You're Probably Willing to Price Gouge (and That's OK!)

By Christopher Freiman.

"Imagine that Walt is gently swaying in a hammock on a well-deserved vacation day when his phone rings. It’s his boss. She tells him that his co-worker has an emergency and can’t come into work. Although it’s last minute, she asks if Walt would be willing to work today—otherwise, the store will be too short staffed to open.

Walt says, “Look, I’m enjoying my time off even more than I thought I would. And, as you know, I’ve been looking forward to this vacation day for a month and I’d really rather not come in. But I’ll tell you what—if you give me double pay for the day, I’ll put down the lemonade and get to work.” His employer agrees given that the benefit of opening the store exceeds the cost of Walt’s extra pay.

I suspect that most of you can relate to Walt and, indeed, find yourself sympathetic to his situation—it doesn’t seem like it’s wrong for him to insist upon something extra for breaking up his vacation to clock in at work.

Notice, though, that Walt is guilty of “price gouging.” A wage is just the price of labor, after all. And here Walt is taking advantage of the shortage of labor and raising his “price.” But it also seems like he is making a reasonable ask. 

For one, Walt has the right to ask for double pay to come in on his day off. Here’s the argument:

If Walt is within his rights to not work at all on his day off, he is within his rights to work for double pay on his day off.

Walt is within his rights to not work at all on his day off.

So Walt is within his rights to work for double pay on his day off.

What can be said in defense of the first premise? Consider that, from his employer’s perspective, Walt’s offer of expensive labor is no worse, and potentially better, than an offer of no labor. If she rejects his offer of expensive labor because it wouldn’t benefit her, she’s no worse off than if Walt had not offered to work at all. If she accepts the offer because it would benefit her, she’s better off than if Walt had not offered to work at all. 

As for the second premise, I’d imagine everyone agrees that Walt is within his rights to not work at all on his day off. It’s surely generous for him to come him, but it’s not as though his employer (or the government) may force him to come in. So we should conclude that Walt is within his rights to “wage gouge.”

Moreover, allowing Walt to “wage gouge” has good consequences. If he didn’t have the right to ask for double pay, he’d have stayed in his hammock. And this outcome would have left both Walt and his employer worse off. Walt would be worse off because he wouldn’t receive the pay that he values more than his day off and his employer would be worse off because she wouldn’t be able to open the store, which is something she values more than the double pay she’d give Walt.

If you think that these reasons justify Walt in asking for double pay, you should think that they also justify more traditional cases of “price gouging.” For instance, it seems as though people are within their rights to not offer any ice at all to those at a disaster site (although it might be the generous thing to do). That is, the government doesn’t have the right to force Walt off of his hammock to buy and transport bags of ice to the site. And if Walt may offer no ice, he may offer high-priced ice—it either makes prospective buyers better off, in which case they’ll buy it, or no worse off, since they can simply refuse the offer. Moreover, the opportunity to make an unusually high amount of money can motivate Walt to get off the hammock and bring the ice to those who need it. Although we more readily empathize with “wage gougers” than “price gougers,” we have equal reason to permit both."

How Milton Friedman Can Help Us Get Through Hurricane Milton

To give storm victims the best chance at recovery, let local knowledge and markets guide decisions

By Jack Nicastro of Reason. 

"Hurricane Milton is set to make landfall on Wednesday between Cedar Key and Naples, Florida, threatening significant damage along the Gulf Coast. The region is still reeling from Hurricane Helene, which claimed at least 234 lives and caused over $30 billion in property damage, according to CoreLogic, a real estate information services provider. Despite expensive emergency aid programs, too many Americans remain in dire straits. Instead, policymakers would be wise to consult the teachings of Nobel laureate economist Milton Friedman: "you don't let prices rise, you destroy the system…which coordinates the activities of different people."

It's understandable to call for government assistance when faced with the havoc wreaked by natural disasters. But the government is just one kind of human institution—one that often lacks sufficient information to help people. To deliver disaster victims the goods and services they desperately need, it's better to rely on market mechanisms.

In the early and mid-20th century, so-called market socialists Oskar Lange and Abba Lerner argued that centrally planned economies are theoretically more efficient than capitalism. But Ludwig von Mises and Friedrich Hayek disabused technocrats of such fatal conceits, winning the calculation debate and elucidating the knowledge problem. The historical record has empirically substantiated the superiority of markets to create, allocate, and innovate.

"But," the stubborn statist objects, "markets only work under normal conditions; in emergency situations we need the government to resolve the crisis." While such arguments are politically popular, they are economically vacuous.

The state does not become omniscient during times of crisis and the price system that conveys information about local circumstances is especially useful during such times. Recognizing their lack of knowledge, governments should adopt the following laissez faire policies to allow those with the know-how to recover from disaster.

Before: Don't create moral hazard

The federal government should not distort the single most reliable signal of risk: homeowners insurance. By subsidizing the premiums of insurance in Special Flood Hazard Areas (SFHA) through the National Flood Insurance Program, the Federal Emergency Management Agency (FEMA) has shielded residents from the expected consequences of living in disaster-prone areas.

During: Don't impose price ceilings 

Economist George Horwich argues that post-World War II West Germany and Japan show the salutary effects of markets in the aftermath of disasters because the economic and human devastation suffered during wartime is analogous to that imposed by natural disasters. Notably, recovery in West Germany and Japan "began only with the removal of price ceilings imposed during the wartime inflations," says Horwich.

Increased prices for gas throughout the Gulf Coast during Hurricane Katrina "attracted imports of gasoline from overseas," increasing supply and lowering prices, explains the Foundation for Teaching Economics. Imposing price controls denies consumers the ability to express "their preferences and denies producers the information" they need to allocate their goods to their highest-valued use, Horwich concludes.

After: Suspend rent controls 

In the aftermath of a domicile-destroying disaster, one of the most important things to do is house the homeless. To incentivize the construction of new apartments, condos, and single-family houses, policies should be adopted that increase expected returns. The simplest way to do this is eliminating rent controls that "inhib[it] the rapid market-wide expansion and sorting out of the remaining housing stock," Horwich explains.

The absence of rent controls alone enabled the rapid rebuilding of San Francisco following the earthquake of 1906 that killed 3,000 residents and destroyed 80 percent of the city's buildings. Following a 1985 earthquake, Mexico City did not witness the same recovery thanks to a 1947 rent control law that "left owners of nearly a square mile of real estate [with] no incentive for repairing it," per Horwich.

The laws of supply and demand do not disappear in the event of a disaster: Markets still direct resources to their highest-valued use while encouraging their conservation—exactly what needs to be done in response to supply shocks.

While high prices do prevent some from buying what they need, scarcity, though tragic, is inevitable in the immediate aftermath of a disaster. Government-imposed price controls perpetuate the shortage while market prices incentivize entry and expand supply. The government should avoid scrambling the very signals that allow consumers and producers to recover from devastation."

Total markups were stable over 2018-2023 despite inflation

See Markups and Cost Pass-through Along the Supply Chain by Santiago Alvarez, Alberto Cavallo, Alexander MacKay, and Paolo Mengano.

"Abstract

We study markups and pricing strategies along the supply chain. Our unique dataset combines detailed price and cost information from a large global manufacturer with matched retail prices collected online for the period July 2018 through June 2023. We show that total markups—reflecting the difference between retail prices and production costs—are stable over time, despite the inflationary period at the end of the sample. Along the supply chain, manufacturer and retail markups are negatively correlated. For the most part, we find similar patterns across countries, though there is substantial heterogeneity in the split of markups between the manufacturer and retailers. Our analysis also reveals divergent pricing behaviors in response to cost shocks. The manufacturer adjusts prices more quickly than retailers and appears to more fully incorporate idiosyncratic cost shocks to specific products. Both types of firms respond more quickly to expected costs than to unexpected costs."

More from Alberto Cavallo via Twitter. 

"Key Finding 1: Total markups faced by consumers (retail prices relative to production costs) were stable during the recent inflation surge. Contrary to claims of "greedflation," we do not see any discrete change in total markups, suggesting that the increase in retail prices for these goods mostly reflects increases in manufacturing costs."

"Markups in other countries have similar patterns to those in the US. The distributions of total markups are strikingly similar across countries, although there is heterogeneity in how they are split along the supply chain. In the time series (not pictured), Mexico shows the greatest volatility in markups."