I’ve gotten a few requests for comment on the whole “airlines now charging customers to breathe on their airplanes” issue, so I will give a bit of an economist’s take on the matter here.
First, a recap for those of you who, unlike me, haven’t been watching the airline industry with baited breath to see what wacky plans for profitability airlines are going to roll out next:
- Back in 1987 (yep, I’m going back that far), American Airlines became a pioneer in the “becoming a crappy airline” trend by eliminating olives on salads in order to slash costs by a whopping $40,000 per year. Now, $40,000 on its own doesn’t exactly sound like pocket change, but when you compare it to the fact that the old-school airlines have lost some $30 billion since 2000 it doesn’t look so impressive. Put that way, the $40,000 olives are barely a drop in the bucket. On the up side, the airlines would only have to come up with 749,999 other olive plans in order to recover their losses.
- The olive trend really started to snowball around 2005, when traditional airlines started taking away free pillows, magazines and even pretzels for coach passengers while competing heavily on service for business and first-class passengers.
- In June 2008, American and United Airlines announced that they were going to introduce fees for all checked baggage. (Fees for multiple bags had existed before that point, but these were the first major carriers to start charging for a first bag.) I wrote at the time about how airlines were basically giving their customers an incentive to be really annoying to their fellow travelers and stuff as much stuff into the biggest carry-on bags as humanly possible. I’m guessing this did not add to the efficiency at the security checkpoints.
- In September 2009, Southwest Airlines committed the ultimate customer service sin by taking away lemons as a beverage garnish. (Actually, this wasn’t necessarily a terrible idea, since the very scientific polls conducted seemed to indicate that people don’t really like lemons anyway.)
- In April of this year, Spirit Air started charging from $20-$45 for carry-on bags. This is in addition to whatever existing fees it had for checked baggage, so the only way to avoid a fee with Spirit is to either travel reeaaaaallly light or FedEx your luggage. Or maybe do this:
- Spirit Air’s policy drew the ire of Transportation Secretary Ray LaHood and Senator Chuck Schumer, who argue that the airline is being misleading in not adequately disclosing the fees before customers purchase their tickets. The CEO of Spirit Airlines countered this accusation pretty unconvincingly:
Baldanza told Elliott, “Last fall, we identified excessive carry-on baggage as the number-one controllable reason that our planes were being delayed at the gate.” Spirit’s solution is to change the pricing structure so that nobody can avoid a checked baggage fee, thereby reducing the incentive to bring your bag onto the plane yourself.
Dear Mr. Baldanza: Captain Obvious over here would like to point out that you likely wouldn’t have had the excessive carry-on baggage problem if you hadn’t started charging for checked luggage. (Economic Principle #4: People respond to incentives.) Five other airlines saw a PR opportunity in all of this and publicly committed to not charging for carry-on luggage.
- In a fun twist, Ryanair actually made those “what next- are they going to charge us for use of the restroom?” jokes a reality when it, well, announced that it was going to reduce the number of lavatories and install coin-operated locks on the doors.
- Apparently that fun Icelandic volcano cost airlines $1.7 billion. Economically speaking, this *shouldn’t* affect the supply or price of flights since it’s a one-off sunk cost and not an ongoing variable cost (read, it wouldn’t actually be profitable for airlines to raise prices because of this), but, given their behavior up to this point, you never know.
To summarize, as noted in one of the earlier posts:
Hopefully we’re all caught up now. Now, y’all haven’t been very specific with your questions, but I assume that you are inquiring to some degree whether these events are economically reasonable. So let’s discuss…
What you are seeing here is a version of piecemeal versus all-inclusive pricing. Both of these types of pricing arise in various scenarios- all-you-can eat buffets versus a la carte menus, all-inclusive resorts versus hotels where guests pay for the specific services that they use, etc. In the all-inclusive scenarios, the customers who use fewer of the services end up subsidizing the heavier users, since everyone is charged the same price and the company has to make a profit. (This is why I really don’t like going to all-you-can-eat buffets.) In addition, there is a moral hazard issue with all-inclusive pricing, since people consume more services when they are free (on the margin) than they would if they had to pay for them individually, but these services usually aren’t free for the company to provide. The company, therefore, must also take moral hazard into account with an all-inclusive pricing scheme, which makes customer expenditure higher overall than it would be with piecemeal pricing.
When a company charges individually for specific services, there is no risk of people consuming things that they don’t value as much as they cost to produce. (Even if the customer decides that he made a mistake in choosing to consume the service, he still paid an amount higher than the cost of production.) Therefore, in a pure economic sense, piecemeal pricing is generally more efficient, since everyone is paying an amount in line with the cost that they are imparting on the system.
The downside of piecemeal pricing is that it can get quite complex and cumbersome- when you go to a hotel, for example, is it efficient for the hotel to meter your use of the electricity, water, towels, etc. in the room and bill you accordingly? In theory, probably, given the above discussion. From a practical standpoint, however, the variation in usage across customers and the amount of moral hazard probably isn’t enough to justify the effort. I mean, how much excessive electricity can one really consume just because it’s free? On the other hand, a lot of hotels do charge a la carte for Internet access, since it’s a discrete item that some customers really want and others don’t. (Note that the piecemeal pricing still makes sense in this case even though the Internet access is essentially free on the margin for the hotel to provide.)
Now let’s come back to the airline scenario. What the airlines seem to be saying is that it is worth it for them to implement piecemeal as opposed to all-inclusive pricing for their flights and related services. As noted above, this is reasonable when there is substantial variation in the utilization of the services and/or significant potential for moral hazard. In my experience, I’ve often taken the free beverages on a flight even though I didn’t really want them, mostly because they were there and it didn’t cost me anything to take one. I’m guessing that I’m not the only one to do this, so maybe there’s something to be said for the a la carte pricing in this case. The situation with the baggage is somewhat different, however- the vast majority of people take luggage on airplanes, and I doubt that people vastly overpack when they don’t have to pay extra to take a bag with them. These characteristics would imply that the a la carte baggage fees would be more trouble than they are worth. So what gives?
It’s probably not shocking to you that economic robots are much better than actual humans at making consumption decisions with a la carte pricing. The economic robots, for example, would analyze how many bags they would be taking with them, whether they thought they would want a beverage and/or pretzels on board, and how important an airline pillow was to them, and they would make their choice regarding which flight is the best deal accordingly. Humans, on the other hand, would likely realize that it was kind of a pain in the ass to find and compare all of the different costs when choosing a flight and just go with the one that Orbitz says is the cheapest. (I’m a fairly vigilant price shopper, and even I find it annoying when I have to look up the cost of taking my dog on the plane and add that in to the flight cost in order to make an informed decision.) If this is how customers are choosing their flights, then companies like Spirit Airlines have an incentive to structure their pricing with a lower dollar number on the flight itself and a higher dollar number on the shrouded attributes, since customers won’t fully internalize the a la carte prices until after they’ve already purchased their tickets.
This last point seems to be what Secretary LaHood and Senator Schumer are all in a tizzy about, and not without reason. Economists realize that the cost of something is what one has to give up in order to get it, and, by structuring the pricing in an unnecessarily complicated way (unnecessary because most people bring luggage on airplanes, so it’s hard to argue that it’s more efficient to charge separately for this feature), the airlines are effectively adding to the cost of the flights above and beyond the dollar amount on the ticket. They are also potentially causing people who aren’t paying enough attention to the fine print to make unwise economic decisions. (It’s way too easy to say “tough cookies” on this last point when the reality of the matter is that people are human and information is not costless to obtain.)
Restricting the a la carte pricing probably isn’t the way to go, since there are items that make sense to be purchased in this way, and it’s probably more trouble than it’s worth to figure out which items fall in this category and which don’t. (I get a little annoyed when I turn away the in-flight meal that I paid for, but I’m guessing I’m not in the majority, for example.) It could, however, make sense for airlines to have to disclose the piecemeal fees to the consumer up front, and it would even be nice to have some sort of central comparison chart on fees in order to facilitate consumer decision-making. (The latter item is already out there without the government having to mandate it, in fact. Score one for capitalism.)
The reality of the matter is that transporting one’s self on a flying vehicle isn’t cheap, and airlines need to cover their costs in order to stay in business. I think that consumers need to appreciate this a tad more than they already do and not blame the airlines for having to raise prices and cut flights in response to increases in fuel costs and such. The flip side of that argument is that if airlines want people to trust them to simply react to market forces and not be explicitly ripping them off, they might want to stop with the artificial hiding of costs, since that just reeks of sketchiness.
And yes, it might actually be reasonable to FedEx your luggage.