Should Price Gouging in the Aftermath of Catastrophes Be Punished?--Posner
Hurricane Katrina has produced a mass of interesting revelations. One is that more than half the states have laws forbidding "price gouging," often defined with unpardonable vagueness as charging "unconscionably" high prices. These laws are rarely enforced. But the sharp runup in gasoline prices as a result of Katrina (and also Hurricane Rita, which followed almost immediately), impeding imports of crude oil and causing a number of refineries in the path of the hurricanes to shut down temporarily, prompted a flurry of enforcement threats and even a few fines. It also prompted denunciation by politicians of greedy refiners and gasoline dealers, and proposals for federal legislation prohibiting "unconscionably excessive" gasoline price increases.
What prompts such reactions besides sheer ignorance of basic economics (a failure of our educational system) and demagogic appeals by politicians to that ignorance is the fact that an unanticipated curtailment of supply is likely to produce abnormal profits. The curtailment reduces output, which results in an increase in price as consumers bid against each other for the reduced output. In addition, the reduction in output is likely to reduce the sellers' unit costs; the reason is that sellers normally sell in a region in which their costs are increasing--if they were decreasing, the sellers would have an incentive to expand output further. With both price rising and cost falling, profits are likely to zoom upward. (Some gas stations are reported to have seen their profits increase by 400 percent shortly after Hurricane Katrina struck.) In times of catastrophe, with consumers hurting, the spectacle of sellers benefiting from consumers' distress, while (it seems) deepening that distress by charging them high prices, is a source of profound resentment, and in a democratic society profound resentments trigger government intervention.
Such intervention is nevertheless a profound mistake, and not only from some narrow "economic" perspective that disregards human suffering and distributive justice. If "price gouging" laws or even merely public opinion deters refiners and dealers from charging the high prices necessary to equilibrate demand and (reduced) supply, there will be shortages. Consumers will still be paying a higher price than before the shortage, but they will be paying the higher "price" in the cost of time spent waiting on line at gasoline stations, or (if they drive less because of the shortage) in the form of restricted mobility. And those who need the gasoline the most, not being able to express their need by outbidding other consumers for the limited supply, will suffer the most from the shortages. The only beneficiaries will be people with low costs of time and nonurgent demand.
But here is an interesting wrinkle. Admiralty law and common law (both are systems of judge-made law, but they are classified separately by lawyers because they used to be administered by separate courts) alike forbid certain practices that might be described as "price gouging." Suppose a ship is sinking, and another ship comes along in time to save the cargo and passengers of the first. The second ship demands, as its price for saving the cargo and passengers of the first ship, that the owner of the ship give it the ship and two-thirds of the rescued cargo, and the captain of the first ship, on behalf of the owner, being desperate agrees. The contract would not be legally enforceable; under the admiralty doctrine of "salvage," the second ship would be entitled to a "fair" price for rescuing the first, but to no more.
In a parallel case, also maritime but governed by common law rather than admiralty law (the Alaska Packers case, well known to law students), seamen on board a ship that was fishing for salmon in Alaska waters went on strike, demanding higher wages. The captain of the ship agreed because, the fishing season in these waters being very short, he could not have hired a replacement crew in time to make his quota. Again, however, the court refused to enforce the contract, in essence because it had been obtained under duress.
These cases, it turns out, are subtly but critically different from the "price gouging" alleged in the wake of Katrina and Rita. The refiners and dealers who raised prices after the hurricanes disrupted gasoline refining had not created the situation that resulted in a reduction in supply. If they had, say by agreeing to increase price above the existing level, they would have been punishable for violating the antitrust laws. (There were some accusations of price fixing, but as far as I know they have not been substantiated.) Similarly, in the salvage case, the rescue ship is not being asked to ration a limited supply by raising price; there is no one else competing for the rescue service--there is just the one ship in distress. And in Alaska Packers, there was no labor shortage, which would have justified seamen in demanding higher wages; the seamen created the shortage by refusing to work. From an economic standpoint, their workers' cartel was symmetrical with my hypothetical refiners' or dealers' cartel. Both are examples of opportunistic behavior--behavior designed to take advantage of an unforeseen opportunity to charge a monopoly price by threatening to withhold output. The hurricane-induced scarcity of gasoline that pushed up prices was not an artificial scarcity, but a natural one. The price increases generated by a natural scarcity (or indeed any scarcity not created by the person or firm imposing the increase), while they may generate "windfall profits," are unavoidable in a way that price increases due to a shortage created by a cartel are not.
A further exception to taking a hard line against responding to a natural scarcity by imposing price controls, some would argue, is the rare situation in which the consequence would be an intolerable gap between wealth and welfare. Suppose there is a highly limited supply of human growth hormone, so that if price is allowed to ration demand, all the hormone will be purchased by rich people who would want their sons and daughters of average height to be taller, and no hormone will be purchasable by poor people, or even people of average income, who have children who will be dwarfs unless they get the hormone; they simply are outbid by the rich. In such a case, there may well be a compelling moral argument for allocation of the limited supply on a basis other than price, presumably some utilitarian concept of welfare: aggregate happiness would be promoted by allocating the hormone on the basis of need rather than ability to pay. This was not a factor in the market's response to the incipient gasoline shortage caused by the hurricane.
Not only are the duress and welfare objections to price allocation inapplicable to the run up in gasoline prices but higher prices for gasoline are a source of substantial external benefits (that is, benefits not conferred on the parties to the transaction, so that the parties do not have an incentive to consider them in deciding on the price and other terms of the contract). By reducing the amount of driving and (if the higher prices persist) a switch to more fuel-efficient cars, higher gasoline prices cause a reduction in the amount of carbon dioxide emitted into the atmosphere--a major cause of global warming--while also reducing more conventional forms of automobile air pollution. A reduction in driving also reduces traffic congestion, which imposes costs in the form of delay on all drivers in congested areas. Finally, a reduction in the amount of oil consumed in the United States would make the nation more secure by reducing the wealth and economic leverage of the vulnerable, unstable, or hostile nations, such as Saudi Arabia, Iran, and Venezuela, that control so much of the world‚Äôs oil supply.
In short, the social benefits of gasoline "price gouging" appear to exceed the social costs by a large margin.