Some people
are getting agitated and hostile at the pumps. Now, I know the cost of living
pressures are tough, and I sympathise. But what we have here is an arithmetic
challenge that’s basic Econ 101, and it’s not the people selling fuel who are
at fault. In fact, quite the contrary – raising prices in a time of shortage is
the least bad thing for us. Here’s why.
Before hostilities began, the world consumed roughly 100 million barrels of oil each day. But with Iran limiting the Strait of Hormuz to most international shipping, we read that only about 80 million barrels are now reaching global markets. That’s the arithmetic problem for the global economy: until that bottleneck eases, the remaining 20 million barrels of daily demand must effectively be squeezed out. And the only mechanism capable of enforcing that reduction is higher prices. Now let me reassure you that it’s the least bad thing for us.
As you’ve heard me say before, at its core, economics is the study of human behaviour regarding competing preferences and how societies allocate scarce resources among competing uses. Prices are the signalling system that makes this allocation possible – and higher prices are vital information signals, telling buyers, in real time, that the resource is now more valuable relative to its availability.
Now, here’s what’s happening across society that you won’t fully see because it’s so thinly spread. Many of those who can put the resource to its most productive or urgent use are willing to pay more for it, while many who value it less step back. Tragedy of the commons issues aside, here prices reveal the hierarchy of preferences across millions of people – those transactions are revealed preferences showing those who value the fuel the most at the margin.
Naturally, no price signalling mechanism is perfect – for obvious reasons – but the alternative is far worse. Without price signals, scarcity would have to be managed through much less effective ways. The price system gives us the best whack at creating a relatively orderly, decentralised way of matching limited supply with the people who can use it most effectively and need it most during the tension.
