The Bizzy Life - For people who live their work

In Part One of this two part series,  I ended with “I vowed to ask everyone on my next flight to hold up a card telling everyone else what they paid for their round trip flight to and from equivalent destinations. I am not through with the fight against non-competitive Ramsey pricing, and also being treated like freight, not a customer. One fight at a time is a reasonable rule of engagement with monopoly practices in markets.” This is the second fight.

You might recall from Part One my frustration when I could not get the airline to help me with my problem. I expressed my frustration as follows when I was put on hold.  Now what? I can just lick my wounds taking some blame that I didn’t handle that very well and accept my fate at the hands of some airline efficiency programmer who is likely controlling policy by maximizing a revenue function based on a Ramsey pricing system designed by an economist. I’m an economist, and now I feel a victim of my own science. I will not accept this situation!” You might ask what is Ramsey pricing, and why does it place the airline in charge of your ticket and thus your flight experience? Good question. Let us explore and decide what the fight is about.

The Ramsey problem, or Ramsey-Boiteux pricing, is a policy rule concerning what price a monopolist should be allowed to set, in order to maximize social welfare, subject to a constraint on profit. In the case of airlines, no profit constraint is applied today. The system without the constraint maximizes the price paid by each customer one at a time at their highest willingness to pay level. The profit constraint would set profit at the best alternative competitive profit for similar risk investments to airlines by a regulatory body. In this era we have abandoned the constraint and destroyed price competition transferring benefits from the customers to the airlines and have no regulation of profit based on the rule.

Ramsey pricing was once called first degree price discrimination and operates best under conditions of inelastic demand (where a customer needs the product, ie.to fly, and is not deterred by price over a wide range). This kind of discrimination was historically controlled by secondary or used product markets. Preventing passengers from selling their seats to other passengers would have been an anti-trust violation in 1968 and before. Preventing the secondary market means that the seat for sale at a specific time is viewed by the consumer as their only choice and they must purchase it or it will vanish from their set of rational choices since they cannot resell it or get their money back if their plans change. All risk is transferred to the customer. To the airline the seat has a marginal (additional) cost of zero, yet it must cover its fixed costs which are constant for all seats on the plane. They sell when they find a customer who will pay  a price at their maximum willingness to pay. The system isolates the customer and makes each seat a separate market.

All the seats travel together, obviously, and therefore the airline seeks to maximize total seat sales value for the given number of seats on that flight. Thus the consumers gain zero consumer-surplus (the value they would be willing to pay above the competitive price for that seat) and the airline captures all the value of consumer/producer competition in the form of maximizing profit above cost for that flight per seat. Of course, the system is used on all flights. Thus non-competitive profit is maximized when the flight is full. When you fly these days have you noticed that you are almost always on full flights in planes where an additional seat is not technically possible? You can tell when this is true without counting the seats because your legs are asleep, a good proxy measure for no more room.

The downside risk for the monopoly airline is not selling all the seats reducing profit. If you understand this so far, you now understand why you feel like a piece of cargo or a revenue unit, not a person, when you fly.

In the full airplane scenario customers who could communicate with one another would quickly see that a market for seats could be created through the knowledge that when they refused the airlines price for any seat collectively they could bargain for lower prices if in fact they could sell tickets to each other. This would be most powerful when the airline was faced with collective refusal to buy thus a zero sales scenario for a flight with fixed costs. To the airline zero sales would translate into their loss being maximized. In this competitive face-off the price ultimately offered by the potential consumers would be the single uniform price that a competitive market would generate,  not a monopoly set of different prices. That price would cover total costs at full capacity including as one of the fixed costs a competitive profit margin. If that were not true then the airline would not offer the flight.

If you want to get thrown off an airplane just stand up and ask everybody to write the price they paid on a sheet of paper and hold it up for everyone to see. My little fantasy works best if it goes global. That would strike terror in the airline executive offices. It, however, would not be terrorism, it would be a call for the return to competitive market pricing. Have you noticed that in highly competitive markets prices available from each seller are almost exactly equal for the same product? When you compare prices in the airplane see if you can find the differences in the seats reflecting the price differences, or if some seats arrive earlier or have ejection capsules in case of a crash that your seat does not have. Every seat in each class is the same. They should have the same price for the same trip.

If you think the reason you can’t sell your ticket to each other potential customer is due to security, you are wrong. It is to make sure that no such secondary market for tickets comes into existence. No matter who holds a ticket they eventually have to come ride the plane and be checked for security. It would matter very little if the ticket were bought and sold a number of times among customers for security. However, it would end the situation we face where each customer pays a different price to travel together at the same cost per seat. Those of us over 65 can remember selling their tickets down at the student union if we decided not to take a particular trip we had booked with the airline. The reality is that this is the way a competitive market looks, instead of what we have today which is a monopolized market pricing system.

In both cases social welfare is maximized which leads the monopolist to think they have done no harm. In reality harm comes from a redistribution of the social welfare in the form of noncompetitive profits taken from each consumer transferred to the airline that would not have occurred in a competitive market. In a competitive market actual prices would be driven to equal prices for all customers because they could communicate with each other. The communication is not complex because all the information would be conveyed by the price. The rational consumer group will initially offer to buy at a price below the eventual market price. In negotiation the first sale would be at the price the airline could offer that would cover their total costs at their estimate of total demand for this flight. Once the customers have one ticket it would compete with any attempt by the airline to insist on higher prices. The airline is then forced by the market to maximize its available seats at that price to maximize its profit for that flight.

Is there anyone dumb enough to not be able to recognize that the ability to buy a seat from another passenger at a price below that charged by the airline would be a good idea? You might argue that when the consumers act collectively by threatening to engage in the act of buying and selling tickets to each other it harms the airline. But you must recognize that the airline in the absence of competition from other airlines or other ticket holders for the same time and routing clearly harms the consumer by controlling without alternative choices the market price. Those who defend the airline do not understand what a competitive market means. However, their understanding is selective. Virtually all of them would oppose vehemently a regulatory elimination of the used car market to protect the profitability of new car sales. Just ask them. Do you think GM and Toyota would support killing the used car market? Isn’t it full of unsafe at any speed gas guzzlers?

To be clear the regulation or rule that tickets cannot be bought and sold in a secondary market was brought on by the airlines, not the government. The airlines did this by being allowed to make the ticket a contract where the customer cannot sell the ticket to anyone else. In the world before this change the ticket was the property of the passenger when purchased.  Now it is more like an option to fly at the discretion of the airline. You don’t fly, no refund means you didn’t exercise your option. If you owned the ticket your risk is not being able to sell it. The airlines have avoided responsibility for this monopoly rip off by the customers being convinced that the problem is government regulation often mistakenly seen as security driven. A fool and their money are soon parted.

What is really remarkable in this case is that those who love the market the most are the most likely to be taken advantage of by the airline since they think the regulation is driven by an intrusive government instead of their false friend the business we call the airlines. The only markets really created here are the one for lobbyists in Washington and the one for politicians who will run on an antigovernment pro-business platform. The fool is the customer who supports this anticompetitive model instead of their consumer interests politically.

The truly savvy airline executive would say this is all speculative because the cost of consumers communicating with each other is so high per ticket that no secondary market will ever come into existence. Of course, that was not true when I could and did sell my tickets back in the “good old days”. An executive of this limited vision might consider the potential of Twitter and Facebook to finally prove useful when people stop gossiping about nothing or sending each other pictures of food from breakfast and start using the friending system to communicate at virtually no cost about prices. This fits nicely because it would channel useless behavior or ditsy behavior by those with food fetishes into socially useful price competition which is exactly what Adam Smith was trying to create when he described a competitive market. It channels the selfish behavior of buyers and sellers into the market where the conflict is resolved peacefully by voluntary agreement on price for the product. This free-market potential exists and it would be hard to hide its benefits. This deregulation would be customer friendly and just involve making tickets the property of the customer. Revolutionary: No, competitive.

Just imagine a blog of everyone wanting to go to Las Vegas the week of the National Finals Rodeo agreeing not to buy tickets collectively until the airlines posted a price at cost plus a competitive return and they could buy and sell tickets among themselves. Do you think no one would go to the NFR or everyone would go at the same price? Try this in all markets.

Suggesting that too much time used negotiating would make consumers give in would be the airlines ploy. Don’t customers spend huge amounts of time now as their own travel agents, while price searching and paying for luggage and seat preference? Don’t you think they would spend even more time to get vastly lower prices by buying and selling their tickets among the customers to set the price? I do. If there is premium value for particular isle seats some of that value could accrue to customers not just to the airline.

An even more saddening argument surrounds the perception that sites like Kayak and other discounters create competition. They do not. They simply provide a means for tickets to be allocated at prices set by the airlines using the Ramsey system with competition only coming in markets where there are multiple airlines that have no explicit or implicit price setting agreements offering competitive choices to consumers. Those are hard to find because of mergers and code sharing systems. At these sites you are finding a price, not negotiating to set the price. If you want to test the workability of negotiating with the airlines through Kayak, for example, I recommend a little experiment. Go to your local grocery store and pick out 20 items, then go to the checkout counter and make up offers below the stated price for each item and negotiate like you were on the beach in Mexico. Kayak wouldn’t do that for you, they would guide you around the store showing you dried up fruit not sold yet at a price set by the grocer.  You’ll never be invited back to the store because your cell won’t work from the county jail. Let everyone you know how it went on their Facebook and Twitter accounts. Please!

It seems like a good day to start a revolution. It is a sad day in the country where the market is touted that consumers demanding to have the power to negotiate over price is a revolutionary action. You are not freight.