Economics is all about supply and demand. Textbooks are full of examples of these two balancing each other out. However there is a third factor that is forgotten. That is fairness. People are guided by how fair they think something is or is not. Businesses often don’t raise their prices even when demand rises because it is seen as being unfair. Similarly customers often resent higher prices if they feel there is no justification for it. Economists obey the laws of supply and demand, sometimes ordinary people don’t.
Imagine if there is a heat wave and shops respond by raising the price of ice cream. An economist would see no problem with this, after all the shop is just responding to an increase in demand. Yet most people would see it as cynical exploitation. The cost of making ice cream hasn’t gone up, but the shop is getting extra money despite not doing any extra work. There is even a name for this, it’s called “Price Gouging” and it’s illegal in some parts of the world. It violates our sense of fairness. In fact Coca Cola once came up with a vending machine that raised its prices when the temperature rose. An economist could easily justify this. Hot weather increases the demand for a cold drink and its utility so raising prices is logical. However there was an outcry as people saw this as an example of a greedy company taking advantage of thirsty people. The plan was dropped.
I once heard of something similar. A friend told me that a nightclub he knew raised its prices after midnight, the logic being drunken people are willing to pay more for alcohol. My friend told the story in a tone of shock and horror at the thought of something so terrible. This reaction is probably why more clubs don’t do this.
This can have a serious side. Imagine if there was a natural disaster. This would lead to an increase in demand for building materials, but would companies raise their prices? I’m sure that if they did there would be absolute outrage. Their actions would be denounced as greedy exploitation of victims. Sanctions and boycotts would probably follow. Regardless of what economic theory and its graphs would predict, this violates our sense of fairness. In this case fairness, not supply and demand would guide our actions. Compassion and basic decency may be written out of economics, but it still exists in the real world. If anything some businesses will sell their goods cheaper during an emergency. This is what happened during Hurricane Andrew when Home Depot not only refused to raise prices but actually cut them to the point where they would not make any profit.
(In case you think I’m making this up, there are economists who defend price gouging. They argue that it ensures goods go to those you need it most while increasing supply. It is an argument only an economist could make. Actually it ensures the good goes to those who have the most money and has little effect on supply.)
One of the first fire fighting service was in Ancient Rome. It was run by a man named Crassus who would show up at the scene of a fire and charge the inhabitants an exorbitant amount to put the fire out. He would also deliberately start fires to keep himself in business. This model of private enterprise made him the richest man in the city. He was also one of the most powerful partly running the city with the help of Pompey and Caesar. I’m sure there are libertarians somewhere who can somehow justify this.
When there is a recession and a business gets into trouble economists argue that it should cut wages. Yet this rarely happens. Why? Again it is due to our sense of fairness. Employees find wage cuts to be very unfair seeing as they work just as hard and it’s not their fault the business is in trouble. Managers therefore do not cut wages for fear of what it will do to morale. They will only accept a pay cut if the business is in serious trouble. If wages are cut when the firm is profitable there will be uproar (and strikes if there is a union) regardless of what demand and supply suggest.
Humans are social creatures. We are not computers guided solely by money. Instead we take our concepts of right and wrong into account. We will not accept something that is seen as unfair. Economists will defend price gouging at their peril for ordinary people will not stand for it.