Dear Mr Crampton,I normally don't blog these things, but it's a fun problem. And, copying from the outbox is cheap content generation when I'm under time pressure. Here's the answer I gave him. Perhaps Seamus can weigh in if I've led him astray.
I was having a debate with my Uncle this evening about the merits of price gouging. I am a strong supporter of gouging, and was somewhat reinforced in these sentiments by your writings after the earthquake.
My uncle, on the other hand, is not such a supporter. He argues that the role of the state in implementing rationing systems is far more effective. After responding with arguments about how a govt can never judge who needs petrol, for example, the most he used the example of rationing saving millions across the world during and after World War 2.
I am only 16 so I had no knowledge of what actually happened during this period of rationing. I said I would assume that it didn't work as well as a price based system because of theoretical reasons stated above. He said I would be on my own in that view. I immediately thought of your blog.
Would you be able to share with me any knowledge you have of problems of rationing during WW2 and/or reasons a price based system would work better?
Thanks and regards,
Your uncle isn't all wrong. If you have ration cards BUT you allow people to trade their cards with each other, then things wind up being efficient so long as the secondary markets in ration cards are thick enough AND retailers can observe the prices in those markets to help guide supply decisions.I'm far more ambivalent about the benefits of price gouging over rationing during a prolonged war than I am during a temporary emergency. By the time an adequate rationing response would be developed in an earthquake or other sharp crisis situation, it would be too late. No bureaucracy can gear up that quickly. But prices can adjust almost immediately. Just look at Potassium Iodide tablets subsequent to the Japanese earthquake and nuclear emergency.
Imagine that eBay existed during WW2 and folks traded ration cards. Bang! We'd be back to market clearing prices. The net effect then would be equivalent to giving a lump sum transfer to each person equal to the market value of the set of ration cards; folks then would trade efficiently to the optimal bundles. But there are three problems.
First, in thin markets, transaction costs start eating away at the efficiencies. Simple example. Suppose everybody in Kansas loves bacon while everybody in New York hates bacon (yeah, who could hate bacon, but bear with me). The same bundle of ration coupons is given to everybody. And folks mostly trade with their neighbours and coworkers. The price of a bacon ration card would be low in New York but high in Kansas. That's inefficient. Somebody could make money by driving ration cards from New York to Kansas. But that same arbitrageur could also be labeled a war profiteer and subject to at least strong disapprobation.
Second, signals telling suppliers that they need to get bacon as well as ration cards from New York to Kansas are attenuated; they might not find out until stocks run out in Kansas and stockpiles accumulate in New York. This wouldn't be a huge problem if retailers continued with their normal supply chain relationships, in which case the New York retailers wouldn't have ordered as much bacon as the coupon allotment would have suggested New York needed. But it's still a tough call - retailers couldn't know for a while whether New Yorkers would start eating bacon just because they had the ration coupons and they'd run out of other coupon options. If retailers could see trading volumes and prices for the ration cards in different markets, they should be able to back out from that what demand would look like and stock the right collection of goods. But it's all a bit convoluted compared to just using prices.
Third, the system can't adjust to changes in demand. Or at least not easily. If everybody started preferring chicken to bacon for health reasons, they'd use up their chicken allocation in the ration book, then use up their bacon allocation last. How could suppliers tell that people really wanted more chicken? How could the ration board? Even if the ration board set the optimal bundle correctly at the start, the longer rationing goes on, the farther the bundle can drift from what consumers want.
I'm really not much up on whether WW2 ration cards traded in any kind of secondary market or whether there were legal prohibitions on such sales. The alternative would have been to watch the prices of the bundle of goods that would have been rationed and give a wad of cash equal to the market price of that bundle to each person who would otherwise have been given ration cards. We get to the efficient outcome that way. But compared to the rationing alternative (in which the government effectively expropriated a pile of producer surplus), the government incurs a whole pile of on-budget costs.