Uber Understands Economics

The driving service Uber is getting ready for New Year’s Eve, and using it’s knowledge of economics and prices to not only increase sales, but provide a better service to it’s customers.

Uber Logo

What is Uber?

Uber is a taxi-cab-like service available in some cities that uses a smartphone app (Uber for iPhone | Uber for Android) to help locate licensed fare-based car transportation.  When a user needs a ride, they open the app, select a pickup location, and request a ride. Credit card information is stored in the app, and you are charged after your ride.

Here is a screenshot of the iPhone App in the Washington, D.C. area:

Uber App screenshot

Uber in action.

How Uber is using Economics and the Role of Prices

Uber recently sent out an email to its users regarding New Year’s Eve explaining that they would be implementing “surge” pricing. Prices will be significantly higher (perhaps as much as 3x higher).

Header of Uber Email NYE

 

Why would they do this?

At least a couple of reasons, I speculate:

  • They are only as strong as the number of independent drivers they can convince to be on the road. More drivers = more cars = more convenience for users = great success
  • They want to help users understand so they aren’t shocked. A shocked user might feel slighted and be less likely to use Uber

Prices give information

Prices give a lot of information.  They tell suppliers when demand is high. Those suppliers that want to make more money will thus supply more of the good/service.  They tell consumers about demand, too.  Consumers have to decide if the price is worth the good or service.  If it is worth it, they will buy it.  In this way, a supplier’s “greed” directly helps a consumer’s “need.”

I explain more about the role of prices in my series, The Role of Prices.  That article is a great companion to this discussion.

Uber explains to it’s users how this will work.  Here are the first paragraphs from the email:

 

Uber surge pricing email screenshot.

Uber’s email discusses surge pricing and the logic behind it.

As you can see above, Uber is explaining to it’s users that when times are tough (i.e. lots of demand for the service), raising prices will get more of their drivers out on the road.  Also they explain that there is a good reason that demand is high.

Isn’t this Price Gouging?

By Wikipedia’s definition, yes (I make no statement about the legal issues discussed on Wikipedia, just the simple definition).  But Uber has done this very eloquently.  The beauty of their approach here is informing the user.  Uber has the wherewithal to predict a surge in demand and is preparing its users accordingly.

Here is more from the email:

Uber email screenshot

Uber explains how the user will know if there is a price hike.

Informing users about price hikes is a smart way for Uber to leverage the power of prices to better serve their users.

Informing users about price hikes is a smart way for Uber to leverage the power of prices to better serve their users.

And Uber is still going to be more convenient than a highly-regulated taxi, because they have nifty features like being able to split the fare with friends. They remind their users of this at the end of the email:

Screen Shot 2013-12-31 at 3.31.53 PM

What if Uber Didn’t Surge?

If Uber didn’t surge, then there would be fewer drivers on the road willing to brave the NYE madness.  For those drivers that were on the road, they would be snatched up by the first person to power up the app and grab the car – as opposed to the highest bidder. What if you just “sort of” wanted to get home, but someone else “really really really” wanted to get home (maybe they are sick or cold or worse) and they were willing to pay for the ride. If they didn’t hike the prices, then the scarce resource (cars for hire) would not be allocated efficiently, i.e. they would be allocated to those that didn’t necessarily want them a whole lot.

The drivers that did brave NYE wouldn’t have much incentive to do so. If you work 6 nights a week, why go out on the night that will be a madhouse of traffic and people?  You might go out if you knew you could get triple the usual fare. Otherwise, you might just take the holiday yourself.  Of course there is probably a better guarantee that you could find a fare (you know there will be people out in certain spots looking for a ride) – but that still might not be enough to get you out there working.

High prices is the surest way to get drivers out there – filling the “shortage” of drivers as droves of people search for a quick way home.

Conclusion

My hat goes off to Uber: they have managed to leverage the power of prices to not only maximize their own profits, but maximize the gain of it’s users.  They have shown that you can still follow sound economic principles with little regulation – and do it better than the other guys.

I look forward to seeing how Uber does this NYE. I predict that there will be tons of Uber cars out to get people home this NYE, not as many city-regulated taxis. The Ubers will be easy to get, the taxis near impossible.  Ultimately this will make it safer for those cities (people who want to get home can get home quicker and not remain in the streets) and a better experience for those out celebrating NYE!

Uber: keep it up.  Regulators: stay out of their way.  People: keep your eye on this smart company.

Let me know what you think. Do you agree with Uber? Do you think this will help Uber users?

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