Price Gouging

July 3, 2008

Thomas Sowel offers some good words on price gouging from Basic Economics: A Citizen’s Guide to the Economy (Basic Books, 2000):

 …when some natural disaster such as a hurricane or flood suddenly destroys many homes in a given area, the price of hotel rooms in that area may suddenly rise, as many compete for a limited number of of rooms…

People who charge higher prices for hotel rooms, or for other things in short supply in the wake of some disaster, are especially likely to be condemned for “greed”, but in fact the relationship between supply and demand has changed.  Prices are simply performing one of their most important functions – rationing scarce resources.  When some natural disaster suddenly makes these resources even more scarce than usual, it is important that prices reflect that underlying reality, so as to reduce the demand that each individual makes on the reduced supply.

Regardless of what hotel owners charge, a sudden and widespread destruction of housing in a given area means that there may be not nearly enough hotel rooms for all the displaced people to get the kinds of accommodations they would like.  If prices had remained at their previous levels after the hurricane, a family of four might  well rent two rooms – one for the parents and one for the children.  But when hotel prices shoot up well beyond their usual level, all four family members may crowd into one room, in order to save money, leaving the other room for other people who have likewise lost their homes and are equally in need of shelter.  If the government were to impose price controls under these conditions, then those who happened to get to the hotels first would take up more space and leave more latecomers without a place to sleep indoors.

Similarly, if local electric power lines were put out of commission for a few days, the demand for flashlights in that community might suddenly increase, causing prices to rise before new shipments of flashlights could arrive.  Had prices remained at their previous level, a family might buy several flashlights, so that each member could have one.  But, at suddenly higher prices, the would likely buy only one or two, leaving more flashlights for others with a similarly urgent need. 

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