New ideas for combating price gouging

At the Harvard Business Review Blog Rafi Mohammed offers a new proposal to combat price gouging. I don’t like it.

First, of course, the title “The Problem with Price Gouging Laws” is exactly the title of my Regulation magazine piece on price gouging laws, and so it dilutes the amazing notoriety I gain from association with that title. (Note: I’m kidding.) Second, and more substantively, his proposal is unworkable.

Mohammed is a pricing strategy specialist, so he understands a bit about how consumers, prices, and retailers get along. He also understands the supply and demand fundamentals that lead a spike in demand to (typically) push prices up and the problems created by laws that block that price response (namely, first-in-line consumers stock up and leave less for others, and suppliers face fewer incentives to bring in added supplies).

To get the supply response needed, prices have to rise, but consumers will object to sharp post-disaster price increases. His proposal: keep prices to consumer stable as per current laws, but provide a government-funded subsidy to retailers selling specific needed goods and services to encourage the desired supply response.

I like some things about the idea. I like that the supply side (in theory) gets better incentives without triggering a counter-productive consumer backlash. In addition, I like that the proposal shifts some of the economic burden of emergency response away from retailers who happen to have useful goods (and are, after all, providing a benefit to the community by maintaining a supply of useful goods), and pushing some of that obligation onto the community as a whole. If public policy wants to promote emergency preparedness, it is better not to adopt policies that shift costs on to retailers who boost emergency preparedness. I also like the attempt at a new approach for a policy area when policy is under-examined by proponents.

Still, the program won’t work. Identifying the goods covered and the degree of subsidy needed simply cannot by done with sufficient nimbleness and accuracy by a state Division of Consumer Affairs to replicate the efficiency of decentralized, market-based price adjustments. In some parts of town a storm may have taken out windows, but elsewhere flooding may have driven some folks out of their home. Some folks lose power, so want ice and batteries (or, if rich enough or need power enough, want an generator and some diesel fuel), and other folks are placed under a “boil water” restriction because of water supply problem. Somehow, in advance of the emergency, the state has to devise a useful set of subsidies to fit the consequences of somewhat unpredictable storms. Not going to happen. (This is, of course, the Hayekian “knowledge problem” that we at the Knowledge Problem blog find so critical.)

In addition, a subsidy system seems readily gamed. Offering a 50 cent per bottle subsidy on bottled water? A convenience store owner may just buy a few cases for himself, then put them back on the shelf and sell them again (and again, and again). Sure, maybe the state could audit and/or police subsidized sales, but the costs of enforcement becomes an issue. So the program can’t get the incentives right, but may incentivize abuse anyway.

On the demand side consumers simply don’t get the signal to conserve. When gasoline supplies are tight, people often respond by topping off their tank much more frequently, in effect hoarding a bit of gasoline in case supplies become completely interrupted. Higher prices encourage people to take only the amount they must have during the supply problems.

Overall, the proposal offers something new to think about, but it doesn’t seem workable. My own solution (improve economic understanding in the general public so we better tolerate efficient price changes) is also somewhat utopian, but so far I still think it is the best long-run approach.