The problem with price gouging laws

When disaster strikes and supplies are in short supply, sellers respond by raising prices. They do this because demand is high and at that moment people are willing to pay higher prices for what is normally a low-priced good. This in practice is called price gouging and it is happening right now.

The coronavirus has instigated a shortage of numerous goods. And people are raising prices for essential supplies like hand sanitizer, toilet paper, and food supplies. States, including Minnesota, have reacted by putting in strict anti-price gouging laws.

The morality of the issue aside, making price gouging illegal poses serious consequences for people. What we call price gouging is demand and supply interacting to signal market conditions. Prices need to rise during shortages in order to signal to suppliers there is an increase in demand. These high prices incentivize more production as producers try to take advantage of the high profits that come with high prices.

Anti-Price Gouging laws cause harm

To an extent that price gouging laws incentivize production, anti-price gouging laws harm people by creating shortages.

In normal circumstances, markets have an everflowing supply of goods to supply to customers. The case is different in a time like this when disruptions to the economy cannot provide every individual with all their wants and needs. It becomes a matter of who values a  good or service more than another person.

In a sense, the rise in prices is only a manifestation of a shortage that has to be satisfied. Without a rise in prices, suppliers will not get a sense of where demand is the most urgent. Keeping prices the same conveys the message that nothing has changed in the market, that there is no shortage. Nothing, therefore, motivates extra production or entrepreneurship and innovative ways to reach customers.

Price gouging, even though it aims to protect customers, may end up hurting them. Making higher prices illegal not only restricts supply but prevents people who can buy at a higher price from obtaining services. Generally,

if you cap price increases during an emergency, you discourage conservation of needed goods at exactly the time they are in high demand. Simultaneously, price caps discourage extraordinary supply efforts that would help bring goods in high demand into the affected area. In a classic case of unintended consequences, the law harms the very people whom lawmakers intend to help.