Jun 2, 2016

Why Rationing Is Irrational

In the fall of 2012, my area of the country was hit with Hurricane Sandy, "the deadliest and most destructive hurricane of the 2012 Atlantic hurricane season, and the second-costliest hurricane in United States history," according to Wikipedia.

One result was a gas shortage, which predictably led to gas rationing to prevent "price gouging." Suddenly, we were all paying careful attention to our license plates since the rationing scheme in NJ had the last digit on a license plate determining which day you could purchase gas. An odd number meant you could buy on an odd day, and an even number meant you could buy on an even day.

As a thinking libertarian, I knew this scheme -- and rationing in general -- was a mistake. I knew "price gouging" was just a political/media term used to stir passions in defense of socialist policies. But when I went to make my case to my friend Bill, I got stuck.

It was easy to argue that a free market would shorten the crisis. Higher prices would create a big incentive for anyone with access to gasoline to invent new ways to meet demand. It would also create a more important disincentive to drive, which would help resolve the crisis faster.

It was equally easy to argue that rationing is indiscriminate. I invoked images of rich stock brokers in SUVs and their soccer-mom wives in mini-vans clogging up gas lanes ahead of doctors and nurses. Everyone just has to get somewhere "important" when gas is guaranteed to remain cheap.

What was harder to argue is the impact of high gas prices on the working class and the poor. Bill invoked images of only my spoiled rich stock brokers and soccer moms being able to afford gas. When I mentioned alternate ways to get to work, such as public transit and car pooling (which the government wants to encourage anyway for environmental reasons), he pointed out that the proper infrastructure for such methods does not exist in our suburbs. Driving is the only real option to get to work where we live. Gas, then, should be considered essential for survival, and it's the government's job to provide it at affordable prices during short-term emergencies, he argued. (We both agreed that, longer term, such policies were a bad idea. Bill is a capitalist after all.)

After further thought, my solution was that the government should turn certain gas stations into emergency refueling posts for these situations, just like there are emergency shelters for floods and tornadoes. This would allow the efficient free market to work -- gas prices could rise, creating proper incentives and disincentives -- but also allow ordinary people to get gas at affordable prices. People could choose to exchange time (waiting in long lines at the "free" government pumps) for money (short lines at the high-price pumps). This didn't solve the social justice/emotional aspects of the matter, but it solved the practical issues we were debating.

And yet ... I wasn't 100% satisfied with that resolution. I felt like I was missing something important, perhaps a better "slam dunk" argument against rationing. I searched the Internet, but I did not find what I was looking for, so I eventually gave up. Every time I saw an article about the topic, though, I read it eagerly in the hope that someone had thought of a better argument.

Recently, this led me to purchase an entire book just because a blog I read (Farnham Street) suggested it might have the answer I sought. I was not disappointed. The book is Economics Without Illusions: Debunking the Myths of Modern Capitalism by Joseph Heath. Right there in chapter seven is a critique of the "just price fallacy," which includes a thorough debunking of the gas rationing idea. Here are some excerpts that reveal what I had been missing.
Forget about gas prices and suburban commuters—look at the homeless, unable to afford shelter for the night; pensioners on fixed incomes, forced to eat cat food for dinner; single parents threatened by the cold, unable to pay their electricity bill. How can a decent society deny people these essential goods simply because “supply and demand” dictate that the price should be x instead of y? And how can it be right for companies to jack up prices at the first sign of scarcity, thereby imposing the greatest suffering upon those with the least ability to pay?
Good point, Mr. Heath. My fixation on the gas crisis caused me to overlook all of the other price inequities that exist all around us. Why is gas for our cars more important that electricity or proper nutrition? Is someone not being able to get to work (quickly) in the short term more important than freezing or malnutrition in the long term? It's the inconsistency of the seen versus the unseen to think socialism is necessary in the one case but not the other cases.
There are, however, two importantly different ways of looking at the problem. If some people cannot afford food and shelter, the problem could be that these things are too expensive, or it could be that some people don’t have enough money. Similarly, there are two ways of solving the problem: the first by changing the prices, the second by supplementing people’s income. Yet for some reason, people have a tendency to overlook the second option.
That's it! That's what I missed: the second option. Stop messing with prices since we capitalists know prices are the most efficient way to allocate scarce resources. Instead, supplement the income of those who can't afford the increased prices. For instance, give them government gas cards that expire when the crisis does. That's much more practical and efficient than designating and running emergency refueling posts.

Heath puts the cherry on top with a great quote from the socialist economist Abba Lerner. (Apparently there are "economically sophisticated socialists." Who knew?) Lerner concluded that "the solution of poverty lay not with the manipulation of prices but with the distribution of money income." Or as Heath puts it: "[T]he problem with the poor is not the prices they have to pay, but that they have too little money."

Sound too simple? Well, Heath invites us to do the math to show just how perverse rationing actually is. He uses the example of an electricity shortage in his native land of Canada, and the subsequent controlling of rates (rationing) the government instituted to address the problem.
Now think for a moment about what sort of sums are involved. About half of the typical electricity bill represents transmission cost, which would be unaffected by an increase in rates. Thus even a 30% increase in prices would raise the average poor family’s bill by only $100 a year, assuming no change in behavior. Since a “quintile” in Canada constitutes about 2.5 million households, the practice of keeping electricity prices low is therefore delivering a benefit worth just under $250 million to this low-income group.
Yet in order to achieve this relatively small subsidy to low-income households, the government is giving everyone in the society cheap electricity. It’s difficult to imagine a more catastrophically inefficient social policy. Not only does it lead to widespread over-consumption, with disastrous environmental consequences, but the whole policy is extremely regressive with respect to income. 
Of course, poor people spend a greater percentage of their income on electricity, but even then the differences are not as great as one might think. The middle-income quintile spends an average of $1,117 per year (2.4% of income), while the upper quintile spends $1,522 per year (1.1% of income). This means that the $250 million annual gift being bestowed upon the poor is coupled with a $408 million gift to the middle class and a $556 million gift to the richest 20% of the population. Needless to say, a welfare program that required giving $2 to a rich person for every $1 directed to a poor person would hardly be regarded as progressive (emphasis mine).
That's exactly the sort of slam dunk I needed! It turns out that in both scenarios (price "gouging" and price fixing), those rich stock brokers and soccer moms will benefit unfairly. Beyond what is most efficient as a method of resolving the crisis (e.g. a free market with government gas cards), the best solution would also address the social justice aspect of the situation. That's what's really driving the public outrage, media coverage and political pandering when prices spike. But Heath has shown rationing is not that solution. It just benefits the rich in a less obvious way. Whether you're a capitalist or a socialist, rationing is irrational.

Oh, and here's a parting shot:
In 2005, households in the lower-income quintile of the population in Canada spent an average of $663 per year, or 3% of their income, on electricity. They also spent an average of $344 per year on cable or satellite television services, and an additional $165 on home entertainment expenses such as audio and video equipment, DVD players, camcorders, and video rental. This doesn’t mean that they’re living the high life, but it does mean that there is some discretionary use of electricity going on, even in poorer households.
I argued this point during the Sandy crisis, too, having observed how the incredible luxuries of America life (e.g. cable TV) have somehow become necessities of life in our way of thinking. But I had to admit that argument had no chance of persuading anyone. I'm not a politician for a reason.

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