Living Economics

Surge Pricing Ride Service
Dynamic pricing allows mobile-dispatched ride services such as Uber to digitally match supply and demand at the expense of regular taxi companies.

Hailing a cab in a city has always been an ordeal. You never know when another vacant taxi is going to appear. And if one happens to pass you by, it may not stop for you for a variety of reasons. If you are lucky to get into one, you never know the physical condition inside the cab. You wonder if the driver might take you for a joy ride because you have a strange accent. You wonder if the driver is going to use the meter. You wonder if he is going to turn his radio on loud playing weird music. You wonder if the driver smokes. And you wonder if you will be looked down upon for not tipping enough.

If there is one business that is ripe for digital disruption, the taxi service is the one. Just imagine what it would be like if you could open the pick-a-ride app on your smart phone and select a ride closest to you with a pre-determined fare. You knew what kind of car you were getting into and where the car was in real time. When the ride was over, you would just pay on your smart phone hassle free. You could also evaluate your ride to help the pick-a-ride company to eliminate bad cars and drivers.

Uber is just such a company. It does not own cars or employ drivers. Rather, it is a market maker that digitally matches supply and demand of rides. It screens the ride providers to exercise quality control and takes out liability insurance. It makes its money by keeping 20% of the fare.

Uber rides are about 50% higher than regular taxi service. But at peak demand, under bad weather conditions and at inconvenient times, its rides could surge to 8 times the normal taxi fare (NYT Magazine). Such surge pricing has been justified to increase the supply of rides. But it could also be a means to limit peak demand. By limiting peak demand, Uber does not have to maintain a pool of drivers too large to keep busy at normal times. Whatever it is, surge pricing has not been well received. But if the market is cleared, the price premium is justified? And if it discourages repeat business, the price premium will have to be adjusted downwards?

Surge pricing is also a powerful competitive tool against regular taxi companies whose drivers have little incentives to work at inconvenient times even with a slight surcharge (BusinessWeek).

Taxi companies and drivers sitting on the limited number of expensive license medallions (See Yellow Cabs, Red Tape) are understandably upset that their livelihood is threatened by the entry of unregulated upstart mobile-enabled ride services. Some cities are considering proposals to allow taxi companies to adopt surge pricing to compete with the upstarts. But can old dogs learn new tricks?

References:
  • Washington Post. 4/7/2014. "Proposal would allow D.C. cabs to embrace ‘surge pricing’".
  • BW : 2/24/2014. "Invasion of the taxi snatchers".
  • WSJ : 1/8/2014. "CEO of Uber car service drives pricing debate".
  • New York Times Magazine. 1/10/2014. "Is Uber’s surge-pricing an example of high-tech gouging?"
  • BusinessWeek. 10/30/2014. "Cabbies are smarter than you think."
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