Why is price gouging bad? (And why we need it)

“It’s absolutely outrageous that it’s so expensive!” my friend yelled at me.

Her face screwed up into a frown of disgust.

She complained bitterly about the high price of hand sanitiser, but she was pleased that she had found some at last.

Even if it had cost her £54…

54 quid…! For a small bottle of hand gel! Outrageous is the word. [I can think of many more too…]

It seems wrong for shops to put up prices for everyday items like this.

Especially when we’re in the middle of a viral pandemic where personal hygiene is a key factor in preventing the spread of Covid-19.

Why is price gouging bad? A red title box overlaying a gold calculator and gold accessories on a marble table.

For my friend, that bottle of hand gel could be the difference between her family getting ill or not. Moreover, she was prepared to pay the full asking price for it.

Even if it means she’s now embarrassed by the amount she’d paid.

It appears really unfair, doesn’t it?

But, believe it or not, there are many reasons why raising prices after emergencies or disasters is not illegal.

And there are some occasions when it is just sheer greed. You can learn to spot these and get your money back.

However, things are not always what they seem, and with situations like this, there’s often far more going on than meets the eye.

So, in this article, I’m going to explain what price gouging is, why it is legal, and why we may actually need it.

What is Price Gouging?

The prices of goods suddenly going up at a time when people need them is called price gouging. The dictionary definition describes it as an act or instance of charging customers too high a price for goods or services, especially when demand is high, and supplies are limited. However, there’s no legal definition for it.

And why is it bad?

Fairly obviously, it appears to take advantage of people in their hour of need. And, on the surface, it’s immoral. Surely, everyone agrees it’s unethical to force buyers to make difficult decisions under stressful circumstances?

For my friend, deciding between an expensive and necessary item or deciding whether to save the money for an alternative was a dilemma. However, although she begrudged paying £54 for a bottle of hand sanitiser, she’s in a position where she can. So, she paid up and bought the gel.

However, many people wouldn’t have the option. They’d have to go without hand sanitiser. And this seems really unfair.

Shouldn’t everybody have access to these goods when they need them?

There are other reasons for not allowing price gouging, too.

Arguments against price gouging

Besides the ethical one above, I’ve heard many other complaints about price gouging. These are some of the most common ones:

  1. Being able to pay for something you think is necessary is not the same as needing to. Some say price gouging puts basic necessities out of the reach of the poor people who really need them. Expensive hand gel means those who don’t have much money can’t afford it, for example. Apparently, this creates an inefficient allocation of hand gel because those who really need it can’t get it.
  2. It breaks the social contract. “We’re all in this together“, said Prime Minister Boris Johnson about the 2020 coronavirus pandemic. In times of disaster or emergencies, people often like to feel that everybody is in the same boat. There is an argument that price gouging breaks this contract by creating an environment where we all compete. However, only the rich can win. Some folk say that this can lead to panic buying and hoarding by those who can afford to do so.
  3. Fairness is as important as profit. Many of us like to think things are fair, especially in hard times. We don’t like to think of people profiting at someone else’s expense. This argument emphasises the peer pressure that we put on one another not to hoard and price gouge.
  4. The government should intervene. In an emergency, such as a national pandemic, many people like to argue that the Government should deal with shortages of goods by buying them centrally and then distributing them according to need. It sounds fair?
  5. Leads to inefficient displacement activity. In other words, we have to spend time finding places to buy goods at a cheaper price. It also means that those people who buy up loads of goods, like hand-gel, from shops to later sell them for a higher price are adding another entity into the supply chain. These people aren’t making any extra hand gel. However, they become another link in the logistic chain, making it bigger, slower and less efficient from the factory to the customer.

But is price gouging illegal? Can it get you into trouble?

All those arguments against price gouging sound pretty reasonable on the face of it, don’t they?

But price gouging isn’t actually illegal in the UK. And in the US, it depends on the state. In many US states, price gouging is illegal during a time of emergency or disaster. Hearing this, I was really surprised. So, I researched it more.

In the UK, one of the reasons price gouging is not illegal is because there is no legal definition of it. If it can’t be defined, it’s really hard to say whether someone or something is price gouging or not. However, in the case of an emergency, like the coronavirus pandemic, price gouging usually means increasing a price artificially.

What is artificial pricing?

In theory, it’s someone deliberately raising prices above what ‘the market’ would charge to make a profit. In practice, it’s a bit harder to nail down.

For example, it costs companies more to supply goods and services to an area hit by a flood. Consequently, firms have increased costs to cover selling their goods. So, the prices go up. Fair? Probably, yes. This is unlikely to be an artificial increase.

However, if someone stockpiles goods needed after flooding, like bottled water, and deliberately sells them at a high price after a flood, is this an artificial increase?

You could argue that it is. (Assuming someone buys it.)

But, if people can’t get water elsewhere, the water will likely go to those prepared to pay the higher price for it, similar to an auction. Is it still an artificial increase?

It’s such a grey area, which is probably why overpricing is not a breach of the UK’s competition law. However, businesses can’t collude under the same law to set high prices. That is illegal. Also illegal is a large and dominant business charging an excessively high price.

But then we need to work out what’s excessive?!

Again, in theory, excessive pricing happens when an item is for sale at a price way above its economic value. But, if there’s a water shortage, the value of drinking water for sale is probably pretty high for those who need it…

So, we’re back at the beginning. And things aren’t as clear-cut as they seemed.

Price gouging economics

In normal times, like those before the current Covid-19 pandemic, companies like Andrex would sell certain quantities of toilet paper to meet a specific demand for it.

When the UK Government announced its lockdown response to the pandemic, there was a huge surge in the demand for toilet paper across the UK. At the same time, factory workers had to stay at home, isolated or working to comply with government directions. This had a knock-on effect on the amount of toilet roll that firms such as Andrex could supply. (Economists call this a ‘supply shock‘.)

Over the course of the lockdown, this behaviour repeated for other items like:

  • hand gel,
  • face masks, and
  • ventilators.

For retailers who could get hold of these supplies, there was the possibility of making a profit by selling goods at a high price to needy buyers. And for manufacturers, higher prices mean they can afford for people to work overtime to try and compensate for the work lost by those workers isolated. So, more toilet paper is produced and distributed to where it’s needed.


Consequences of price gouging

Supermarket Budgens was slammed for ripping off its customers by charging £4 for one pack of 4 x toilet rolls. However, if you click on the article, you’ll note that a toilet roll is still on the shelf. And if you keep reading, you’ll see that the equivalent Waitrose offer, at £2.25, was out of stock. Leaving aside the emotion, this is a beautiful example of the power of pricing, or price-gouging economics, in action.

By inflating the price, Budgens made people reconsider whether this pack of £4 toilet rolls was really necessary to get them through the next couple of weeks (despite the fact that the shops were still open). In contrast, the Waitrose shoppers cleared the stock! Perhaps many shoppers also bought more than one pack of loo roll to stock up with at home before shops caught on and began to ration purchases. (Remember those conversations with friends about stocking up before everything goes? Completely human.)

This example shows that if there’s no financial incentive to do so, no one voluntarily cuts back to accommodate others’ needs. One shopper may get two or three packs of toilet rolls; another shopper may not get any. Is this fair? I don’t think so.

And who gets that last pack on the supermarket shelf before it all runs out again…?!

We’re now back to the auction method of deciding who gets the prize unless there’s another way to decide who needs the toilet roll more. And this is where who you know, or how well you deal with confrontation, becomes all the more important if you want that toilet roll. Is this a breach of the so-called social contract? I think it is.

Alternatively, raising prices or price gouging in an emergency situation creates self-rationing and encourages you to re-assess how much you need the item on sale. It also creates incentives for manufacturers to produce more of the needed goods and for retailers to stock them.

This means we, as consumers, get what we need, leading to less social friction, more economic efficiency and a happier and better-off society.

What happens if we legislate against it?

So, despite appearing really unfair on the surface, price gouging can be beneficial to us all, especially during emergencies or disasters. Don’t forget that in normal times, if someone overcharges for an item or service, we can look elsewhere. But this doesn’t happen during an emergency.

One of my big tips for making decisions is to always look at the effects of the potential decision we want to make.

So, if you still think price gouging is unfair, then you may want to fix it and make it illegal to try and keep prices lower. But what’s likely to happen?

Have you ever tried getting a free parking spot in the town centre…?! The sheer amount of people looking for convenient free parking means you can drive up and down the road loads of times until you find a parking space!

Or, have you tried to buy that bag you want in the sale? Did you discover it was sold out because you weren’t quick enough? (This happens to me all the time…)

With lower prices comes bigger demand.

This means supplies are quickly snapped up.

When prices are artificially lowered, it’s first come, first served. Much of the time, unless you’re one of the lucky few, you can’t get what you want.

One of my favourite examples of legislating against price gouging is from the 16th-century Spanish blockade of Antwerp. [Hear me out here.]

This blockade caused high prices of food for the residents of Antwerp and encouraged smuggling into the city through the blockade. The profit reward was a huge incentive for smugglers to risk being caught entering or leaving the city by the Spanish. The smuggled food allowed Antwerp residents to continue to resist the Spanish invasion.

However, there was a political backlash about high food prices. So, the Antwerp authorities set a cap on them, making it illegal to charge more than the cap, and with harsh penalties for violators. What happened?

People stockpiled the artificially lower priced goods, smugglers were less willing to supply the city, food shortages occurred, and Antwerp surrendered to the Spanish – the classic consequences of price control.

So, if we want to legislate against price gouging, then we need to prepare ourselves for shortages. After an emergency or disaster, this is the worst possible outcome. Surely, we want as many people as possible to get what they need when they really need it? Price gouging, despite the initial distasteful nature of it, lets us do exactly this.

The bottom line: Price gouging is distasteful, but it’s better for us in the long run

Price gouging is objectionable when it happens. This leads to pressure on politicians to cap the prices of goods and services. But, doing so has a negative effect on the supply. Prices should not be seen as a thing in themselves but as a lever to changing the bigger economic picture. And after an emergency, it’s this bigger context that we need to focus on.

In addition, if we don’t allow prices to go up, there are other issues that arise:

  • Who decides who needs the item? Don’t we all need essential goods and services? Without prices, cronyism or brute force is more likely.
  • Hoarding is unfair to those who aren’t first in the queue (toilet roll, anyone?)
  • Firms have no incentive to get goods and services to where they’re needed. Not every manager watches the news 24/7 to see where their stock needs to go, and
  • As for government intervention, it is by buying goods centrally and then distributing them. Personally, I’m glad I get my food directly in the supermarket!

In addition, far from breaking the social contract, price gouging reinforces it by ensuring the majority get what they need rather than only the lucky or connected minority. Highlighting where demand is highest efficiently gets goods and/or services to where they’re most wanted.

In short, price controls create shortages. Allowing prices to rise stimulates supply.

Moreover, perhaps price gouging is not as bad as we initially thought. In fact, I’d go further and say that its consequences are really useful. When we focus only on the initial price rise of a good or service, we miss the bigger context.

The best way to deal with emergencies is to ensure we’re prepared enough to last long enough for price rises to take effect on the supply chains of those goods and services we need.

So, £54 for a bottle of hand gel, anyone?

Er, not this call sign. (I use soap.) But I’m glad there are people like my friend who did decide it was worth the expense. Thanks to people like her, more hand gel was produced to meet the increased local demand. And now, everyone has it!

What do you think about price gouging?

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