Rip-off or reasonable? It depends on what you know

You’re standing in a grocery store, staring at the price tag on a box of over-the-counter medicine that helps relieve symptoms of a major, newly-discovered illness that’s suddenly swept across the country. The medicine cost five times less just two months ago. This price hike seems so unreasonable to you that you’re angry at the company that makes the medicine. But what if you or someone you love gets this illness, and needs this drug? Isn’t it smart to have some on-hand? What do you do?

According to new research by Johns Hopkins Carey Business School economics Professor Mario Macis, it depends on whether you know what could happen if those prices didn’t go up.

“My parents live in Milan. They couldn’t find masks when COVID was hitting hard there,” Macis recalled. “I was able to find 10 N95 masks on eBay for $200. I could afford to buy them, so I bought them and shipped six to my parents. Two days later, they had masks. That’s what inspired me to do this research.”

Macis, who will teach at Johns Hopkins' new 555 Penn location in Washington, D.C., this fall as well as in Baltimore, studies markets for goods that don’t have inherent prices. The value of a breakthrough medication isn’t just its ingredients and production cost; it’s the benefit the good brings to the consumer. Companies that make drugs have to find a way to assign a value to the extension of lifespan. That pricing can vary widely. Is a new, effective COVID-19 treatment that’s proven to save lives in severe cases worth $400 a dose? What about $5,000? If you don’t allow the price to be high, do you punish companies that create life-saving treatments, minimizing their funding for future research, discovery, and production?

Attitude is everything
Macis’ working paper, written with colleagues Julio Elias and Nicola Lacetera, examines Americans’ attitudes toward price-gouging—or at least what they perceive as price-gouging—and how it impacts market support for corporate pricing decisions on these kinds of goods.

Markets need what Macis calls “social support” in order to function well. Generally, he says, Americans believe in the free market, but get nervous with price surges. Anti-gouging laws in some states either prevent or discourage price hikes by capping the percentage by which companies can increase their prices at any one time during emergencies. But companies lose support when they fail to deliver value to customers. It’s crucial, Macis says, to understand what drives social support and how policy can help make markets work better for people, communities, and companies.

The study
The study surveyed 4,000 U.S. residents and 4,000 Canadian residents. It asked them to consider scenarios where the price of a product went up because of x variable—unspecified, pandemic, or another specific reason. One group learned possible economic consequences of capping the price on the product, like lower production or redistribution of inventory, making it harder to find. Another group did not get that information. The study then asked whether companies should be allowed to raise prices without controls, or whether prices should be capped.

The results showed that most people who don’t know the potential consequences of price capping are “hugely in favor” of price control, Macis said. But those who are aware of potential consequences are more accepting of price hikes. Individuals with greater wealth are more tolerant overall.

“The public tolerates price surges if the surge then leads to more supply and lower prices later on,” Macis said. “If, instead, companies are exploiting the market power—raising the price without making more, or restricting supply—people really dislike that.”

Why it matters to the market
It may seem like common sense, especially as you’re standing in that grocery store aisle with that medicine in your hand, or comparing what you paid for 10 N95 masks in spring 2020 with what they sell for now. But if you think the companies behind the products are cheating you rather than trying to make sure everyone gets what they need, you’re less likely to buy their products again. In today’s global social media communication landscape, it could mean wildfires of negative sentiment. That’s not just a reputational threat to the companies. It’s a threat to the market.

“Markets need support from the public in order to function,” Macis said. “If the public does not trust the market, then we have a problem, because we rely on markets a lot.

“We live in a society and we have to understand how people perceive business and the markets,” he continued. “Entrepreneurs need to understand how their businesses are perceived by people.”

Macis emphasizes that he conducted his research in 2020-2021, before inflation hit. While inflation can make these perceptions worse, it tends to be a universal increase rather than one linked only to a particular type of product.

Macis’ working paper was disseminated as part of the National Bureau of Economic Research working paper series.