The Economics of Price Gouging
Hurricane Helene’s devastation reminds us that we may be one disaster away from losing our homes and businesses and even the food and water we take for granted. When supplies are in high demand, whether before or after a disaster, sellers may be tempted to charge more simply because higher prices are what “the market will bear” or for more palatable reasons: higher prices ration goods efficiently by discouraging hoarding, encouraging more supply, or incentivizing preplanning. Whatever the virtues or vices involved in higher prices, it is usually dismissed as “price gouging” and states encourage consumers to file complaints against sellers who may then be subjected to criminal or civil penalties.
Economists have often challenged the mob rush to condemn higher prices, urging attention to how incentives enable more efficient outcomes; but “price gouging” is not just another study in market behavior but also a legal and moral question defining public policy. When should the state act? Why are sellers always to blame but not buyers who panic-buy even when there is no threat to supply? Should increased prices, which may have the salutary effect of controlling irrational behavior, lead to legal action against sellers in all cases? What about the sustained price increases on groceries that we saw over the last few years? Should we attribute this to general price inflation as a macroeconomic phenomenon or instead go hunting for price gougers? Increased prices in times of disaster are episodic and handled by the states, but is it a good idea to give the federal government the power to investigate food prices in otherwise normal times, as has been suggested in the current election cycle? Though food only makes up a relatively small part of the average household budget, its rising cost feels particularly egregious.
Is There an Existential Food Crisis in America?
Some skepticism about more price gouging laws, especially new ones at the federal level, is in order. Has food become unaffordable? Of all the money spent on food in America, 60 percent is spent away from home. Politicians want you to imagine every American having to choose between food and medicine, but most of us are instead facing a less agonizing choice between Chipotle and Taco Bell. And it isn’t as though the healthiest food is the most out of reach: the foods we are supposed to eat—fresh produce and fish—saw the smallest recent increases. The foods we’re not supposed to eat—fats, oils, and processed carbohydrates—saw the highest increases.
Despite our sensitivity to changes in food prices, the market for groceries is remarkably stable and efficient compared to other markets. That’s especially impressive when you remember that the primary inputs are dependent on uncontrollable variables like weather and pestilence, and retail success relies on fickle price-conscious customers. Not only do the prices of inputs like crops and feeds fluctuate more than the price of the products they enable, but food prices fluctuate much less than the price of other household necessities like energy or gasoline. Americans spend much less of their disposable income on food now than they did sixty years ago and at-home food is a lower share of the American budget than it is in much of the world. All of that said, higher food prices are certainly a significant burden for those in the lowest-income quintile, which probably explains why one-in-four Americans, more than any other G7 nation, tell Gallup that they sometimes experienced an inability to afford food in the previous year.
So while there may be no substitute for food, broadly considered, economic theory still holds. Accordingly, economists greeted a presidential candidate’s charge of price gouging with skepticism. Low profit margins on the retail end are evidence of efficient markets driving profits to zero, and yet entrepreneurship has made products more specialized than ever before. Upscale chains like Sprouts or Whole Foods shelve every niche product alongside more competitive house brands.
Why shouldn’t we therefore chalk off recent price increases to general price inflation? Five trillion dollars in Covid stimulus plus hundreds of billions through the ironically-titled Inflation Reduction Act has certainly goosed grocery spending, as has the zero-interest rate policy for eleven of the last sixteen years. Given the devastating Avian flu, higher energy and labor costs, and demands for a greener packaging revolution in food, we should be amazed that food prices haven’t gone much higher. Economics suggests that if you must blame someone, blame Washington.
Hunting Price Gougers and Economists
Not so fast, says Fordham economist Zephyr Teachout in an essay underwritten by the William and Flora Hewlett Foundation. Teachout, who specializes in the economics of “power” and once ran against Andrew Cuomo in the New York gubernatorial primary, defends the new federal price gouging proposal. When it comes to price gouging, regular people understand the world far better than economists do, Teachout asserts in a rare bit of populism from the political left. Teachout correctly characterizes economic theory to say that prices signal the market to provide more of the goods in short supply, but she claims that markets cannot respond quickly enough—especially in “heavily consolidated sectors like food” with significant barriers to entry. Of course, she does not address why such consolidation exists, precisely where it exists, and how barriers to entry might be brought down. Nor does she distinguish between plywood sales the day before a rapidly approaching hurricane hits and a box of Cheerios during the “lockdown.” Those are clearly two different goods as far as substitutes go. She also asserts that keeping prices low (through gouging laws) will keep necessities within the reach of working-class people but suggests no alternative means to prevent hoarding or other misallocation at lower prices. Thanks to responsible corporate citizenship, toilet paper remained cheap in 2020. You just had to camp outside your local grocery to get it. Goods were still rationed, just not through prices.
Teachout gets paid to know something about price gouging, over $220,000 to be more exact, by New York State to help its Attorney General (AG) sue a wholesale distributor for increasing the price of Lysol products above the government-approved profit margin in 2020. The state lost in the state supreme court but appealed. Over three years later, the state collected $100,000 from the distributor ($20,000 of which is considered a fine). The $85,000 that the state will clear after sending $10 checks to 1,500 consumers who filed price gouging complaints means that it is reimbursed less than a third of Professor Teachout’s salary as a part-time employee of the AG and we are left to guess how many more pricy consultants and in-house staff were paid by New York taxpayers to bring the AG’s case to fruition. How much did the wholesale distributor spend to defend itself?
Teachout and others contend that price gouging laws are nothing new, already exist in dozens of states (red and blue), and provide explicit legal definitions. True, but it would be more accurate to say that the laws can rest solely on moral terms. Her contest in New York came down to what constitutes an “unconscionable” price increase. There is also the problem of defining whether a necessity is being sold. In the case of these Lysol products, sanitizing surfaces that posed little threat of contamination turned out to be, like so much pandemic-era science, junk. Is “necessity” then in the eye of the beholder (or the AG) insofar as people demanded what came to be called “hygiene theater.” What if the prices had the salutary effect of making people wonder whether or not they needed them? If eggs were sentient, they would surely be flattered to learn that there is no substitute for them: the AG in red state Texas sued in 2020 to limit egg profits. As in New York, Texas initially lost and then spent years (and taxpayer funds) on appeals.
What advocates for increased executive power may seek is the ability to pander to voters at will and circumvent market prices with the full force of the DOJ.
Yes, a Kroger executive admitted in government hearings that it raised prices on some staples above the rate of inflation. NPR jumped on that admission in the hopes of finding a greedy profiteer, but its thorough search of the financials of grocery-related companies couldn’t conclusively attribute price increases to profiteering. The executive’s admission came not in an investigation of price gouging, but in hearings on a proposed merger with Albertson’s. To Teachout’s point, maybe consolidation should be discouraged. But even here, one wonders whether antitrust actions will prove to be a hubristic, quixotic pursuit of regulators against “corporate power,” or whether it will genuinely begin and end with the best interests of consumers.
In short, is price gouging a crime for which the punishment ranks with prosecuting murderers or embezzlers, the kind of harm or threat for which we say, “You can’t put a price on justice?” Or is it something that, like most public policy, should be subject to cost-benefit analysis? Would taxpayers knowingly spend a million dollars to get $15,000 in compensation for overpriced Lysol products? Should we really leave these decisions to consultants like Teachout or the lawyers? In Oklahoma, the firm selected to investigate possible natural gas market manipulation during a 2021 winter storm is capped at a $50 million contingency fee! In that case, at least there are billions at stake for utility customers, much more than for buyers of eggs and Lysol. But even here, where regulation already exists to protect customers it turns out that state regulation of utilities also creates incentives to be anything but competitive or to prepare for emergencies. There’s that consolidation Teachout is rightly concerned about!
Wartime Demagoguery in Peacetime
It should concern any rational American that a precedent for the presumption of presidential or federal authority over price-setting is wartime. Congress passed the Defense Production Act (DPA) at the start of the Korean War in 1950. Truman used it to nationalize steel mills, but the Supreme Court eventually blocked him. The DPA has been reauthorized by Congress every five years. Hardly confined to wartime, it is supposed to apply to “scarce or crucial material essential to the national defense.” During the pandemic, a retailer on Long Island was charged under the DPA for selling PPE masks for $1.00, and a pizzeria owner was charged for selling masks for $2.50. Their prices and profits were deemed excessive.
The DPA’s use every few years by presidents, most lately to accelerate “green energy,” demonstrates that just about everything can be called national defense now. The DPA was used during the pandemic to force meat packing plants to stay open, so why wasn’t it used to force increased production of foods supposedly in short supply and alleviate inflationary pressures on prices? One can only speculate that the feds saw this as a bridge too far, and rightly so. Are new price gouging laws, with likewise ambiguous terms like “abnormal market disruption,” going to become a new route to lean on egg producers or disinfectant wholesalers because people don’t like the direction of prices at any given moment? Note that the leftist Economic Policy Institute now uses the term to refer to any period of above average corporate profits. As the New York Times reported, “Price gouging means different things to different people.”
What advocates for increased executive power may seek is not outright seizure of assets or even standing price controls, but the ability to pander to voters at will, circumvent market prices with the full force of the DOJ, and threaten long, expensive investigations into proprietary information and business models. Rather than see prices as the result of market forces, with the solution to high prices being reducing inflation or producing more food, we will be told that prices are part of a “rigged system.” That will make our democracy yet more cynical, deflecting attention away from poor government policies like the pandemic response and promoting a fairy tale wherein businesses are villains and regulators are heroes. Human nature being what it is, business resources will shift from market entrepreneurship to political entrepreneurship, and those best able to deter, deflect, or defend against the new powers will be businesses rich enough to use political entrepreneurship. More consolidation and inefficiency, anyone?
It is curious that on the heels of Teachout’s criticism of economists came another criticism of economics, likewise published at The Atlantic and underwritten by the Hewlett Foundation. Its author complained that the field of economics isn’t practical or democratic enough. But when I read economists explaining how higher prices enable more desirable outcomes in both good times and bad, I wonder what could be more practical. And when I read economists using their discipline to undermine election-year demagoguery and promises to further federalize power, I wonder what could be more democratic.
This article by Dr. Glenn Moots, Political Science and Philosophy Chair at Northwood University, originally was published by Law & Liberty.