Price Gouging: Reality vs Fiction

In a previous post I comment on a too common economic fallacy, that a natural disaster is good for the economy because of its alleged impact on GDP. Economic fallacies are not the only misconceptions gaining momentum during a natural disaster, but a confusion between reality and fiction becomes also quite common. The issue of price gouging provides a good example of this situation.

After a natural disaster, the price of certain goods such as water or gas, increases significantly. This is seen as an immoral exploitation by merchants who are taking advantage of the people affected by the natural disaster. Even though in this post I want to comment on another issue, it is worth mentioning that the now limited resources should be allocated to those in most need (rather than, for instance, to whoever happens to be the first one in line.) And unless someone has a crystal ball, there is no way of knowing who is in most need without changes in relative prices.

The mention to reality versus fiction refers to the fact that the critics of price gouging seem to (implicitly) assume that the natural disaster did not occur. It is plausible to assume that an event like this would (1) shift the supply to the left [reduce supply of goods] and (2) shift the demand to the right [increase the demand of goods.] At the usual (or “normal”) price these goods are in serious shortage.

This means that in the event of a natural disaster the option is between (1) having goods at a higher price or (2) not having goods at the “normal” price. This is the new reality. The old and normal reality does not exist anymore. To limit price gouging results in a lower price in the store, but not goods on the shelf. This would not help those in need. The fiction consists in thinking that a larger supply can be secured without an increase in the price (why should we assume supply is horizontal when these goods usually have a low elasticity?) An efficient policy would secure the provision of goods rather than secure a low price without the goods. Reality, rather than fiction, should be the first driver of a policy designed to assist during a natural disaster. As Milton Friedman insisted, a policy is to be valuated by its results (or design), not by its intentions.

The first rule for an efficient policy should be to not get in the way of changes in relative prices. Otherwise help will become erratic and inefficient. It might be more efficient, for instance, to make use of firms specialized in logistics (i.e. firms such as Walmart) and subsidize the demand than start a price control policy. For instance, a tax credit or a check can be sent to those affected by the natural disaster allowing them to pay the now higher prices. Similarly, a subsidy can be given to those firms bringing goods to the damaged areas (who says the government has the monopoly of charity or that the only one who can do it efficiently?) A policy on these lines would be more efficient than interfering with relative prices.

However, some opponents of price gouging seem to be more interested in damaging merchants than in making sure resources will be efficiently allocated among the ones affected by the natural disaster. Those who do not oppose price gouging do so because they have the affected ones first in line. It is not about merchant’s revenue, it is about allocating goods efficiently. Damaging the merchants should not be more important than worsening the situation of those in need.

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A Tax is Not a Price

Auto_stoped_highwayAccording to The Economist, the latest US federal budget includes incentives for “congestion pricing” of roads.

Ostensibly, this is about reducing congestion. But some municipalities like the idea of charging for roads because it represents a new revenue stream. This creates an incentive to charge a price above cost. When a firm does this, we call it a “monopoly price.”

But when a government monopoly forces you to pay a fee to use a good or service, do not call it a price. It is a fee that a government collects by fiat. In other words, it is a tax.

A price is a voluntary exchange of money for a good or service. The emphasis on voluntary is important, because it is this aspect of the price that enables economic calculation for what people really want.  Even a free market “monopolist” (however unlikely or conceptually vague it may be) engages in voluntary exchange.

On the other hand, a bureaucrat “playing market” by imposing fees on government-controlled goods and services will not have the same results as a market process. For starters, unlike a person making decisions on their own behalf, a government bureaucrat has to guess at costs. Under a voluntary system, a cost is the highest valued good or service you voluntarily give up in order to attain a goal. But the bureaucrat is dealing with other people’s money.

To “objectively” determine costs, in order to set “fair” prices, is a chimera. In the words of Ludwig von Mises, “[a] government can no more determine prices than a goose can lay hen’s eggs.”

How dairy farmers unions in Canada are distorting the facts about supply management

Under heat recently as President Trump has criticized supply management in Canada and retaliated against it, the different provincial associations representing dairy farmers have moved on the offensive. To promote the virtues of this system meant to reduce production in order to prop up prices through the use of trade tariffs, production quotas and price controls (how can we call those virtues), these unions have produced numerous infographics to make their case. It is even part of what they dub their These-infographics-show-that-diary-prices-are-lower-in-Canada-than-elsewhere, that milk is still a cheap drink relative to other type of drinks and those prices, supposedly, increase more slowly than elsewhere. All of these graphics are dishonest and must be dismantled.

The most egregious of these infographics – present in the “lobby day kit” – shows the price of milk in Australia (1.55 CAD), Canada (1.45 CAD) and New Zealand (1.65 CAD). They are seemingly using 2014 prices. First of all, they use data that conflicts massively with the reports of Statistics Canada that suggest that milk prices hover between 2.33$ to 2.48$ per liter.  Their data is provided by AC Nielsen but no justification is presented as to why they are better than Statistics Canada. The truth is that it is not better. Participants in Nielsen surveys come from a self-selected pool of storeowners who wish to participate and are then selected by Nielsen to be part of the data collection. Then, they can record prices. It should be mentioned that not all regions of Canada are covered in the data. Although the Nielsen data does have some uses (especially with regards to market studies), it hardly measures up Statistics Canada when comes the time to evaluate price levels. This is because the government agency collects information from all regions and tries a broader sweep of retailers in order to create the consumer price index.

But an even larger problem is that, in their comparison of prices, they don’t mention that New Zealand taxes milk. In New Zealand, all food items are subjected to sales tax, which is not the case in Canada and Australia. Hence, when they compare retail prices, they are comparing prices that exclude taxes and prices that include taxes. One would like to find if they acknowledge this fact in the methodological mentions, but there are none!

Using prices available at Numbeo.com and Expatisan.com and the exchange rates made available by the Bank of Canada, we can correct for this problem of theirs. Simply changing prices source leads to a massively different result with regards to Australia whose milk prices are lower than in Canada. Secondly, once we adjust for the sales tax in New Zealand, we find that prices in New Zealand are lower than in Canada. In fact they are lower than in one of Canada’s cheapest market, Montreal (let alone Toronto or Vancouver).  So the infographic they show in order to lobby governments is a fabrication.

Table 1: The real price of milk

Using Numbeo.com (regular milk)
Unadjusted Adjusted for taxes
 Australia  $           1.59  $                 1.59
 New Zealand  $           2.26  $                 1.97
 Canada  $           1.99  $                 1.99
 Using Expatisan.com (whole milk)
 Unadjusted  Adjusted for taxes
 Sydney  $           1.82  $                 1.47
 Wellington  $           2.42  $                 2.10
 Montreal  $           2.87  $                 2.87

Source: Numbeo.com and Expatisan.com, consulted May 16th 2014 and the Bank of Canada’s currency converter. Note: using the Statistics Canada price would make Canada’s situation even worse by comparison.

This is part of a pattern of deceit since they also massage data for numerous other graphs that are presented to Canadians in efforts to convince them of the virtues of supply management. One other example is an infographic that presents a figure of nominal milk prices in Australia before and after the abolition of supply management. Given that prices seem more volatile after 2000 and that they increase more steeply, they try to make us believe that liberalization was a failure. This is not the case. Any sensible policy analyst would deflate nominal prices by the general price index to control for inflation. When one does just that using the data from the Australian Bureau of Statistics, one sees that real prices stabilized in the first ten years of deregulation after increasing roughly 15% in the decade prior. And since 2010, real prices have been falling constantly.

Other examples abound. In one instance, the Quebec union of dairy farmers circulated an infographic meant to show that nominal prices for dairy products increased faster in the United States than in Canada. Again, they omit inflation. Since 1990 (their own starting date), prices of dairy products have risen more slowly than inflation – indicating a decline in real prices. In Canada, the opposite occurred – inflation increased more slowly than dairy prices indicating an increase of the real price.

The debate around supply management is complicated. The policy course to adopt in order to improve agricultural productivity and lower prices for Canadians is hard to pinpoint. But whatever position one may hold, no one is well-served by statistical manipulations offered by the unions representing dairy farmers.

Inequality and Regional Prices in the US, 2012

I have just completed a short piece on the impact of regional prices on the measurement and geographic distribution of low income individuals. Basically, Youcef Msaid and myself* used the March 2012-CPS data combined the BEA’s regional purchasing power parities database to correct incomes.

We found is that the level of inequality is very modestly overestimated (0.5%). Now this is a conservative estimate since we used state-level corrections for price differences. This means that we took price corrections for New York state as a whole even if there are wide differences within New York state. Obviously, with more fine-grained price-level adjustments we would find a bigger correction but it is hard to imagine that it could surpass 1-3%.

That was not our most important result. Our most important result relates to where the bottom decile of the income distribution is geographically located. We find that instead of being found disproportionately (relative to their share of the total US population) in poorer states, the bottom decile is disproportionately found in rich states. The dotted black line in the figure below illustrates the change in the number of individuals who are, nationally, in the bottom 10%. New York and California have significant increases while West Virginia has a large decrease. The dark black line shows the same for the top 10%.

fig2

Another way to grasp the magnitude of this change is to relate the change to the population shares of each decile by state. For example, New York had 6.29% of the US population in 2012 and 6.61% of all Americans in the bottom 10% of the income distribution before adjusting for regional purchasing parities. After adjusting however, New York’s share of the bottom 10% surges to 7.88%.

Why does it matter? Because most of the cost difference adjustments come from differences in housing costs. The first obvious point is that housing is a crucial aspect of any discussion of inequality. The second, but less obvious point,  is that these differences are massive barriers to migration within the United States and the poorest are those for whom these barriers are the heaviest. Unfortunately, the high-cost areas are also high-productivity areas (New York, San Francisco for example) whose high costs are largely the result of restrictions on the supply of housing. This means that high-productivity areas – which would raise the wages of low-skilled and low -income workers are inaccessible to them. It also means that those who were present before the increase in productivity of these areas capitalized the gains in more valuable real estates (even if this means lower real incomes).

In this light, the geographic reallocation of the bottom 10% is consistent with an emerging literature that argues that inequality is in great a result of housing policy (see notably Rognlie’s reply to Piketty in the Brookings Papers).  This small modification (I consider it small) that me and Youcef made has important logical ramifications.

* Thank you to my friends Rick Weber (who blogs here at NOL and whose research can be seen here) and Ryan Murphy (whose research can be found here) who provided good comments to bring the paper to the stage where we are ready to submit.

We don’t have to ruin markets to do charity

This post is for Democrats and Republicans, not libertarians. Let’s take it for granted that we want to help poor people and we’re willing to use the coercive power of government to do so.* The trouble with the interventions below is so troubling that we don’t even have to bother about having a deep philosophical debate. I’m not trying to change your destination, I’m just trying to get you to get out of that explosive Ford Pinto.


Minimum wage, water pricing, education, and just about all of American health care finance involves distorting markets to give charity and/or gifts. Essentially, they change rules so that group X pays Y instead of Z with the hope that X can afford it and Z can do more good with the money than Y. But this indirect giving has serious flaws.

Take the case of the minimum wage: it’s supposed to help the working poor by making their boss and consumers pay a bit more for their services. Of course it might simply be to help interest groups, and that further raises the burden of proof for those who would prefer a minimum wage to less invasive alternatives.

So what is this less invasive alternative? Cash transfers. We’ve already got some imperfect versions of this. School vouchers, food stamps, and a host of other welfare programs. What I want to see is a simpler version that takes the best features of these programs to eliminate the problems created by market interventions.

The economics of this proposal are simple and important. Prices are essential to help people use resources wisely. Interfering with the market process makes those prices less effective at communicating information about value and opportunity cost. And with an interconnected markets, a small price control can lead to worse decisions being made all across an economy.

Simple economics tells us that if we impose a minimum wage (or give special tax treatment to XYZ, or whatever) then something’s got to give. It might be higher unemployment, it might be worse working conditions, or it might simply be that rich people are a little less rich than before.

(It’s worth remembering that rich people are people too; even lawyers. They can do good and bad things, and those actions determine their moral quality, not their wealth per se… we don’t want to redistribute wealth for its own sake, we want to do so if/because we think it will do some good. The hope is that the harm of a few bucks out of your pocket does more good for the poor people who get that cash. And no, it’s not possible for “corporations” to suffer; corporations aren’t people, but they are owned by people.)

Consider the case of feeding the poor. It’s not hard (even for non-economists) to imagine how imposing price controls on food could lead to shortages. If there’s one thing we learned from socialism, it’s that bread lines are bad. Food stamps are a much simpler and targeted solution.

We should prefer straightforward transfers over market intervention because it will do more good at less cost. More importantly, it is humbler–distorting markets requires a lot of information, transfers don’t.

Transferring money rarely jives well with American intuition, and that brings up an important bundle of issues: responsibility and social engineering.

Republicans, for all their talk about the importance of individual responsibility, seem unwilling to let the poor exercise it themselves. They’re sure that enough poor people will abuse the system that some bureaucrat needs to exercise responsibility for them. Similarly, Democrats want to ensure the dignity of the poor, but how is anyone supposed to remain dignified while navigating labyrinthine bureaucracy?

The left should like cash transfers because they can help those we want to help, and take advantage of the information available to those with intimate knowledge of their context. The right should like it because it can replace a series of bloated bureaucracies while returning responsibility to the poor. Everyone should like that it will be cheaper and more effective than what we’ve currently got while creating better prospects for long-run economic growth.

We should absolutely debate whether specific transfers are a good idea (particularly middle-income to middle-income transfers like higher ed subsidies, mortgage interest subsidies, etc.), but for those programs we ultimately take on, we shouldn’t shoot ourselves in the foot by trying to do good by screwing up markets.


*As an economics professor I get to see what economic superstitions recent high school grads have. I’m struck with the confusion between the health of government and the health of the country a government is supposed to be helping. A related pair of confusions is that what a government can do, it should do; and if something isn’t already happening, and might be nice, government should make it so.

Missing from these superstitions is that the fundamental feature of government is force. What differentiates government from any other non-profit organization, is that charities and associations can’t put you in jail if you choose not to behave as they see fit. But for the sake of clarity, let’s put aside that issue and just focus on how the government can help the poor.

A vision for environmentalists

The sun is setting and people start settling in for bed instead of staying up late and watching TV. As fast as battery technology advances, it’s imperfect so we deal with it by using less electricity at night. Similarly, on windy days, people stay inside, but leave once the wind calms down and it’s nicer to be outside. This is a world where people are in tune with the weather and adjust their behavior accordingly.

How can we get such a world? Education won’t be enough (though it will be necessary) because, let’s face it, people are creatures of habit, and lazy people (i.e. 80%+ of the population) would rather leave any given habit alone. We could try to mandate behavior, but that will be costly and the Law of Unintended Consequences promises ironic blow-back.*

Luckily there’s a fairly simple way to effectively nudge people in the direction we (environmentalist-types) would like to see: flexible prices! In a world where a lot of electricity is generated by solar and wind** market determined prices would automatically encourage people to conserve resources and set the pace of their lives to match natural rhythms. Will it be enough? Probably not, but it will certainly be an essential step in the right direction.


* I recently came across the following in The Complete Walker:

I’m tempted to suggest they [trowels] be made obligatory equipment for everyone who backpacks into a national park or forest. I resist the temptation, though–not only because (human nature being what it is, thank God) any such ordinance would drive many worthy people in precisely the undesired direction but also because blanket decrees are foreign to whatever it is a man goes out into wilderness to seek, and bureaucratic decrees are worst of all because they tend to accumulate and perpetuate and harden when they’re administered, as they so often are, by people who revel in enforcing petty ukases. Anyways, a rule that’s impossible to enforce is a bad rule. (p. 698)

** Obviously the likelihood of such a world is a whole ‘nuther can of worms. Let’s leave that for another post.