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Hmm...
...some argue that since the last tickets sold are usually the most expensive, airlines have too much incentive to sell $1,000 tickets when no seats are available if the penalty is only $400 to bump a cheaper-fare passenger.
That is from the 10 October Wall Street Journal, p.D1.
Posted by Tyler Cowen on October 10, 2006 at 05:03 PM in Economics | Permalink
Comments
actually they don't have *enough* incentive to do that. If I am already booked on the flight and my opportunity cost of waiting for the next flight is only $100, and the airline just (over-)sold a ticket to P for $1000, then the gains from trade are at least $900.
But when the airline has to pay me $400 to bump me, they internalize only $600 of those gains from trade. The problem is due to private information: I am a monopsonist (or at best oligopsonist) when the airline has to buy back my seat and I get information rents.
Posted by: jeff at Oct 10, 2006 5:17:30 PM
I don't believe this to be a serious problem: I fly quite a lot and I have never ever been bumped, and I have never observed anyone else being bumped against their will. When flights are overbooked, the airline reps ask for people to volunteer to go onto the next flight, and some college kid who is in no rush and happy to receive 400 bucks goes for it.
As long as it works out that way, everyone involved - airline, last minute $1,000 dollar traveler, college kid - is made better off, and everyone else gets to contemplate the beauty of the Coase theorem during take-off.
Posted by: Commenterlein at Oct 10, 2006 5:19:10 PM
Jeff,
I guess we should have some form of ascending price auction at the gate, with the seat-less last-minute business traveler calling out ever higher bids until the ticket holder with the lowest reservation price is willing to sell.
Posted by: Commenterlein at Oct 10, 2006 5:23:26 PM
Commenterlein ... have you actually flown _recently_? I fly frequently as well and I've seen people get bumped involuntarily, twice in the last 2 months actually. Flying is simply too much of a hassle; who needs the added pain of a 12-24 hour disruption in their schedule (college student included)?
I found the numbers interesting simply because I've moved almost all of my travel to JetBlue when ever possible.
Posted by: mike at Oct 10, 2006 5:48:50 PM
Mike,
I may have just been lucky, I guess. I made four domestic trips in the last 5 weeks, so I have definitely flown recently, and I have many more trips in my calendar in the fall. Certainly nothing I am looking forward to.
Btw, my point was not that people (or college students) like disruptions, but that we only need a sufficient number of people who value the pain of the disruption at less than 400 bucks.
Posted by: Commenterlein at Oct 10, 2006 6:22:56 PM
I have just flown in the past 2 months, and I know that airports over book the plane and there is always people on the waiting list needing a seat. Have you noticed what kind of people that are on the waiting list? most of these men are businessmen. These are people who can pay a lot extra for a flight because it is more important for them to see a client or get to a business meeting then to have to wait. So they dont care to pay a lot extra. I have a friend who has been asked to wait a few hours for the next flight and give his seat up. He was willing to do this because they do pay him some extra money, and he was a college student needing those extra funds.
Posted by: Kendra at Oct 10, 2006 6:40:23 PM
Imagine Dopey Airlines manages to sell only 10% of their seats on any given flight. At the same time, Genius Airlines manages to sell 102% of their seats on any given flight. Guess which airline's passengers have to pay about 10x more for their seats.
Ban or otherwise artificially hinder overbooking and your ticket price goes up.
Posted by: happyjuggler0 at Oct 10, 2006 6:47:09 PM
I agree with Jeff. By what calculus do they have too much incentive, now that they have to buy the seats from existing ticket-holders?
Posted by: Scott Wood at Oct 10, 2006 8:25:12 PM
Wrong, guys! the $400 is the govt. maximum payout to passengers who are INVOLUNTARILY bumped. This the Kelo decision (government helps someone else to your property at below-market cost), not the Coase theorem (you reach a fair price).
Airlines can, and do, offer more than $400 to volunteers who freely give up their seats; I've made up to $1000, although in airline vouchers rather than cash. Presumably they do this b/c of the goodwill they lose due to involuntary bumpings.
I am strongly in favor of a world where involuntary bookings are banned and airlines have to bid as high as necessary to get volunteers. Please let me know when that world arrives..
Posted by: DK at Oct 10, 2006 8:55:10 PM
airlines also have an incentive to sell the last tickets cheap to get those empty airplanes on full capacity, because the marginal cost of an extra passenger is almost zero. i guess it works both ways depending on what the load of the airroute is.
Posted by: benny at Oct 11, 2006 4:20:30 AM
good point, benny. a lot of the "last tickets" are airplane employees travelling standby-only. (At least where I fly; I live in Atlanta so delta employees are everywhere).
Posted by: DK at Oct 11, 2006 6:52:17 AM
I had an interesting experience recently. I arrived early for my flight and noticed that I could catch an earlier flight. I asked and they said there was room but if I wanted to switch it would cost me a penalty fee. I forget how much it was, but I didn't particularly want it on my expense account. So I decided that if they wanted to charge for this now worthless item (the plane was getting ready to leave with empty seats) I wasn't buying.
I was happy to see as I was boarding my later flight that they were overbooked and were negotiating to buy back people's seats on my flight. I guess it was just another example of how markets are so much more efficient...
Posted by: RobbL at Oct 11, 2006 8:26:50 AM
A few things to consider:
1. I know several people who explicitly seek out flights on an airline known for a high denied boarding rate because they hope to take advantage of being bumped.
2. For the guy who switched to JetBlue, you should never be bumped on that airline, because no ticket they sell is refundable. You are, in effect, purchasing a different set of rights, one of which is that you will not be denied boarding unless a flight is cancelled. In general, airlines do a horrible job of communicating this sort of information to customers.
3. If you're flying on an aircraft with a first class cabin, the majority of the business travelers you see on the standby list are waiting for an upgrade to first class, not a seat assignment.
4. If you think an airline is losing money paying off bumped passengers, think again. The differential between the payoff to the "bumpee" and last minute ticket price doesn't even scratch the surface because it ignores the no-show rate, which is fairly, if not perfectly, predictable. An airline that oversells it's cabin is selling 80-100 extra tickets for every passenger denied boarding.
Posted by: J at Oct 11, 2006 8:27:29 AM
An airline that oversells is not selling 80-100 extra tickets for every passenger denied boarding, specifically because no-shows are typically able to re-book with either no fee or with a rebooking fee of some sort that is less than the cost of the ticket. One can get the 80-100 figure only if one double counts the people who no-show for a flight and then use that ticket to take another flight.
In any case, the Wall Street Journal quote is correct in theory, if relatively rare in practice and probably irrelevant in terms of marginal behavior. Since involuntary bumping has a maximum legal payout, airlines could choose to engage in practices that would cause more involuntary bumps than would occur in market-clearing conditions. However, given how few flights involve involuntary bumping (as opposed to voluntary bumping), it would seem that the only real effect of this regulation is that it saves airlines some money.
As a college student, I found that this rarely made a difference to me. I always took the first voluntary offer (usually a free flight) because the compensation I received from giving up my seat was almost entirely consumer surplus, and because I was risk-averse. After all, on the margin, missing one day of class costs very little.
Posted by: Lee at Oct 11, 2006 1:40:33 PM
Being bumped involuntarily and volunteering to give up your seat are fundamentally different situations. The latter is the market at work (although United in particular could work to remove the friction from the transaction so the damn plane wouldn't be delayed 45 minutes while they find the volunteers forcing me to miss my connection).
I agree with an earlier commenter - involuntary bumping ought not be allowed (and most certainly should not be price capped by government)
Posted by: Dan Hill at Oct 11, 2006 2:23:36 PM
"One can get the 80-100 figure only if one double counts the people who no-show for a flight and then use that ticket to take another flight"
Well, no. One can get that figure by recognizing that the 80-100 people who sit in the seats the no-shows would have occupied wouldn't have been able to buy their tickets if the airline didn't oversell.
Posted by: J at Oct 11, 2006 2:54:36 PM
I am not at all sure this is a problem. If I bump you to another flight so I can sell your ticket to a higher bidder,
am I not losing revenue on the flight you are shifted to? Unless, that is, the second flight is underbooked for some reason. You gain revenue in the morning, and lose it in the evening.
Posted by: rajeev at Oct 12, 2006 7:36:24 AM
Dan Hill: "involuntary bumping ought not be allowed (and most certainly should not be price capped by government)"
I think the involuntary bumping compensation is a price floor, not a cap. Airlines are free to provide more compensation if they wish.
Why should the government prohibit overbooking? If you aren't happy with one airline's overbooking practices, you are free to fly on a different airline. Why not let the market resolve this issue?
Posted by: JohnDewey at Oct 14, 2006 3:13:10 AM
The rules are here. There are no maximums or minimums for voluntary bumping. (In my experience, the standard compensation was always a voucher for a free round-trip ticket anywhere in the continental U.S., with a few restrictions that I never found troublesome.) For involuntary bumping, what you're entitled to depends on how late you are, up to 200% of your fare or $400, whichever is lower.
I almost always love being asked to take a later flight. I rarely have to be anywhere at a specific time on days when I fly, and for a free ticket that could cost $350 or $400, the hourly compensation is just great.
Posted by: Christopher M at Oct 16, 2006 6:37:24 PM
