Freakonomics at Work in Rental Cars

In the epilogue of Freakonomics, we admitted that we had written a book that had no unifying them and which probably didn’t help a reader solve any real problems. The best we could hope for, we wrote, was that “You might become more skeptical of the conventional wisdom; you may begin looking for hints as to how things aren’t quite what they seem … The most likely result of having read this book is a simple one: you may find yourself asking a lot of questions. Many of them will lead to nothing. But some will produce answers that are interesting, even surprising.”

It is amazing how many people now write to us to tell us that they have done exactly that — started to ask a lot of questions and think through problems for themselves and arrive at interesting conclusions. It is as if we inadvertently deputized a bunch of people to wander through the world and poke around beneath the surface to see what they can dig up.

Here’s an example which, although it’s pretty minor in terms of world importance, is pretty interesting. It comes from a man named Joe Rosen:

Dear Steven & Stephen:

After reading the book, I’ve started to look at things a bit differently. I’m an immigration attorney in Georgia, after retiring with 30 years in the government, 20 as an FBI and U.S. Customs Special Agent.

Here’s my Hertz car rental experience and my analysis.

I recently reserved an intermediate Hertz rental car in Tucson for a week. Intermediate is usually a Taurus or similar model.

When I got to the counter I was advised that I had been upgraded to a brand new Ford Explorer with free Sirius radio. I gladly took the upgrade. When I picked the car up there were a row of brand new Explorer’s being rented by Hertz.

Prior to returning the car, I filled up the tank for a charge of about $ 60. My gas mileage was about 10 miles to the gallon.

When I analyzed it, it all made sense using your reasoning approach.

Ford has a ton of Explorers that people will not buy because the mileage is so poor. Their response is to offer huge discounts to sell them.

Hertz rents the cars so they have no consequence of buying a car with poor mileage, since they do not have any gas costs. The gas costs are all picked up by the renter. Hertz reaps a great price advantage in purchasing discounted explorers without suffering the consequences of having to pay high gas usage expenses.

Most renters are probably business renters who are reimbursed for their car costs by their employer. They accept the luxury of a big rental car without having to worry about the gas prices being paid by them.

The only loser appears to be the employer who’s reimbursement is based on high gas costs or an individual renter who pays his own car rental expenses.

Does that all seem to make sense?

I certainly will no longer jump at a free upgrade to a larger rental car and crucify my clients into reimbursing me for inflated gas costs because Hertz was able to buy cheap large SUV’s.

Joe Rosen

Joe’s analysis seems just about spot-on to me, especially since cars are such a long-lead production item, and since the inventory of gas guzzlers has probably backed up fast and furious because of gas and green issues. What do you think?


ggrappone

And just to flesh out the entire process, Hertz will most likely end up auctioning off those Explorers once they are done with them. There are huge auctions held around the country that automobile dealers go to. If Hertz gets lucky, the interest in SUVs will go back up and make a killing at the auction, on top of the other advantages pointed out in this post.

Elan

This is off topic, but I just wanted to point out this "paper" the authors of the blog:

http://anthonydamato.law.northwestern.edu/Adobefiles/porn.pdf

Some people just suck at Freakonomics.

sophistry

Elan,
It's a curious idea but very difficult to test. There is data out there though.

Elan

sophistry, I should make it clear that I'm not really sure if what he's saying is incorrect or correct. It was just a little disappointing to read a Freakonomics-inspired paper that was so poorly executed. I mean, come on: you can't just throw a couple of tables and graphs in a paper and then conclude by saying "Maybe there is nothing meaningful about this data." Levitt's paper on abortion was so impressive because of his clever use of data that proved a causation rather than correlation.

yahelc

Elan,

interesting idea, but why is the piece so poorly written? I mean, I've received Spam that was more coherent and academic than that piece.

Colin

Bear in mind also that Hertz makes money from anyone who chooses to prepay for their gas, or who leaves the gas tank partially empty. The former of these will generate more revenue from the Explorer if it has a larger tank.

zbicyclist

Just so everybody's aware, Ford owns Hertz. This makes the strategy outlines above even more likely.

http://myautoworld.com/autos/ford/ford.html

Elan

yahelc, I didn't write it.

StCheryl

Getting back to the original topic -- it's not just the businesses that are hurt by the Hertz upgrades. First of all, businesses write those costs off, so they're not hurting as much as you or I. Second, it's the environment, stupid. We're all hurting when gas gets wasted. It's called Global Warming/Climate Change: Higher temperatures in the summer, more volatile storm season, Category 5 storms, etc.

110phil

I fail to understand why Mr. Rosen is so offended by his experience.

First, he “gladly accepted” the upgrade. It wasn't forced on him.

Second, he knew when he accepted the Explorer that it costs more in gas than a Taurus does. Presumably he chose to take it because it's nicer than a Taurus, and worth the extra money – or at least he thought so at the time.

Third, he writes, “The only loser appears to be the employer [whose] reimbursement is based on high gas costs or an individual renter who pays his own car rental expenses.” Employers have the option of requiring their employees to not accept such upgrades. As for individual renters, it seems strange to call them “losers” given that they voluntarily chose to drive an Explorer and pay the cost. Unless Mr. Rosen believes that, unlike him, the rest of us are too stupid to understand the tradeoffs involved. If I were in a sarcastic mood, I might suggest the opposite -- most of us would have realized at the outset that gas would be more expensive in an SUV than a car. Mr. Rosen, however, didn't find this out until filling his tank.

Fourth, Mr. Rosen argues that Hertz faces no consequences of higher gas prices, since the client pays for gas. This is just plain wrong. His experience is absolute proof that Hertz and Ford face consequences, having to offer Explorers as a free upgrade to get them out of the lot. Both economists and Freakonomists understand that the cost of gas is factored into what the customer will be willing to pay for the vehicle, whether buying or renting.

Fifth, he writes, “I certainly will no longer jump at a free upgrade to a larger rental car and crucify my clients into reimbursing me for inflated gas costs because Hertz was able to buy cheap large SUV's.” Might I ask why he is crucifying his clients into reimbursing him for gas costs on a Taurus, when he could easily rent a smaller car, a Focus or an Aveo? Why so self-righteous about the Explorer, but not the Taurus? It sure sounds like Mr. Rosen is projecting his tastes on the rest of the world – Taurus OK, SUV not OK, don't we get it?

Finally, if Mr. Rosen “gladly” chose the Explorer because he liked it better, why would he charge the client extra for the gas anyway? Shouldn't renting a more luxurious vehicle than needed be at his own expense, rather than the client's?

The tone of his letter makes it sound like Mr. Rosen rented an Explorer, later came to regret it, and is now choosing to blame Hertz for somehow ripping him off. He comes off sounding self-righteous and silly.

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zbicyclist

The D'Amato paper is awful, but there is one curious thing:

States with very high rape rates in 1980 seemed to end up with high internet rates in 2001. If we want to have a casual conversation about causality, THAT's an interesting thing to speculate on.

afeltus

Let's point out the simple errors here first. Ford does not own Hertz - they sold the company about a year ago.

"Long lead time production" This is true but not really relevant to the problem. Rental cars are bought on a fleet basis and I assume the mix of vehicles determined long in advance.

The solution to the problem above is Economics 101. The companies goal is to maximize fleet utilization since everytime a car/truck is not rented is lost revenue. secondly, they want to maximize revenue relative to cost of capital.

The fleet mix is fixed but consumer preferences are not. Higher gas prices have shifted those preferences from SUV's to car. So all things equal, the rental rate relative to cost of capital is higher for cars than SUV's.

Thus, it is in the best interest of the rental company to get people to take SUV's, because they having trouble renting them. But if you don't take the car, they will not have a problem finding a profitable rentor. Over time, they will adjust their fleet mix and the "free" upgrade will disappear.

Interestingly, a reservation only is a starting point in negoiation. If you would have preferred the Mustand to the SUV, you should have offered them $10 a week more. They would probably take it.

Likewise, 110phil seems to have understood the situation.

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prosa

Renting a vehicle with a high seating position like an Explorer actually isn't a bad idea when you're driving in an unfamiliar city. The better visibility you get with such vehicles can make it easier to find your way around.

toddzilla

A car rental company is running a radio ad that is most interesting because it presents the rental car as an alternative to paying high fuel prices.

It features a couple debating a long road trip, only to decide against it because of the price of gas. The "solution"? A rental car that can be had at a very attractive price. After wondering how a rental car company could present such an absurd ad idea, I wondered how many people would see the cost of the car and the price of gas as being a better deal than the price of gas alone.

mixylplyx

"First of all, businesses write those costs off, so they're not hurting as much as you or I."

Jerry: So were going to make the Post Office pay for my new stereo?

Kramer: It's a write off for them.

Jerry: How is it a write off?

Kramer: They just write it off.

Jerry: Write it off what?

Kramer: Jerry, all these big companies they write off everything!

Jerry: You don't even know what a write off is.

Kramer: Do you?

Jerry: No. I don't.

Kramer: But they do, and they're the ones writing it off.

Jerry: I wish I had the last twenty seconds of my life back.

mixylplyx

There may be another angle to this ... I would imagine that because of high gas prices, folks are not choosing to rent Explorers which could cause a glut on the lot even if Hertz were not buying any "extra" Explorers at a discount.

Tapper42nd

Can we also name the environment as one of the losers here?

To respond to 110phil, I don't think Mr. Rosen is trying to blame Hertz. He recognizes the idea of personal responsibility where he pledges not to rent the gas-guzzlers just because it won't cost him much more. He's just recognizing how much we all take advantage of things when we can, not looking at the consequences. It's the super-size effect; it's only 40 cents more to supersize, but it's doing much more damage than that to our bodies.

What I see in this situation is that maybe if you give tax credits or other incentives for car rentals to rent more energy-efficient cars, they would finally get the kick in the pants to think about what they're doing. One would hope their sense of world citizenship would make them think about their impact on the environment, but I doubt it.

ggrappone

And just to flesh out the entire process, Hertz will most likely end up auctioning off those Explorers once they are done with them. There are huge auctions held around the country that automobile dealers go to. If Hertz gets lucky, the interest in SUVs will go back up and make a killing at the auction, on top of the other advantages pointed out in this post.

Elan

This is off topic, but I just wanted to point out this "paper" the authors of the blog:

http://anthonydamato.law.northwestern.edu/Adobefiles/porn.pdf

Some people just suck at Freakonomics.

sophistry

Elan,
It's a curious idea but very difficult to test. There is data out there though.