Disasters and Economic Fallacies
Every time there is a hurricane, flood, earthquake, terrorist attack, or other disaster that destroys property and takes lives, two common responses are soon trotted out in the media: The silver lining of economic growth when people rebuild, and the evil price-gouging profiteers who need to be regulated with price controls.
The Broken Window
The first argument is a classic example of the Broken Window Fallacy as explained by Frederick Bastiat in That Which is Seen, and That Which is Not Seen.
Have you ever witnessed the anger of the good shopkeeper, James Goodfellow, when his careless son has happened to break a pane of glass? If you have been present at such a scene, you will most assuredly bear witness to the fact that every one of the spectators, were there even thirty of them, by common consent apparently, offered the unfortunate owner this invariable consolation – "It is an ill wind that blows nobody good. Everybody must live, and what would become of the glaziers if panes of glass were never broken?"
Now, this form of condolence contains an entire theory, which it will be well to show up in this simple case, seeing that it is precisely the same as that which, unhappily, regulates the greater part of our economical institutions.
Suppose it cost six francs to repair the damage, and you say that the accident brings six francs to the glazier's trade – that it encourages that trade to the amount of six francs – I grant it; I have not a word to say against it; you reason justly. The glazier comes, performs his task, receives his six francs, rubs his hands, and, in his heart, blesses the careless child. All this is that which is seen.
But if, on the other hand, you come to the conclusion, as is too often the case, that it is a good thing to break windows, that it causes money to circulate, and that the encouragement of industry in general will be the result of it, you will oblige me to call out, "Stop there! Your theory is confined to that which is seen; it takes no account of that which is not seen."
It is not seen that as our shopkeeper has spent six francs upon one thing, he cannot spend them upon another. It is not seen that if he had not had a window to replace, he would, perhaps, have replaced his old shoes, or added another book to his library. In short, he would have employed his six francs in some way, which this accident has prevented.
The cost of rebuilding and repairing creates a visible flow of wealth to those in the construction industry. This is seen. What is overlooked is the cost of restoring that which was already there before instead of purchasing other goods. It is a struggle to return to the previous status quo, not an increase in wealth for the people rebuilding. This is also one of the major problems in Keynesian economic calculation, where flow of money is considered the primary indicator of economic success.
Price Gouging
Disasters create a sudden spike in demand for many goods, such as lumber, water, gasoline, generators, food, and first-aid supplies. This increase in demand is swiftly reflected by a spike in prices for these goods and services. Well-meaning people see these increased prices as predatory profiteering by greedy capitalists, but neglect to consider what purpose they serve. Remember, prices are the primary communications tool for the information network that is the economy. They serve two key functions:
Rationing. This price increase is an automatic mechanism that prevents people from buying more than necessary and ensures that a supply remains for others, rather than causing stock to be immediately made unavailable to latecomers. After all, the same people who complain of "price gouging" also like to criticize "hoarders," too.
Production incentive. The higher prices signal increased demand, encouraging suppliers to bring in the desired goods in short supply from elsewhere to alleviate the need, and rewards them with a profit. This price signal should trigger entrepreneurial activity to deliver goods to the places where they are needed most. This is also viewed as proof of destructive greed by naysayers, but it is again an automatic mechanism that serves urgent needs without any central planning or bureaucratic administration.