Richard Davies


Surge pricing

The microeconomics of Uber

The Economist

Microeconomics, Uber, markets

NEW competitors always ruffle a few feathers. The unique thing about Uber, a new taxi-market player, is that it seems to have annoyed some of its customers as much as the incumbent cabbies it threatens. The problem is its “surge pricing”, which can make the cost of Uber rides jump to many times the normal fare at weekends and on holidays. Gouging customers like this, critics reckon, will eventually make them flee, denting Uber’s business. Microeconomics suggests that although Uber’s model does have a flaw, its dynamic pricing should be welcomed.

Taxi markets have long needed a shake-up. In theory, entry should be easy—all that is needed is a car and a driving licence—with new drivers keeping cab fares close to costs. Yet in many cities, cabs are far from that competitive ideal. Decades of regulation conspire to keep entrants out. In New York a pair of taxi medallions sold at a 2013 auction for $2.5m; many other cities have similar schemes. In London “the knowledge”, a test of familiarity with the city’s streets which GPS has made redundant but drivers still have to pass, can take four years to complete. Taxi markets often end up suspiciously clubby, with cabs in short supply and fat profits for the vehicle owners. Antitrust concerns have been raised in Australia, Ireland and Bulgaria among others.

Uber aims to change all this. Launched in San Francisco in 2010 it lets passengers hail drivers from their smartphones—a move requiring even less effort than extending your arm. Some vehicles are not so much taxis as private cars that Uber has vetted. The convenience of hailing a cab from the comfort of a sofa or bar stool has given the service a loyal fan-base, but it comes at a cost. Most of Uber’s prices are slightly cheaper than a street-hailed cab. But when demand spikes, the surge prices kick in: rates during the busiest times, such as New Year’s Eve, can be seven times normal levels, and minimum fares of up to $175 apply.

Critics of Uber’s pricing are treading a well-worn path: setting tailored prices for the same good—price discrimination—often causes howls from consumer groups. It seems unfair when the charges for drugs vary across countries, the price of train tickets varies with the buyer’s age, or, as in Uber’s case, the price varies depending on the time that the journey is booked.

But price discrimination is not necessarily a bad thing ... to find out why read the rest at The Economist.