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(image credit: Alex W)

Pricing under pressure.

Should morality, rather than the market, dictate the right price of goods and services in emergency situations?

In his book Misbehaving, behavioural economist Richard Thaler relates an interesting experiment he conducted with Daniel Kahneman and Jack Knetsch. In the days when Amazon’s Mechanical Turk was but a mere twinkle in Jeff Bezos’ eye, they got a bunch of randomly chosen Canadian citizens to give their views on the fairness (or lack thereof) of economic transactions. In one famous example, they asked whether it is fair for a shop to raise the price of a snow shovel from $15 to $20 the morning after a large snowstorm.

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Selling shovels, not pole dancing! (And not a genuine picture)

Do higher prices lead to a better outcome?

Yet that economic “law” clearly does not find favour with non-economists. This was apparent again as hurricanes Harvey and Irma devastated Houston and much of Florida. According to a New York Times article, more than 8,000 complaints of price gouging for supplies like fuel and food were made. Many people tend to have a strong intuitive concept of a price: it should be production cost plus a modest profit margin (this is captured in the labour theory of value). Rising prices, especially if they are manifestly not related to a rise in production cost, look like profiteering.

Wisdom from the past

Talking of John Locke, the economists’ argument that the market should set the price has authoritative support. More than 300 years ago, the famous 17th century philosopher examined the morality of market prices in a short essay, Venditio (well worth reading). Through four examples, he shows that a supplier selling at the market price is acting morally and justly. For example, if the market price for wheat is 10 shillings per bushel, consumers would not benefit from a supplier selling at last year’s 5 shillings per bushel. “Others would buy up his corn at this low rate and sell it again to others at market rate, and so they make a profit off his weakness and share a part of his money.” However, making “use of another’s ignorance, fancy or necessity” to sell them things at a higher price than to others is cheating.

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It’ll be a while before we can reopen this store. (source: LinkedIn)

The inevitable trade-off

Market pricing is the lousiest mechanism for allocating scarce goods or services in an optimum way, and to signal demand increases to potential suppliers… except for all the others. There are extreme circumstances in which rationing is better to ensure that everyone gets some essential goods, economist Tyler Cowen says in his Bloomberg column. But most of the time we have a choice between empty shelves and high prices. We can’t have our cake and eat it.

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Written by

Accidental behavioural economist in search of wisdom. Uses insights from (behavioural) economics in organization development. On Twitter as @koenfucius

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