Why prices should be allowed to rise after a disaster

In the aftermath of Hurricane Sandy, the New York and New Jersey areas of the US suffered shortages of gasoline and other necessities for several days. This is not unusual as almost every major natural disaster involves shortages like this. However, these are not ‘natural’ phenomena that must occur after disasters, rather they are social disasters caused by laws that prevent sellers from raising prices during disasters. Often derisively described as anti-social ‘price gouging’ (a term that has no objective content in economics), raising prices after a disaster is the only way to speed up the process of getting needed supplies to the stricken area and assuring they are allocated to where they are most needed.

There are three reasons that letting prices rise is socially desirable. First, keeping prices fixed when demand rises after a disaster produces shortages that require other forms of rationing, such as waiting in line. Waiting in line doesn’t keep the cost down; it just adds the cost of people’s time to the monetary price. This often makes the good more expensive than it would be if people just had to pay higher prices for it. Someone who makes $20 an hour and waits two hours for gas (as people had to in parts of New York), might happily pay a dollar or two more per gallon if it meant no line. This is especially true after a storm where people need that time to clean up and make repairs. If prices can rise, the lines will disappear as the higher price leads some people to not make the purchase, leaving more for others.

This process of deciding whether the higher price is worth it points to the second advantage of letting prices rise. A higher price induces consumers to prioritise their purchases. If the price of gas doubles, potential buyers must now decide whether their particular need for that gasoline is important enough to pay the higher price. For some, perhaps those running gasoline-powered generators keeping important items cool, the higher price will be well worth it. For those who want to take a drive to see how the damaged neighborhood looks, they might decide to walk instead. So while gas may become more expensive, we can be more confident that it is being used to satisfy more urgent wants than it would be if we prevented prices from rising. We can also know that if we need gas, there will not be hours of waiting to get it.

The third benefit of letting prices rise might be the most important. Prices are not just abstract numbers, they are knowledge wrapped in incentives. In the words of economist Art Carden (see short video here), they are like a signal flare that can be seen for miles. If prices are allowed to rise, it will attract new supplies of the shortage good into the stricken area. A high enough price will both inform and incentivise sellers of that good who are some distance away to pay the transportation costs of moving some of their stock into the disaster zone. Higher prices might also lead some people who normally engage in other forms of economic activity to switch over to trying to sell stocks of the good in question by buying it up in one place and transporting it to the area facing the shortage.

As additional supplies arrive in both of these ways, not only do they provide the goods that people need, they drive prices back down in the process. Letting prices rise in the immediate aftermath of a disaster does not mean they will stay there forever. Like the signal flare, they only need to activate for a short period to perform their function. Once the price signal is allowed to function, the response by entrepreneurs will, without the force of law, push prices back down toward their pre-disaster level.

Laws that prevent prices from rising are the cause of shortages and lines, and the inevitable conflicts they bring with them. The critics have it backward: what is ‘anti-social’ is not raising prices but passing laws that prevent markets and prices from doing their job of peacefully coordinating human action and providing goods where they are most needed.

2 thoughts on “Why prices should be allowed to rise after a disaster”

  1. Posted 05/11/2012 at 17:00 | Permalink

    The post-Sandy call for price controls was so predictable that Steve really should have published this LAST week.

    Preferably in the New York Times.

  2. Posted 08/11/2012 at 15:00 | Permalink

    A very good example in support of this argument is in the paper “Roofs or Ceilings? The Current Housing Problem” by Friedman and Stigler (1946), available online at http://www.fee.org/library/books/roofs-or-ceilings-the-current-housing-problem/. They describe how, following the 1906 San Francisco earthquake, a free market in rents avoided a housing shortage despite loss of half the city’s housing.

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