A Brilliant New Method of Price Discrimination: Flip to Fly

by on March 30, 2013 at 12:32 pm in Economics | Permalink

To maximize profit, airlines want to charge higher prices to consumers who are willing to pay more (inelastic demand) and lower prices to those who won’t buy unless the price is low (elastic demand). In essence, this comes down to charging business travelers more and leisure travelers less. In our textbook, Tyler and I discuss some of the classic methods of distinguishing these two types of consumers. Business travelers, for example, are more likely to want to travel at the last-minute so airlines give discounts to those who book several weeks in advance. Business travelers are also less likely to want to stay over a Saturday so a Friday to Sunday flight is cheaper than a Monday to Wednesday flight. In our next edition, we will have to include a brilliant new method pioneered by GetGoing.com. Here from the NYTimes is how it works:

Instead of bidding, you choose two places you would like to visit (say, Miami and Los Angeles), select your travel dates and flights, then enter your credit card details. GetGoing randomly chooses one of the two trips and books your ticket, which you can’t change or cancel.

… GetGoing promises savings of up to 40 percent off published airfares, but the coin flip reassures the airlines that they are giving these discounts to leisure travelers, not business travelers who would pay a higher price because they have to fly.

Genius!

Hat tip: William Gadea.

Andreas Moser March 30, 2013 at 12:56 pm

Looking forward to them coming to Europe.

prior_approval March 30, 2013 at 3:00 pm

Imagine what Ryanair could do with this idea.

Or don’t, because like with everything related to Ryanair, it would likely become a nightmare.

Billig ist nicht immer günstig.

DocMerlin March 30, 2013 at 3:52 pm

A hella cheap nightmare.

prior_approval March 31, 2013 at 4:29 am

Or hella expensive – Ryanair is not for the unwary and skilled fine print reading. Nor for the inflexible – I’ve had a Ryanair booked and paid for flight from Alicante around 11am changed to a 4:30am departure just a couple of days beforehand.

whoever April 1, 2013 at 5:06 pm

So don’t fly with them. There are many others who do, despite a very broad selection of competitors.

In other words – you are a smart guy, so when you were buying a Ryanair ticket, you knew what you were signing up for. Ex post b*tching about your experience doesn’t change the fact that you chose them completely voluntarily as the most advantageous ex ante option.

whoever April 1, 2013 at 5:02 pm

Oh yes, stupid Ryanair, their customer unfriendly policies have driven away all their customers and Ryanair went bankrupt. Oh wait, they didn’t! They are in fact growing and highly profitable. Damn.

Roger Wade March 30, 2013 at 1:07 pm

This site has been featured in the travel press for a few weeks now, and I’ll be surprised if it gets any real traction at all. First off, they promise savings of “up to 40%” which is worthless even with their “Price Guarantee” that offers to refund the difference if you find a lower fare (not 40% lower) on your own within 24 hours. Also, while it says that they decide between your destinations by “flipping a coin” they obviously don’t do that, and they are certainly choosing the one that they can offer the better deal on.

Then you have the fact that in recent years airlines have been able to fill over 90% of all seats on almost every flight, so there’s really no such thing (anymore) of half-full flights going to popular cities that airlines are struggling to fill as long as it’s not a business traveler.

Lastly, how many people are so indifferent about their destination on a leisure trip that they’ll be just as happy in one place as another? If you could actually fly from NYC to Paris for US$600 vs. NYC to London for US$1,000 it might be worth it to some people, but the reality is the airfares will end up being very near the lowest market rate for each city, so it’s just a gimmick.

Rahul March 30, 2013 at 1:14 pm

+1 I signed up and the prices it offered me are barely any lower than Kayak. If this sells it will be more on the novelty factor than price-discrimination.

PS. As a leisure traveler you don’t need to be destination indifferent to game it: e.g. It allowed me to flip between Munich and Zurich. For a 40% saving the train trip wouldn’t be too bad.

Dave March 30, 2013 at 1:24 pm

… and if you were going to a place halfway between Munich and Zurich, even if you were a business traveller as long as rail connectivity was about the same you might not care either.

JVM April 1, 2013 at 2:17 am

I’m surprised this didn’t work for you. For me it worked extremely well: both flights I searched were considerably discounted relative to their Kayak prices, especially once eliminating bad itineraries.

For the record I chose:

Originate in New York, flight May 15 -> May 21. Two destinations: Seattle and Toronto.

guest 1b April 5, 2013 at 11:13 pm

@JVM GetThere engine HIDES the true itinerary – including departure airport, arrival airport and airport layovers – until you book.
https://www.getgoing.com/support/booking-your-trip/#q34

It also hides the airlines and the fare conditions, so you don’t know until after you pay whether things like checked baggage and meals are included in your GetThere fare.

In other words, the GetThere engine is set up to make it virtually impossible to do a comparison search on Kayak, Expedia, etc.

Bill March 30, 2013 at 3:12 pm

Roger, Agreed regarding the “up to comment”, but more importantly, the capacity comment. Airlines have used dynamic pricing to achieve 90% or more fill rates; moreover, they have a large amount of presold space in the form of presold airline points that will fill capacity at discriminatory effective rates. I think the trick airlines are using is to sell at a low rate, and upcharge with baggage charges, seat assignments, etc. which furthrer price discriminate between business and leisure travelers, and within leisure travelers, those with money and those without.

mw March 30, 2013 at 1:26 pm

Um…Sat-Tues is ALWAYS cheaper than Fri-Sun. 100% of the time for me. I think demand overwhelmingly trumps this concern at least where it matters in practice.

Michael Jennings March 31, 2013 at 9:01 am

Saturday evening is very often the cheapest time of the week to fly. It’s the one time that neither business or leisure travellers would choose, if given the choice. Saturday morning can often be cheap, too. although it’s not quite as unattractive to leisure travellers as the evening.

Barbara Alexander March 30, 2013 at 2:24 pm

Add me to the skeptical voices. Many, many business travelers essentially make a continual circuit, to keep in touch and maintain relationships, push tasks along, etc. – visiting the same branch offices, or clients, or vendors, e.g., several times a year. It may matter little whether the next visit is to City A or City B or City C – so the traveler can offer up pairs of any two possible destinations, and occasionally do a catch-up visit to the places that randomly fail to turn up.

Joe March 30, 2013 at 4:33 pm

Of course, but not all business travelers are unwilling to stay a Saturday or need to book in advance either but on average these schemes work.

Ethicist March 30, 2013 at 3:07 pm

I know this comment will go against all of the ideological commitments of this blog and the capitalist system in general, but it’s actually unethical (but regrettably not illegal) for companies to sell the exact same product to different people at different prices.

Craig March 30, 2013 at 3:22 pm

It’s not clear to my why that would be the case, but please feel free to expound. Let’s be sure to include police protection, access to the courts, and national defense in the discussion.

maguro March 30, 2013 at 3:26 pm

Ah, but a plane ticket bought three weeks in advance and a plane ticket bought the day before the flight are not “the same exact product”.

guest 1b April 5, 2013 at 10:58 pm

“but a plane ticket bought three weeks in advance and a plane ticket bought the day before the flight are not “the same exact product”.

If the ticket has a different fare code, it is not ‘the same exact product’.
http://en.wikipedia.org/wiki/Fare_basis_code

Even if it is ‘the exact same product’, an airline could sell it for a different price to an individual buyer (as a one off fare) verses a wholesaler or consolidator or travel agent (who get a contractual discounts based on overall volume of sales). Seems like a fairly standard business arrangement.

Rahul March 30, 2013 at 3:38 pm

What about Governments?

DocMerlin March 30, 2013 at 3:55 pm

So you are against progressive taxation, then? (or heck, even a flat tax charges people different amounts based on their income.)

AD March 30, 2013 at 4:58 pm

Good thing you are an Ethicist to inform us of this

LemmusLemmus March 30, 2013 at 5:18 pm

In all friendliness: You could at least have offered an argument.

Rory Sutherland March 30, 2013 at 6:11 pm

Actually the best statement of this argument against differential pricing was written in 1690. It is John Locke’s pamphlet entitled “Venditio”.

The following podcast on the Econtalk series discusses the paper – http://www.econtalk.org/archives/2012/11/munger_on_john.html

I think Locke’s argument suggests that to use personal knowledge of a buyer’s specific predicament to determine your price would be unethical (there is the example of a ship selling a spare anchor to another ship which had lost both its anchors and was hence in danger). But I am not sure you can apply the same logic to oppose pricing seats differently according to when they are bought (long before departure versus the following day, say). The first seat on the plane and the last available seat on a plane are not really “the same thing”, and so charging for them differently should not violate Locke’s ethical rule. (Unfortunately Locke died a few centuries before Yield Management was introduced, so we shall never know for sure.)

But a guaranteed flight to Tampa is emphatically not the same as a flight to Tampa/Seattle.

Some travel sites default to display higher-priced hotels to people using Apple’s Safari browser, on the assumption that they prefer swankier hotels – but they claim not to differentiate the prices, or the overall choice – but only the hotels displayed first in search results. The assumption is that anyone who pays £1K for a laptop doesn’t want to stay in the 1* Hotel Bastardo.

Amazon caused outrage by offering lower prices on books to people who had not bought from the site before. This was widely attacked. The long-established practice of offering “20%-off-your-first-order” vouchers, though economically equivalent, seems not to arouse any anger at all, however:…. I suppose it is at least transparent.

In the airline (and railway) industry there is the interesting complication that price discrimination probably benefits everyone symbiotically. Without the lower-paying travellers to accompany them, business travellers would not have the frequency of flights which they want – and without premium-paying business travellers many price-sensitive travellers would not be able to afford to travel at all. It is a form of voluntary redistribution of wealth.

guest 1b April 5, 2013 at 11:30 pm

…”and without premium-paying business travelers many price-sensitive travelers would not be able to afford to travel at all”

This may apply to legacy carriers, but doesn’t explain the growth of successful and profitable low-cost carriers. Many businesses are also are embracing low cost carriers (especially for short-haul flights), suggesting they too are less willing to pay a premium for business fares.
http://www.carlsonwagonlit.com/en/global/tmi/cwt_vision_pdf_en/Q1_2012/1402-LCCs.pdf

Bill March 30, 2013 at 7:39 pm

Ethy,

The ability to price discriminate INCREASES total welfare because total revenue increases from it, ie, more goods and services are produced with it than without it. Assuming competitive markets, an airline cannot retain the additional profit, but returns to a competitive return while producing more output. But, the total number of consumers and total output increased from the price discrimination. Just google “price discrimination and social welfare” for articles on this subject.

MMM April 1, 2013 at 5:11 pm

Bill: You say, “The ability to price discriminate INCREASES total welfare ”
Well, yes… but then, ALL the consumer surplus goes to the producer, and none to the consumer. So would you volunteer to give up half your slice of pie for a bigger overall pie? And, I bet this is only true in a partial-equilibrium model, and not a general equilibrium one.

Anon. March 30, 2013 at 10:43 pm

You can’t espouse such a ridiculous position and then not provide us with even a sliver of an argument. Step it up.

TuringTest March 31, 2013 at 1:08 am

E., why is your argument true? Because you said so?

Michael March 31, 2013 at 9:39 pm

I’d say that the two points against it are:

1. It increases total welfare and more people get to buy something they want to buy.

2. Related to #1: Unless you really nitpick, for the most part, we’re talking about entirely voluntary purchases. You’d sound pretty ridiculous if you said, “When I voluntarily agreed to pay the price they offered, they were being unethical.”

The one case where I do think the situation gets tricky is in the case of extreme wealth inequality. $100,000 is a good sum of money to me. I really really care about $100,000. To someone with tens of billions of dollars, it’s an inconsequential sum. To gain or lose $100,000 would have zero effect on their life.

The idea behind auctions (and to some extent, perfect price discrimination) is that those who value a product more, or can do more with it, will be willing to pay more. Pit me and a billionaire in a bidding war, and they can handily outbid me while simultaneously bidding a sum that is meaningless to them. It’s just the idea that money, like so many other things, has a diminishing marginal value. Money is only an objective metric of value when people have the same amount of it. When people have vastly different amounts of wealth, the value of one person’s dollar is very different that the value of another person’s dollar. The dollar amounts they’re each willing to offer represent different amounts of “value.”

Of course, that’s also part of what makes price discrimination work. The idea is that everyone pays their valuation. So maybe I really want M&M’s right now, but I’ll never pay more than $2, because M&M’s aren’t really that important, despite my craving. Maybe if I was worth $50 billion, I’d pay $1,000 for a bag, because $1,000 isn’t really that important to me either. That is, how one person thinks of $2 may be how a multi-billionaire thinks of $1,000…inconsequentially small.

As a hyperbolic example, say a poor person is literally dying of hunger in a deserted town. They stumble across one last hot dog vendor with one remaining hot dog to sell. This poor person, desperate, says they’ll pay every last dollar they have ($100) for it. Up rolls a NBA superstar in a Maybach, just cruising past the town who happens to have a slight craving for a hot dog. He offers $200. He gets the hot dog, takes a bite, decides it’s not very good, and tosses it out the window about 5 miles down the road. That hot dog meant much much more to the poor person, but the largest sum that person could pay was still a meaningless sum to the other bidder. Technically, the producer got more surplus, so total welfare was maximized, but I could understand how one could say this was an “unethical” outcome.

X April 1, 2013 at 1:17 pm

Are you all idiots or what?

This is true because if you make a profit at the low sell price, then you can profit by selling at the low price to EVERYONE; hence, if nobody sells at that low price, it means someone is holding a monopoly/oligopoly/cartel/other anticompetitive stuff in the market, which is obviously unethical by definition.

In the case of flights, however, they can only be produced in units of airplane size, so if the number of flyers is low enough, you might not be making a profit on low-priced tickets, but you cannot avoid producing them at a loss either since you can’t cut up the airplane.

X April 1, 2013 at 1:29 pm

(of course, this is true assuming economies of scale so that fixed costs are negligible)

Margaret March 30, 2013 at 3:54 pm

Air New Zealand already does this. It is called their “mystery breaks”

http://hotels.airnewzealand.co.nz/mystery-breaks/?afid=AIRNZN

Sid Rupani April 4, 2013 at 7:34 am

As does Germanwings, with their “Blind Booking”. https://www.germanwings.com/skysales/BlindBooking.aspx?culture=en-GB

Thomas Themel March 30, 2013 at 4:28 pm

So how can we expect rational business customers to not simply pool all their flight requirements and submit them in pairs, so that they can benefit from the alleged savings on n-1 of n flights?

Rory Sutherland March 30, 2013 at 6:13 pm

Tickets are not transferable…. or only at an immensely high fee when you change the name of a passenger. Often more than the price of the flight on Ryanair – where it was about £60 when I last checked..

guest 1b April 6, 2013 at 12:12 am

If you book through GetThere, you’d be bound by the GetThere T&Cs. These state that fares are non-refundable, non-transferable and non-changeable.

guest 1b April 6, 2013 at 12:19 am

GetThere is simply a travel agent selling a very specific type of product (non-transferable, non-refundable, non-changeable airline tickets) using a gimmick (flip a coin to decide the destination). From GetThere’s standpoint, why does it make a difference if business customer pool their flight requirements?

libert March 30, 2013 at 5:39 pm

Does it also book your hotel stay in that city? If not, the extra costs of a last-minute hotel booking will swamp any savings on the flight.

Rory Sutherland March 30, 2013 at 6:14 pm

Good point! Car hire, too. Had a flight cancelled so took a flight to Bordeaux not Toulouse. Car hire for the week was £200 more.

Charlie March 30, 2013 at 8:01 pm

You don’t have to book the ticket at the last minute. You can book the plane ticket in advance.

Rory Sutherland March 31, 2013 at 11:08 pm

I get it now. You know your destination as soon as you have paid, not the day before you travel….. but the ticket is non refundable and non-transferable. Thanks.

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