Wednesday, September 07, 2005

Why we should not cap gas prices

I found this when I was researching gas prices for a friend who is convinced that prices should be capped. I disagree! Let markets work.

The FinancialRounds does a good job of explaining why capping is not a solution:

"we have to have some mechanism to allocate the available gas among the people
who want it. You can do it by lottery, by government fiat (i.e. you get a
"ration card"), by random chance, by staying in line, or by market mechanisms
(i.e. prices)....If supply decreases (say, following a hurricane), prices rise. If they rise high enough, you might decide that it's not worth it to drive to your favorite restaurant, and instead you might choose to drive to one closer so that you have more money to spend on other things. This leaves more gas available to the folks who place a higher value on it.

Well said!

8 comments:

Anonymous said...

Oh absolutely - let markets work, please! There is no better way to insure that those who need gasoline can go to the pump and find it. There was a great article on the editorial page of the WSJ this morning entitled "In Praise of 'Gourging'". It makes the strong, common sense, market-based case.

Anonymous said...

OOps -- bad typo - that should have been "Gouging".

Anonymous said...

I remember Jimmuh Carter's mismicromanagement of gas and how fast the problems went away when he was fired.

Tom, Helath Policy Economist said...

If you are in the area devastated by the hurricane, it is not a matter of choosing to go to a restaurant; it is a matter of being able to go to get clean water for your children, insulin for a diabetic mother, etc. Social costs and social benefits are real and must enter into the equation of appropriate market interventions. Many thousands in rural areas outside New Orleans will NOT be evacuated and must try to survive. It is easy to sit in judgment with your biggest worry how this will affect your stock portfolio. When you see someone getting sick from bad water, and can not afford to drive for help, it is a bit less theoretical.

Economic theory is just that, a theory. To be legitimate it must adapt to realities and not sink into ideological fundamentalism. Market failures exist and short-term solutions, with clear expiration dates, are appropriate at certain times. Those quick to say short-term caps are hard to enforce might want to reflect on the fact that preventable deaths are costly, and one’s child is impossible to replace.

Anonymous said...

I live over in Hawaii and even with the gas prices capped....still sucks. In Maui up to $5.00+ I need a motorcycle to save money on gas.

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Anonymous said...

Tom,
You have in no way explained how price controls on gasoline will help anyone. There is a limited supply of gas. If the government forces a low price more will be used for less important matters leaving less for transport of water and medicine. Price controls will hurt those you wish to help.

Tom said...

This is not an academically rigorous response, but... Price controls are merited in local, short-term instances when the market is severely disrupted in such a way that prices are set without regard to actual supply & demand. That is, when local conditions of monopoly-like pricing are artificially created, or when it is highly likely that suppliers are able to collude to raise prices, without having to actually go through the motions of collusion. Windfall profits are abnormal profits. If we are talking about a temporary shortage (due to some natural catastrophe) of a unique type of steel, which results in a specific type of nail tripling in price, most people agree that the market will correct itself, and people who do not wish to afford the higher cost of building something will simply wait for prices to return to baseline or find a substitute good.

IF we are talking about gasoline, then there will be people who can not afford to wait out the surge in prices, because they have to go for dialysis treatments, need to go buy insulin for their child, need to buy food, etc. That is, pursuing essential daily living activities that they can not reasonably delay without incurring significant damage to health or safety, or possibly even resulting in permanent disability or death. This creates an overall burden for society in health costs. And there is not a substitute good (in the real world, public transportation is not a substitute). The problem of actual prices not fully capturing all externalities is an example of a market failure. The public (all tax payers) have to pay the cost of higher health expenditures and reduced economic output (health costs for un-insured & unemployed getting sick, loss of productivity when workers get sick).

In this case, the government can put into place temporary (i.e. with a definite, built-in, no extension expiration date!), adjustable price controls to ensure that gasoline prices charged to all consumers are directly tied to costs, and not simply opportunistic price gouging.

Capitalism is a (often great) method for describing how markets work, and shedding light on how they work best. Pure adherence to the market is something no-one subscribes to, otherwise no one, on a purely economic argument, would be against child prostitution or murder: prices for both would be set by the market, and if you wanted to protect your child or yourself, you would pay for that protection at market-defined prices. Obviously, most people feel the social benefit of having police, courts and a system of law is worth the social cost of less freedom in lifestyles.

So everyone has a point in which value judgments about social costs and benefits influence the decision of whether or not to intervene in the market. I suggest that protecting poor people from temporary price gouging has a far greater social benefit than social cost, and actually helps improve market efficiency by preventing monopolistic pricing, and allowing the poorest of consumers to keep spending on absolute essentials, such as treatment and/or prevention of disease and death.

Anonymous said...

Higher gas prices mean that there will be a greater likelihood that gas will be available for essential transportation. Price controls will encourage the unnecessary consumption of gas. Then there may not be enough gas for essential transportation regardless of price. Those you wish to help die.

The solution: Let the market set prices. Let local governments transport the poor and sick as necessary. Then society bears social costs not a gas station owner.

Those we call poor in this country are capable of paying for gas. I've done inner city mission work and rural mission work among the poor. I've seen the money they spend on alcohol, tobacco, cable/satelite TV, etc. The idea that they can't pay $4 for a gallon of gas is laughable.