Let’s get one thing straight (again): price caps won’t help, and almost surely will make things worse. Sure, we understand the motivation behind putting a government-sanctioned ceiling on what someone can charge for widgets, apples, or (to pick a commodity at random) gasoline.

The latter, of course, is a topical subject at the moment when it comes to the latest effort to circumvent, manipulate and otherwise ignore the forces of supply and demand. Hawaii’s Public Utilities Commission on Wednesday announced price caps for gasoline in the state. The new law, which says wholesalers can charge no more than $2.16 a gallon for regular or roughly $2.74 when taxes are included, takes effect September 1. Maybe it’s the isolation mindset that comes from living in the middle of the Pacific. Or, perhaps it’s the fact that Hawaii suffers from the highest gas prices of any state. But whatever the reason, facts are still facts.
Indeed, the heart may agree with Hawaii’s decision, but the head is apoplectic over the news. History is vague on many subjects, but when it comes to price caps–and price floors, for that matter—the evidence is pretty clear: don’t try this at home.
The basics for understanding why price caps are the regulatory equivalent of a wet rag can be found in countless real-world examples. Type “price caps” into Google and see for yourself. Here’s but one instance of how price caps ultimately conspired to make a bad situation worse. Remember the electricity crisis in California in the summer of 2000? A quick refresher: electricity became scarce in no small part because regulators decided to impose a price cap. As Adrian Moore and Lynne Kiesling have written, those price caps were “a recipe for blackouts and higher long-run costs.”
In fact, the result is almost always the same whenever price caps rear their ugly head. There’s no great mystery as to why. Price caps create a disincentive to increase supply. And since price caps are usually dispatched in times of supply shortages and (surprise, surprise) high prices, the notion of further restricting supply is up there with such brilliant ideas as the Fed’s restrictive money supply policy in the early 1930s. Throwing gasoline on a fire, in other words, has the usual effect.
But hope, albeit a misguided hope, springs eternal. What, we wonder, does Hawaii expect to find at the end of the price-cap rainbow? Yes, escalating gasoline prices are taking a toll on consumers, especially those with lower incomes. But is the prospect of dramatically lower quantities of gasoline a solution?
Economics teaches that you can control price or quantity, but not both at the same time. Hawaii’s regulators either don’t know that, or choose to ignore it.
As for trying to figure out a better solution, that starts with looking at the facts. Fact one: the absence of price caps didn’t get us into the current energy mess, and the imposition of said caps won’t get us out. The real solution lies elsewhere, which includes such things as building more gasoline refineries, and enacting legislation that creates incentives, if not mandates more efficient energy use. Of course it’s easier to announce price caps, and then go home and declare victory.
Meanwhile, informed minds can argue about what’s the best way to proceed in what some are calling the post-oil era. This much is clear: price caps not only won’t help facilitate the transition to a post-oil era, they’re likely to delay the process. Prices in a free market deliver signals about how society values commodities and services and, by extension, the related alternatives to using those commodities and services. To the extent the government steps in and second guesses the market and effectively tells society that gasoline is worth less than its free-market price, that creates new but ill-advised incentives and disincentives.
Since the Nixon administration, the United States has talked a good game about reducing oil imports and becoming energy independent. But it’s been mostly talk, as the millions of SUVs on the road attest while oil prices reside north of $67 a barrel. One of the reasons America’s energy policy has made little, if any progress since the first oil crisis of 1973-74 is that the incentive to do something else has been missing in action. In other words, gasoline costs have remained, until recently, low in inflation-adjusted terms.
Bending over backwards to keep gasoline prices low scratches an immediate political and consumer itch, but in the long run it boils down to this: the post-oil age will only commence in earnest when the pain of doing nothing exceeds the anxiety that comes with trying something new. We’re not advocating higher gasoline prices by any means (we drive too!), but supply and demand don’t lie. That said, it behooves a great nation to figure out how we get from here to there, even if it’s one state at a time.

3 thoughts on “THE TROUBLE WITH CAPS

  1. David

    Excellent analysis. Waht is your opinion on where the prioce of oil is headed? There is an interesting debate currently raging on the actual supply of the world’s oil reserves. It seems many are now siding with the side that supply can not keep up with demand and that $70-$80+ oil (or higher) is here to stay.

  2. Carl Diamond

    I think that much of the problem resides in your last sentence with the words “great nation”. I suppose in many ways we still are, but when compared to the hungry energy eminating from China, India and emerging countries worldwide, we feel tired, bloated and self-absorbed.
    Here we are, bogged down in a discretionary war, endless arguments about intelligent design and a poor blue collar class that has been convinced to overthrow the aristocracy by granting it tax cuts.
    We need to take a page from the peak oil debate and ask if we too have peaked as a great nation. It feels as though we have.

Comments are closed.