The Huntsville Times reported on September 12 that, in response to the looming threat from Hurricane Ike, Alabama Governor Bob Riley declared a formal state of emergency. The governor’s declaration of emergency activated the state’s price-gouging law, which makes “unconscionable pricing” illegal during times of emergency. The Times quoted Riley as saying that he thinks “a threat to public health is a strong possibility due to the shortage of fuels.”
Hurricanes don’t cause shortages, however.
Price controls do.
A “shortage” occurs when the amount of a good demanded exceeds the amount of a good supplied at the prevailing price. In other words, shortages happen when the price is too low. The market mechanism fixes this automatically by moving us forward along the supply curve and backward along the demand curve until we reach a price at which the quantity supplied and the quantity demanded are again equal.
Hurricanes along the Gulf Coast are likely to do two things. First, they are likely to increase demand for gasoline as people flee the storm and look for fuel to power generators. Second, a hurricane that hits a major oil-producing region will almost certainly knock supply offline in the short run. An increase in demand coupled with a reduction in supply means that the price will go up.
Higher prices tell people to economize on gas and other essentials by cutting out nonessential driving. They also have the benefit of attracting supplies from elsewhere: profit-seeking entrepreneurs in regions that are not affected by the hurricane would, in anticipation of higher profits, redirect their supplies from unaffected areas toward places where they are most desperately needed.
The process by which equilibrium is restored is rendered inoperable — indeed, made illegal — by price-gouging laws. This has several surely unintended but negative consequences. The first is that if people cannot pay for something with their money they will pay for it with their time. Thus, we will see long lines and rationing at gas stations. Second, since quantity demanded will far outstrip quantity supplied at the below-market price, supplies may very well dry up with little extra in the offing. People will spend their time and energy looking for gas supplies that aren’t there instead of attending to what the market would reveal to be more urgent concerns if prices were allowed to increase.
Third, since there are criminal penalties associated with price increases, recovery will not be as swift as it otherwise would be. Parts of the Gulf Coast are still recovering from Hurricane Katrina after three years. This is due in no small part to price controls and other regulations that have impeded the rebuilding process. Recovery would be more rapid if prices were allowed to move freely.
There are also more subtle effects that aren’t so apparent at first glance. Price gouging is very poorly defined as “unconscionable pricing.” There is basically no way for a businessperson to know whether they are breaking the law or not; while there are benchmarks that states use to denote prima facie gouging, these are not exclusive. The added uncertainty associated with the postdisaster business environment means less investment, lower supplies over the long run, and slower, more painful recoveries.
Enforcing these statutes also requires resources. The time and resources that states spend prosecuting price gougers are time and resources they are not spending keeping order or assisting with disaster relief. It is hardly clear that hunting down gas-station owners who engage in vaguely defined “unconscionable pricing” is the best use of our resources.
Hurricanes reduce supply and increase demand, but it’s price controls that create shortages. The additional misery of gas lines and long postdisaster recovery periods are tragic but easily avoidable. Laws against price gouging look compassionate and make excellent fodder for political crusaders, but they are based on incorrect economic reasoning. If we are serious about minimizing damage and maximizing recovery, price-gouging laws should be one of the first things to go.
