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“Price-Gouging” and Monopoly

Here’s a letter to a very thoughtful correspondent:

Mr. Robert Rohne

Mr. Rohne:

Thanks for probing my opposition to government prohibitions on so-called “price-gouging.”  You ask: “Why not see the high prices as caused by sellers who suddenly get monopoly power” in areas devastated by natural disasters?  Good question, for framing the issue as one of monopoly power creates the strongest possible case for government-imposed price ceilings.  Still, I believe that the case for price controls remains weak.

The chief problem that remains is that, even if the high prices are exclusively the result of monopoly power (rather than of a decrease in supply occurring suddenly and simultaneously with an increase in demand), prohibiting prices from rising nevertheless, as a practical matter, causes the quantities supplied of the price-controlled goods to fall short of the quantities demanded.  Therefore, with price controls some non-price method, such as queuing, must be used to ‘decide’ which of the many demanders will be among the fortunate few actually to buy the monopolists’ goods and which of the demanders will be obliged to go without.  What reason is there to assume that this non-price method will result in a better ‘distribution’ of goods than that which would arise without price controls?

You might answer that poor people are better able than rich people to queue.  Perhaps.  But merchants with monopoly power are unlikely to allow queuing to determine who buys their goods when the prices of those goods are capped by government.  Remember: when merchants possess monopoly power, price controls do nothing to reduce this power; competition remains absent.  Denied the ability to use their monopoly power to raise prices, merchants express that power in other ways.  For example, these monopolist merchants hold more inventories aside to be sold at the capped prices to powerful politicians, to family members, to neighbors, or to business associates – not all of whom need (and perhaps none of whom needs) the supplies as much as do the ordinary customers who would prefer to pay high prices for the supplies rather than be unable at low prices to acquire any of the supplies.

Indeed, not only do price controls do nothing to reduce merchants’ monopoly power; price controls promote such power.  Merchant Jones’s high prices today might truly reflect monopoly power.  But those same high prices are the single best incentive for new suppliers tomorrow to bring goods to market in competition with Jones.  If your concern is that merchants in the wake of natural disasters possess monopoly power, allowing prices to rise – allowing merchants to express their monopoly power openly in the form of high prices rather than surreptitiously, such as by reserving inventories for sale to powerful elites – is the policy most likely to end that monopoly power as quickly as possible.

Donald J. Boudreaux
Professor of Economics
Martha and Nelson Getchell Chair for the Study of Free Market Capitalism at the Mercatus Center
George Mason University
Fairfax, VA  22030