Freedomnomics: Why the Free Market Works and Other Half-Baked Theories Don't

and thus begin selling them off.7
When controls are imposed on gas prices, consumers quickly see that prices are kept low and supply increases. It’s only once those extra supplies are used up—and this could take months or even a year—that shortages set in. Companies do not instantly dump all their gasoline on the market when controls are instituted because prices would then fall even below the controlled price.
Because of this delayed effect, companies—not price controls—are blamed for later shortages. This is evident in the coverage by the three television networks of the gas shortages of 1973-74 and 1978-79. The U.S. government was discussed as a cause of the first oil crisis 18 percent of the time and 19 percent in the second, while the oil industry was discussed 32 and 41 percent of the time, respectively.8
And gas isn’t the only product facing constant calls for price controls. The current debate over pharmaceuticals is another example. This industry is subject to price controls in every industrialized country in the world except for the United States. For years, Americans have enviously eyed cheap drugs just over the border in Canada, where strict price controls and a socialized healthcare system allow for the sale of drugs at nearly half the U.S price.
Americans are now demanding access to these cheap drugs, and many state governments, such as those in Illinois and Minnesota, have pushed to have these price-controlled foreign drugs resold in the U.S. This essentially exports the Canadian price controls to us.
U.S.-based drug companies spend vast sums to develop new drugs, and Americans pay high prices for them. Once developed, drugs are reasonably inexpensive to manufacture, and companies are willing to sell the medicines abroad at a price that merely covers the cost of manufacturing and distribution.
Meanwhile, Americans cover the research and development costs through our high prices. Incredibly, Americans, who comprise just 5 percent of the world’s population, account for 50 percent of the world’s spending on drugs. In effect, the U.S. is underwriting the cost of a critical chunk of the world’s R&D on drugs. Perhaps this is not “fair,” as many other industrialized nations could bear to pay higher prices and thus help cover these costs. But if U.S. drug prices dropped sharply as a result of re-importation, drug companies would simply stop making many new drugs.9
Allowing price-controlled drugs to be sold in the U.S. would instantly lower the price of drugs, causing pharmaceutical companies to cut back on inventing new medicines.10 Those that just started to be developed will be shelved, but many close to completion will be finished. It may take some years before new drugs completely stop being introduced. And when it becomes apparent that there are few new drugs being produced, who will people blame? Most likely, the harmful role of government price controls will be overlooked. Instead politicians, editorialists, and much of the public will rush to vilify drug companies for allegedly not doing their job.
Here is another prediction: it will be unusually difficult to get rid of any pharmaceutical price controls.11 Abolishing future price controls would mean that people would have to accept higher prices for drugs as soon as controls are removed, but it would only be years later, perhaps a decade or more, before brand-new drugs start reaching the market again. Drug companies may even have to reconstitute their laboratories. Worse, pharmaceutical companies may not be willing to start new research out of fear that price controls will be re-imposed in the future.
To conclude, although consumers may feel that they’re being ripped off when they see gas prices spike after a hurricane or realize that drugs are being sold far cheaper in foreign countries, there are in fact very subtle market mechanisms at play that increase supplies and eradicate market distortions. In these situations, the free market is working, and it’s ultimately working far more efficiently than any government-mandated controls would.
Ben Stein, the actor and economist, perhaps summed it up best when he wrote, “Yes, I loathe the speculative premium in energy prices. Yes, I wish that I did not have to pay as much when I fill up my car. But the idea that there is a conspiracy at work, the idea that Congress can make it better by regulation—that’s insanity. To let the free market, the best economic idea of all history, work its magic—that’s good sense.”12 And indeed it is.
How Monopolies and Price Discrimination Help Save Lives
Now let’s focus on whether consumers are being ripped off by the pricing of some everyday products. Many people, when they feel they’re being charged “too much” for an item, will instinctively denounce “corporate greed”—these corporations just can’t seem to get a break. Of course, it’s a bit mysterious how a corporation could charge unjustifiably high prices when a competitor could easily steal their sales by undercutting their prices. The most common retort to this observation is to cite corporations’ alleged “monopoly power.” To paraphrase H. L. Menken, such answers are all too frequently simple, neat, and wrong.13 “Monopoly power” is really just another form of corporate conspiracy theory.
Contrary to popular opinion, monopolies are rare and difficult to maintain, and the few real monopoly situations that exist tend to benefit consumers; in some cases, such as with pharmaceutical companies, they literally save lives. What’s more, the kind of allegedly nefarious pricing schemes that monopolies employ—such as price discrimination—often increase the availability of products or services and spur innovation.14
“Price discrimination” is a malevolent-sounding phrase used by economists to describe certain pricing anomalies. Price discrimination is said to occur when a firm charges various people different prices for the same product or service, and these price differences can’t be explained by differences in production costs. Price discrimination in certain instances allows firms to maximize profits by charging the highest prices to consumers who most value a product and are willing to pay the highest prices for it.
So is this necessarily a bad thing? Price discrimination frequently allows firms