One of the major philosophical takeaways from the past 15 years has been the failures of the Efficient Market Hypothesis and the rise of Behavioral Economics. Consider, as a corollary, the argument assumption that many pro Free Market folks make: Markets are much more effective, efficient and productive than government mandates or regulations.

I do not disagree with that view. However, every now and again, we see examples that challenge, and (even disprove) this thesis. At the very least, we find circumstances that provide context for why market solutions can and do fail with stunning regularity.

Specifically, the Deregulatory era of Banks and Wall Street — we know how that ended (disastrously); BVut also consider the more strongly regulated Asian and European Internet services — they are 10X faster than that in the US; Cell service on those continents are much, much better than in the US. Both of these are offered for the same or lesser prices than here. Speaking of price: Health Care in the US costs twice the price as anywhere else in the world. Then there are the Financial “innovators” who abdicated lending standards — “hey, we’re just selling junk to securitizers who want it!” — they helped to inflate a bubble that popped, crushing housing; Bankers plowed into subprime securitization because it appeared profitable and “everyone else was doing it.” Bond buyers desperate for yield bought up all of this junk.

And post Hurricane Sandy, we have the issue of Government mandated gasoline rationing. On any given day, 50% of customers cannot legally tank up their cars due to the last digit of the license plate number.

Experience in NJ and NY shows that rationing has worked tremendously well. Gas lines have gone from 3 hours down to 15 minutes nothing, even as many stations still have no power and fuel deliveries are not back to normal.

Why does Odd/Even rationing work? 

The answer, I suspect, is for the same reason that EMH has failed: Human Behavior. There is a very human tendency for excess emotions to take control — and at the worst possible times — especially when disruptive events occurs. We see panic set in.

That is all that a gasoline line is — a panic — that is caused by fear and emotion.

Consider the Bank Runs we saw as the collapse began in 2007. There was no need to wait on a line for 3 hours for your money — your checking account is FDIC insured. Go to another bank, write a check, no worries. Even as WaMu and others were on the verge of failing, your ATM card never stopped working.

So why were their gas lines?

There is a contra argument that Markets were not allowed to work — that prices were not allowed to rise in response to supply shortages.

This is a fair argument, but it ignores a key concept that many free market absolutists seemingly miss. The contra argument is that we have decided, as a Democracy, that we do not want to see people priced out of the most basic necessities of life due to emergencies. Certainly, we can allow free markets to raise the price of food and fuel to rise in response to severe shortages; perhaps prices rise so much that only the well off can afford them. But the results of this would very likely be civil unrest, riots and even violence. This is not a very desirable outcome in an ostensibly civilized society.

Before the FDIC, people did not trust banks much. There were regular bank runs, and occasional panics. This created a system that was not stable, discouraged savings, and led to spasms of social unrest. It was a never ending issue for the economic system to deal with. We had regular panics, dislocations and crashes. It was not a conducive system in which to conduct business or grow an economy.

Rules and regulations exist because when left to their own devices, people will occasionally make spectacularly bad decisions. The impact of some of these decisions are so negative and far reaching that we as a society seek to prevent them.

Consider the Royal Bank of Scotland (RBS), at one time the biggest bank in the world. In 2008, it had assets of $3.5 trillion dollars. The Economist reported that RBS “was sunk by a loss of £8 billion, or 0.3% of its assets. RBS and its regulators had let the simplest measure of balance-sheet strength, how much equity it had compared with its total assets, fall below 1%. Other lenders were in similar positions.

0.3% !! How can a bank fail with such a tiny loss relative to their total assets? The answer is leverage. When you are jacked up 40X or 50X, it only takes a tiny miscalculation to make you insolvent.

Why don’t banks hold more capital? Because it reduces profit. Publicly traded companies have utterly misaligned incentives — its in the interest of management (but not shareholders) to use maximum leverage to generate the highest profits and therefor the most salary and bonuses for themselves. If the company fails, its the shareholders loss. (As we saw with the collapse of Lehman and Bear, insiders may have lost some paper wealth but they had already cashed out billions for themselves).

Hence,  in many circumstances, markets may not work ideally. You could even say that their outcomes are sub-optimum.

For the vast majority of economic transactions, markets are vastly superior ways to allocate resources. They are far more productive and efficient than government mandates, regulations and edicts.

There are however, areas where the market simply fails.During gasoline shortages, odd/even rationing works well. And the rest of the time, Bankers need to be moderated, lest they blow up their banks and the economy as well.

The anti-regulation, free market absolutists need to find a new theory.

Category: Markets, Philosophy, Psychology, Really, really bad calls, Regulation

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

28 Responses to “Why Gas Lines Are Like Bank Runs & Why Odd/Even Gas Rationing Actually Works”

  1. Savage1701 says:

    Did I also read that some stations were only allowing minimum fills of 8 gallons as some stations did several decades ago during past gas shortages?

    Seems to me that argument also was that a minimum fill kept the “tank toppers” which were the equivalent of hoarders, out of lines and helped shorten those lines accordingly. Gas goes to those who truly need to fill their tanks.

  2. oxfletch says:

    Around here, it seemed to make things far worse. Introducing rationing *made* people panic.

    What fixed the problem was not rationing, but gas stations getting power back, and supply pipelines and trucks coming back on line.

    Totally agree with the minimum fill though – that would actually work. Some places were doing maximums of 10 gallons, which is totally counterproductive.

    Mandating that gas stations have generators is a much better medium-term fix.

    ____

    BR: New Jersey implemented rationing immediately, and it may the gas lines go away long before the power and supplies came back

  3. Conan says:

    The problem is that complete freedom is actually anarchy, from Wikipedia:

    Anarchy has more than one definition. In the United States, the term “anarchy” typically is used to refer to a society without a publicly enforced government or violently enforced political authority.[1][2] When used in this sense, anarchy may[3] or may not[4] be intended to imply political disorder or lawlessness within a society.

    Thus what we need is rule of law with basic simple easy to understand laws that are justly applied to all. Society has to decide what the rules are then make them. I believe where the confusion comes into the picture is when you have laws that are so convoluted that no one really understands them. For example how many pages is the tax code? How many conflicting laws are there where the Environmental Agency says one thing and Labor Law says another?

    This then results in two problems, the savvy well connected business uses this to get what they want to hide their benefits deep in these laws. Secondly the average person does not feel protected or benefited from the law, but a victim of it’s complexity and manipulation from those in power.

    So the example you use is great it proves a simple, fair, well understood solution works. The problem is if this had been written by Congress the Odd-Even Law of 2012 would of been 5,000 pages long, full of ear marks and hidden subsidies for the oil industry to help them out due to the losses caused by Hurricane Sandy!

  4. YouthInAsia says:

    Waiting in line for 3 hours for gas is a panic? hahahhahahaha

    Gas stations getting power back to pump their gas (supply) people not having to come back day after day to get filled up after the initial fill up (demand) clearly had nothing to do with the lines.

    You’re trying to use RBS as evidence where lack of regulation is a moral disaster… am I mistaken, did life not go on? Does life not continue to go on?

    Barry you saved me a lot of money in 2008 and I’ve been with you ever since, but this is crap. Really, one of the worst things I think you’ve ever written.

  5. YouthInAsia:

    What I am saying is:

    1. The behavioral underpinnings of both gas lines and bank runs are the same;

    2. Regulations are required in light of human behavior.

    3. I never said it was a MORAL failing:

    The reason I saved you money in 2008 was because I picked up the impact of unregulated securitizations of lending, and where that ultimately was leading to. Understand the process and you understand the net results.

  6. Moss says:

    Human Behavior no doubt. My wife was in a panic about getting gas yet her office was closed and her tank almost full. Lets look at gun sales.. hype and panic causing them to soar as fear that Obama will restrict them takes hold again. Lets look at State petitions for succession.. as frustrations among a minority of irrational citizens stoke the hype.

    Markets work within the broader confines of trust and rationality.

  7. george lomost says:

    Hey Barry, “Why don’t banks hold more capital? Because it reduces profit.” Some time back Greenspan , in an interview, pointed out that banks can’t be profitable if they are properly risk free. In plain English, bankers knowingly take risks that will cause their institution to fail, their risk models predict such events as occuring once every 100 yrs. If their statistics are off, the tail risk is much greater (Taleb’s thesis).

    Behavioral Economics is just as wrong as efficient market hypothesis – as Ben Franklin used to point out it’s not about facts but self-interest. You have my email.

    PS I couldn’t help smiling at all the Escalades and other gas guzzlers (with grumpy, 5′ 5″ drivers) on gas lines the very first day – we’ve muddled through with our Hondas.

  8. sirpatrickdikat says:

    “There was no need to wait on a line for 3 hours for your money — your checking account is FDIC insured.”

    As of Oct. 31, 2012 – There is $9Trillion in US bank deposits. There is “maybe” $5Billion worth of FDIC insurance, that’s a ratio of 1800:1 !!!!

    The broke FDIC is exactly the reason their SHOULD be a bank run, if only the citizens of this country would educate themselves.

  9. gibbswtr says:

    As someone who went through all the gas shortages since 1973 I can tell you the reason odd/even systems work is that they are easy to understand, they are easily verifable, and they are eminentlyfair. In the begining there is alwasy panic but once the system gets in place panic fades to normal frustration. The markets always do best when everyone thinks they understand the rules of the game ( see the great moderation) same principal with odd even rationing once you know the system panic will subsdie.

  10. GeorgeNYC says:

    Here is a supposed economic analysis of the concept:

    http://cafehayek.com/2012/11/odd-scheme.html

    I think it is an excellent example of the faux rationality of the EMH camp. It all starts to unravel when he says “Suppose…”

    Basically you have a market panic and this is at least a small step toward alleviating that panic. Saying that the “market” would solve these problems is about as scientifically sound as saying that praying to God will solve these problems. It never ceases to amaze me how similar these “economics” debates are to the many debates in the medieval church over just about every aspect of life. Market fundamentalism can be used to discuss just about anything. The end result always succeeds in uncovering the underlying assumptions that the market is efficient and perfect and should be left alone. Assume God is all knowing and you can quickly come to the logical conclusion that praying to him will solve everything.

  11. MojaveMax says:

    Hey BR, you should have “there” instead of “their” in the italicized “So why were their gas lines?”

    Once an editor…

  12. James P says:

    So, funny given the quote of the day that incorrectly equates wisdom with patience. Patience, a virtue, is probably wise when others are in panic but the short def. of wisdom is seeing things as they really are. Wisdom is the overarching theme of this site, “the Big Picture”. It pretty easy to see from reading comments here or anywhere else that most people can only deal with small bits of reality at any one instance. The human mind has a really hard time of wrapping itself around the whole thing. In fact the sage suggests that because the brain thinks in symbols (words), reality can only be grasped in the absence of thought.

  13. newulm55 says:

    Had the market been “allowed” to work their would have never been a gas line to start with… w/ limited product in a “free” market a gas station could have raised prices to $8 to $10 per gallon or more.

    ITS NOT PRICE GOUGING WHEN YOU HAVE LIMITED SUPPLY, this would have lead to ride sharing for folks who had to go places in smaller cars (lots of the pic I saw of lines had lots of huge SUVs), limited trips for those who did not have a true “need” for the trip and supplies would be available when needed for emergencies.

    The government mandated rationing and price fixing (which lead to the lines in the first place) FAILED, pricing should have risen as the line formed. Supply is coming back, not to all stations, but enough to meet the demand of a limited daily market (fear of fines is limiting the market).

    ~~~

    BR: By no line, you mean the middle income & poor folks who could not afford $30 gallon gasoline (ala Craigs List) would not be on line? Thats exactly my point.

  14. DeDude says:

    Market forces work by greed and sometimes you can align a higher societal goal with greed, in which case there is a win-win. Unfortunately a lot of people have adopted market forces as a religion, believing (in spite of plenty of evidence to the contrary) that the results produced by free market forces are always better than any other alternative approach. This religious “free market” movement has been supported heavily by the predatory part of the upper class, because they personally benefit from more privatization and less rules and regulation. It is unfortunate that it is so hard to get a fact and sense based debate of how and when free market forces work or fail. If both sides of the political spectrum could have that debate and come up with sensible solutions, then a lot of stupid waste could be avoided (whether due to excessive or insufficient adjustments of market forces).

  15. Greg0658 says:

    MojaveMax ya got me going .. on – if there is a “ther – thur – thure” – in this instance ?
    http://www.better-english.com/easier/theyre.htm

  16. QuasiYoda says:

    The Problem with the Free Market Debate is that the 2 main sides assume a FED is setting rates and deploying such techniques as QE and the like. All of which make a “Free Market” an impossibility. All to often AntiFree Market folks point to situations where the Free Market failed miserably as proof positive. It was NOT a Free Market as the basic underpinnings of the market are regulated by men with an agenda.

    If there was no Fed today then interest rates would clearly be much higher, savings would be much higher, prices on houses car etc. would be much lower. But there has been a Fed for 98 years and our currency is worth less than 5% of what it was 1913. Where did all of that value go?

  17. libertarian says:

    Oh, Barry. I love the insightful graphs you typically post, but your opinions can be excessively flawed, like this post.

    For example, you saying “odd/even gas rationing ‘would’ work.” And how is this? You claim “free market” advocates “fail” to realize that “we” don’t want to be price gauged. (America is more of a Republic, not Democracy).

    You apparently live in a perfect world. Jacking up prices would allow for an influx of supply.

    SNIP

    ~~~

    BR: Part of the problem you ignore was that supply was constrained due to both refinery closings and electricity losses.

    But I really had a hard time getting past “We are not a Democracy.”

  18. DeDude says:

    @QuasiYoda;

    You mean that without a Fed, greedy old men would not use control fraud to milk the banks they run for as much money as they could, before they let them go down? You kind of look to me like a dude that apply the same answer (its the Feds fault) to whatever problem you encounter – how “quasi” of you.

  19. aguynamedbry says:

    Piling on to one of your main points

    What most economists don’t understand when they believe the market can set the price in these situations is that for the wealthy there is very little difference in these emergency situations between $4/gallon and $20/gallon, so now all the wealthy people have all the gas they need and the poor are still stuck in the same situation.
    Picture a wealthy manager/owner who fills their tank, makes it to work and wonders/complains about where their employees are. Yes yes, they should be rational and understand, however on occasion the wealthiest are devoid of empathy for those less fortunate. In fact one can almost picture them yelling at a poor worker who had to choose between rent for the month or going into a work place for a few days that they should have chosen work.
    By having everyone in the same boat it forces empathy on everyone’s part – we are all created equal and are reminded of that when the normal institutions fall apart.

  20. ZenRazor says:

    Off topic:

    I had always believed what you wrote, but having recently moved from the U.S. to Europe (and having done a lot of traveling since I arrived), my Internet service is slower and my mobile phone coverage sucks, and as a bonus the mobile voice and data plans are more expensive. But while I miss abundant LTE, it will be many years before I stop hating AT&T and Verizon.

    Your mileage may vary.

  21. Ingolf Eide says:

    No argument; markets can occasionally be stunningly inefficient and regulations can sometimes be a very good thing.

    Still, there are also plenty of unintended consequences of regulations and direct and indirect government backstops.

    Take your banks example. Would they have geared up anything like as much as many of them did if bank creditors (in particular, bondholders) knew they were on the hook if things went wrong? I don’t think so.

  22. Lord says:

    OE is quite effective against tank toppers. Another reason pricing is unsuitable is that rising prices can induce panic and hoarding in themselves, turning consumption goods into investment goods, and displace consumers in favor of speculators creating bubbles that burst.

  23. Francois says:

    IngolfEide wrote:

    “Still, there are also plenty of unintended consequences of regulations…”

    Word! Here is a rather stunning example happening right now in Georgia:

    Doctors’ And Nurses’ Licenses Snagged By New Immigration Law In Georgia
    Hundreds of health care workers in Georgia are losing their licenses to practice because of a problem created by a new immigration law in the state.

    The law requires everyone – no matter where they were born – to prove their citizenship or legal residency as they renew their professional licenses. But with too few staff to process the extra paperwork, licenses for doctors, nurses, pharmacists and other health workers are expiring.

    While the Secretary of State handles licensing nurses, pharmacists, and veterinarians, Georgia’s medical board is in charge of doctors, physician assistants and even acupuncturists. It’s the same story there. Director LaSharn Hughes says she sent 41,000 letters of notification on a Thursday.

    SNIP

  24. newulm55 says:

    BR – I do see your point on the rationing, I has never worked in the long run. Also, I did point out that the poor and middle class (me) would have to resort to ride sharing or only traveling when 100% needed. Their are lots of product that the poor and middle class cannot access today and have to fine alternatives and/or pool resources.

    As for Bank Runs they ONLY happen because of Fractional Reserve Lending, Period! If a bank had to have “one dollar of capital” for each outstanding loan their would not be any issues for runs. 10-1, or 30-1 leverage cause imbalances and runs.

    Yes, banks would become a super low margin, safe, boring business but the casino would end.

    ~~~

    BR: Its not a long run solution — its a very short term response to panic.

    Mission Accomplished

  25. DeDude says:

    @Ingolf Eide;

    Whereas I do agree with your premise that sometimes regulations can do more bad than good, I think you took the wrong example.

    The banks would have done exactly the same thing even if they had believed that they would have gone bankrupt, the same goes for the bondholders. Only a very small minority predicted and spoke out about the risk that was being taken. The problem was not that people were convinced they would be bailed out from the risk, it was that they simply did not recognize the risk (very few people recognized the risk – and they made bets on that insights – and made a lot of money). The bond holders did not hold those bonds because they thought they would lose over 50% of their value and then recover again as government stepped in and bailed them out (because then they would have sold and reinvested at the low point). They invested in the bonds because they were desperate for better yield and sure they could get it without much risk. There were probably a few people in the banks leadership and top management that recognized the risk, but they didn’t care because as long as they could game the system for a few years of 8 figure bonuses they could care less of the bank got killed by the risk they inflicted on it.

  26. Ingolf Eide says:

    Dedude;

    All fair points. I didn’t make my argument well.

    The state of mind you describe took a long time to evolve; it’s the product of generations of bailouts and a generalised sense of being backstopped. Put simply, risk perceptions underwent a profound long-term change (and, as an aside, despite the fireworks of recent years I don’t think they’ve yet returned to realistic levels).

    If, in 2008/9, instead of being bailed out banks unable to survive on their own had been put through a reorganisation where bank creditors (with the exception of depositors) either took a severe haircut or, better still, had their holdings in part or in whole converted to equity, we’d be in a very different environment today. That slowly built up sense of unjustified confidence would have been shattered. Creditors would share the driving seat with equity holders and management in a far healthier fashion and any attempt to unduly gear up would be resisted, probably successfully.

  27. [...] Market Fundamentalism meets reality, or why we should recognise the importance of human behaviour in economic activity… [...]

  28. poppysmic says:

    The gas rationing didn’t cause the lines to drop from 3 hours down to nothing. That would have happened anyway as more gas was shipped in and more power was restored. The politicians waited a week to enact rationing, and then enacted it at the point that things would have improved anyway.

    ~~~

    BR: Thats incorrect — look at NJ, which began the Odd/Even rationing long before NY did and long before the refineries and shipment came back online. Their lines improved immediately — it was an intelligent response to the irrational panic that improved things before there was an improvement in supply.