Unintended Consequences of Price Gouging

Toilet paper GettyImages-1214084312

Price gouging legislation, though popular, routinely backfires. Price controls make shortages worse. In a crisis, this is especially harmful. And even if price gouging legislation were to tamp down money prices, it worsens increases in non-money prices such as greater scarcity, more difficult searches, longer queues and waiting lines, longer shipping times, and, sometimes, increases in black market activity.

There are private responses to price gouging, though. Amazon, for example, uses artificial intelligence to find price gouging among its third-party sellers. But even this non-legislative effort has had unintended consequences. Bloomberg’s Spencer Soper reports:

But consultants who help merchants avoid suspensions say they were inundated with calls from clients during the price-gouging crackdown. One of them, a former Amazonian named Chris McCabe, says he heard from hundreds of merchants and advised dozens of them to stop selling products because the rules were unclear.

“Amazon just did a giant sweep and they really scared a lot of people away from selling wipes and toilet paper,” he says.

Many sellers believe Amazon’s algorithm is prone to false positives, and its penalties are too harsh. The resulting chilling effect helps no one at a time when just about everyone needs help.

Fortunately, unlike legislation, Amazon is able to react in real-time and improve its price gouging policies. This process will almost certainly take less time than it would for Congress or a state legislature to pass a new law. Part of trial is error. And good institutional design makes it easy to learn from errors and fix them as they happen. These things should not have to wait until the political winds are just right.

There is also a rent-seeking component to price gouging legislation. Economists Steve Horwitz and Michael Munger, in separate interviews with The Counter’s Jessica MacKenzie, make some underappreciated points about price gouging.

Steven Horwitz, an economist from Ball State University, says the cases in California are unusual in that they target large chains, when it is more common to see cases against smaller brick-and-mortar stores. This is in part because smaller stores have fewer resources and are more likely to settle than to fight a lawsuit. 

A national seller can react to regional disaster by simply redirecting supply. They can also afford expensive counsel. Smaller companies have neither of these advantages, so legislation makes them more vulnerable. Price gouging legislation can actually be a rent-seeking weapon big companies can use to gain unfair advantage over smaller companies.

Of course, COVID 19 is global, so even the biggest sellers cannot redirect supplies. Hence the recent California lawsuit against Whole Foods, Walmart, Trader Joe’s and Costco, and other large sellers over egg prices.

Duke University’s Michael Munger argues that some price gouging laws lack clear thresholds, which creates uncertainty. Some states have set thresholds, such as a maximum profit margin of 20 percent. But other laws operate essentially by feel:

Munger points out that the law in North Carolina bans price increases that are “unreasonably excessive under the circumstances.”

Price gouging laws are meant to protect consumers from being taken advantage of during crises.

“If I’m a store owner, how do I know if I’m violating the law in North Carolina?” Munger says. “In practice, what this means is, ‘If someone complains….’ That’s not a very good law. If I can’t tell what the law means, it’s too vague.”

I will have more to say on price gouging in an upcoming paper. But these points are good to keep in mind.

Even private price gouging responses have unintended consequences, such as sellers deciding not sell at all right when people need their wares the most.

Price gouging legislation can unfairly favor larger businesses, and they know this.

And many of the laws are vague enough to have the same chilling effect Amazon’s algorithm has had—but will be much more difficult to fix.

Price gouging laws are #NeverNeeded.