Friday, September 09, 2005

No Price Gouging

We see it again. When an event causes a shortage that everyone knows about, prices start going up - as you would expect. Then some US Senator says "Price Gouging." Then every talking head starts parading their ignorance. "This was done intentionally by BIG OIL." ... etc. Prices change according to the Law of Supply and Demand. If the supply is cut, but no one wants the commodity, then the price goes down slightly. If the supply is cut, but there is constant or increasing demand, then the price goes up. And those who value the commodity the most get it, because they are willing to pay more. Anyone who tries to do away with the Law of Supply and Demand makes things worse - they cause shortages. Iain Murray at TechCentralStation covers the basics.
For various reasons, I took a lot of trips to the local hardware store on Sunday. On my route there were two gas stations gazing at each other across the thoroughfare. On the first trip, I noticed that one was charging $3.41 a gallon for regular, while the other was charging $3.29. And there, in a nutshell, was proof that gas price "gouging" does not exist. This was actually an excellent case study for the basic economic lesson on supply and demand in situations of scarcity. Price is not an arbitrary figure. It contains a vast amount of information from the viewpoints of both the supplier and the customer. In normal circumstances it represents a balance between the effort and risk undertaken by the supplier to provide the product and the preferences and needs of the potential consumer taken in aggregate. Each individual consumer will have different preferences and needs, so that one may balk at a price another finds perfectly reasonable and another considers a bargain, but as a whole the price represents a signal about the balance of considerations among consumers in the market for the product. When the product becomes scarce, however, additional information is added in the form of increased price that represents notice from the producer to the consumer that he may not be able to supply every customer with the full amount of the product desired. The customer is then more able to balance his wants with his needs and, again taken in aggregate, the market will respond to the scarcity by reducing its demand to meet the expected supply. ... Gouging in the gas market makes no sense. The owner of the station that was charging $3.41 as I drove by was presumably reacting to his own supply constraints. Yet because the other station took a lot of his business, those constraints eased. By the third time I drove past the station, he had reduced his price to $3.29 also.
So, economics tells us that "gouging" simply doesn't exist in a rational market. Responsible higher prices actually ensure that as much of the good or service as possible is available for use. In an emergency, that is an important consideration.

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