Dynamic Pricing Benefits Everyone.  Politicians Should Stay Out of It

By Scott Francis on Pricing Strategy, Dynamic pricing, Economics / Post a Comment

austin-scherbarth-214677_unsplash.jpgLast week an article in the Pittsburgh Post-Gazette focused on the potential for the use dynamic of pricing in Pittsburgh parking, Let's make smart parking tools for Pittsburgh.  The article reports that Carnegie Mellon University created and administered a pilot project using dynamic pricing of parking spots in 2013 and 2014 which improved overall parking revenue and use of parking stations.  The results were reported to Pittsburgh City Council with a recommendation of implementing the practice in all city parking.  To date, Council has prevented that implementation.  The article is a reminder that dynamic pricing benefits everyone and politicians should resist the urge to interfere.

Let’s start with the basics.  Dynamic pricing is a pure economic approach that balances supply and demand.  When supply is high, but demand is not, prices will be lower.  When the converse is true, supply is limited and demand is high, prices will be higher.  Dynamic pricing is the most efficient way to balance supply and demand; it has been in practice since the beginning of trade; and is evident every year in the price fluctuations of our food and basic commodities.  During the past several years, this practice has expanded to other markets where prices tended to be fixed for long periods of time.

Consider some examples of dynamic pricing and the benefits.  The airline industry was one of the early adopters.  When air travel was deregulated, new carriers entered the market and expanded capacity.  To compete for travelers, the new carriers lowered prices and took business from the existing carriers.  The big carriers responded by lowering their prices too, and everybody bled red ink.  However, the airlines found that demand from business travelers was high during the week at specific times.  By increasing the prices of those specific flights at high-demand times, they increased their revenue.  They also found if they charged the same prices for weekend leisure travelers, passenger volume would drop substantially.  By matching supply and demand, they reduced their losses and enabled more of us to travel for pleasure.

Electric utilities have used peak-load pricing for decades.  The amount of capacity required is dictated by the amount of energy needed at peak usage, which was during the day when all the businesses, schools, etc. were running.  The utilities set their prices high enough to make a small profit and provide that peak capacity.  Unfortunately, at those high prices, residents struggled to afford to light, heat, and cool their homes and they reduced usage.  By lowering prices at night, the utilities encouraged more use by residents, better matched supply and demand, and lowered the breakeven prices for peak users.  Everybody won.

Carpool lanes (“HOV”) were created many years ago to encourage commuters to share rides.  What cities, counties and states found is that HOV lanes flowed freely, while all other lanes were severely congested.  In recent years, many congested highways have created “fast-pass” lanes where drivers can pay, via toll transponder, to drive in a lane with much less congestion.  The greater the congestion to be avoided, the higher the price.  The states and municipalities benefit from greater income, the drivers in the fast-pass lanes benefit by arriving at their destination quicker, and the other drivers benefit by reducing the congestion on the remaining lanes.

My last example is a little less obvious and conventional.  In the 1980s I bought season tickets to the Miami Dolphins home football games at the Orange Bowl.  There were very few parking lots and parking spaces near the stadium, and parking passes cost as much as tickets to the game.  Land was too expensive in the area to build other parking lots or garages, so homeowners in the area began to sell parking spots in their yards.  The homeowners could charge $10 to $20 per car to park during games.  If there was not a game, nobody had an interest or need to park in a resident’s yard.  By dynamically adjusting the price and availability of parking spots, the football team, the fans, and the homeowners all benefited.

In all markets where prices fluctuate, somebody complains when prices increase, meaning the prices reach points higher than the complainer would like to pay.  All too often, politicians hear the complaints and feel bad for the individual, and decide they should intervene.  We have seen calls to eliminate fast-pass lanes because some people cannot afford them, requests to regulate concession prices at sporting events, and demands to eliminate surge pricing from Uber.  Although there is no doubt that in periods of high demand dynamic pricing can increase prices past the level of affordability for some potential customers, it is a highly efficient way to allocate scarce availability and encourage more supply, and it benefits the greatest number of people.  Politicians really need to resist the urge to intervene.

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