You Tell Us What Your Seat Is Worth

Who hasn’t heard an airline gate attendant announce, “We are in an overbooked situation and are offering $xxx to anyone willing to give up a seat and take a later flight?”

The problem with this announcement for the airlines is that there is often a rush of people supplying seats — the $xxx is above equilibrium, and the airline is offering some volunteers a substantial consumer surplus.

Northwest Airlines has found a way to circumvent this: When you check in online, the website states that the flight is very full and they are accepting volunteers to give up seats. If you click “yes” to indicate your interest, it then ask how much money you want as compensation. It notes clearly that they will take the lowest offered prices first. If it needs 10 volunteers, Northwest could offer each the tenth-lowest price offered, reducing consumer surplus, and saving itself money compared to the gate announcement.

But why not go whole-hog: Give each of the volunteers exactly what she/he offered, thus entirely wiping out consumer surplus. I bet they do that.

This is a rare example of perfect price discrimination, and it wouldn’t have been possible without the internet.


Nick M.

@ #19: Good point. If I wanted to make sure I was on the flight out I'd just put $10,000 down.

David Wilson

I think it would be a mistake for the airline to only pay each person their requested price. I think people would start to take into account that they don't want to be the sucker who only got paid half of what someone else earned for the same work. They would raise their offer price in the future.

Loren Pechtel

As others have said, this doesn't work very well. Until you tell me what the rebook will be I can't say what it would take to get me to accept it.

As for why airlines do it, it's been pointed out that a certain percentage won't make the flight. In many cases it's *NOT* the passenger's problem. Most of the complete no-shows are expensive fully-refundable tickets. Also, if the passenger is late because of what happened on an earlier flight on the same ticket the airline is still responsible for getting them to their destination, the ticket isn't lost.

While I have never actually missed a flight I have been weather-delayed to the point that we were the very last passengers to board a 747. I know there were 32 passengers on that plane with a *FAR* tighter connection than we ended up with. (And a little old lady in 1D who insisted on shuffling out at the start despite the fact that the flight attendant had asked that everyone not on a very tight connection to remain seated until those of us who had to dash were off. I know she had nothing planned for some hours.)

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Nick

The reason they overbook is because a fairly consistent proportion of customers don't turn up for a flight. So for every 1 in 100 flights that is too-full, for example, they have 99 that earned them plenty extra. Something to do with a Poisson distribution too, but I can't remember the exact math.

dd

"But why not go whole-hog: Give each of the volunteers exactly what she/he offered, thus entirely wiping out consumer surplus."

Not exactly. That's the difference between a uniform-price auction and a discriminatory auction (similar to the distinction between a first-price and a second-price auction if only one item is being sold.) Which one extracts more surplus depends on the assumptions you make, but if you assume that an airline seat is a private-value good (which it probably is) then the revenue equivalence theorem says that they are equally costly to the airline.

Belfast Brendy

I've never seen this happen in Ireland or the UK. The only time I've seen this happen in Europe was on a Lufthansa flight from Frankfurt to Mexico. They offered 600 euro, a night in a hotel with meals, and guaranteed seats on the same flight the following day. I would've happily accepted that offer straight away, but I was flying with 9 other people and we needed to travel together. Needless to say, the offer was so good that a lot of people immediately went for it, but the airline didn't get their quota so they upped it to 700euro and that was that.

I wonder why flights this side of the Atlantic aren't frequently overbooked in the same way that flights are in the US are? Personally, if I were travelling for pleasure and they offered the price of the ticket (or more) plus got me on a later flight or even a flight the following day I'd take it - why not?, it hasn't cost you anything except time that I'd happily spend reading anyway - and you still end up where you want to go, except this time you've made back the cost of travel?

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Richard

First, isn't this just a return to the old "standby" fares? You pay $400 for a ticket and secure yourself a $300 rebate if you miss it - but like a standby ticket, you get on the next available flight. Only difference is, the upside is with the airline (which might not need to rebate) not the passenger (with the cheap ticket).

Second, there's an assumption the pre-rebate system will lower costs to the airlines. OK, it probably will. But what if everyone writes in $5,000 for giving up their seat? Ten lowest will still be $5,000 each - whereas on the spur of the moment, $600 in your hand in the check-in might seem too good to turn down, whatever you thought of the option of missing your flight while booking.

Maria

Me! I've never heard of such a system, at least not in the UK. OK, so I would hardly call myself a frequent flyer. Is it just in America?

It sounds like a good idea, especially if they can remove the consumer surplus. I think over here the last passengers to check in are the ones who have to wait for a later flight, for which they are entitled to compensation, is that right?

But your system sounds much better, especially when you consider that the last people to check in might be the most busy, and so the ones with the most to lose from being delayed.

Cosimo

I wonder what is the best startegy when you purchase the ticket. Do you want to truthfully reveal your reservation price, or you bid higher hoping that you can still keep some information rents? I would go for the second strategy.

Stephen

I think a setup like this would be pretty good balance:

Why don't they say -- Your flight is overbooked, but we can get you out on the next flight in an hour, arriving at your final destination two hours later than original scheduled. Then offer an immediately binding lowball price -- maybe a $50 voucher to start.

If it's the night before -- especially on my outbound leg -- I'm probably a lot more willing to settle for a lower price because I can plan around it, and not wait in the airport forever. If I'm at the gate and know I'm going to have to "waste" my time, then the price is higher. Granted, I know the airline wouldn't want to commit to anything any earlier than possible, but if they have confidence in their algorithms they could start something like that, and then as it gets closer to takeoff just increase the amount if they need more takers.

Ben Ho

Sounds like a waste of time for consumers to me. The old system worked fine. Most of the time, they would start with a low price (which nobody wants), and move up slowly. Auction theory says you should get the same outcome (more or less).

Though if the airline does screw up and accidentally offers too high a starting bid, then the result is some scrambling yes, but merely a transfer from the airline to a randomly chosen consumer, and doesn't really have any significant welfare consequences.

Further, as others have stated, it may make consumers worse off, in that consumers are far more likely to make poor decisions when asked to pick a willingness to pay when their decision is unlikely to be pivotal: anchoring on irrelevant information, etc.

Despite how it looks on the surface, sounds like a bad idea in the end.

Kevin H

nope, not quite perfect price discrimination. We still have to factor in a few cognitive variables, namely what they believe OTHER people's price to be. If they think other people will accept lower price, it will deflate their price, and an opposite effect if their belief is reversed.

Chris S.

About ten years ago, a friend travelled to South Korea for an academic conference. The local airline (don't remember which) had a much different policy: they significantly overbooked, did not assign seats, then shut the door to the plane when it had as many passengers as seats. If you didn't get a seat, you missed the flight: no voucher, no compensation, no nothing.

My friend missed the flight (although his luggage didn't), and he spent the next 30 hours in the airport.

Mark J. Lehman

#15 - Having worked for an airline, they overbook flights because historically, about 10% of the passengers booked on a flight will miss it, due to connections, security lines, or just plain not showing up. It sounds absurd, I know, but I've worked at the gate for a major airline and have seen this to be true.

#13 - Many airlines will offer money/travel credit amounts based on how long the passenger has to wait for the next flight. For example, if it's less than an hour, it could be only $100. 2-4 hours could be $200, 4-8 hours could be $400, etc.

#6 - What's to stop people from buying a bunch of tickets for high demand flying days like Thanksgiving weekend and then just scalping them? I don't think that would work well at all, plus it would lead to even more of nightmare overbooking, because you'd have scalpers still holding seats reserved, the airline wouldn't know if they were going to use them or not, thus they would sell more seats to make sure the flights went out full.

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econobiker

"I wonder why flights this side of the Atlantic aren’t frequently overbooked in the same way that flights are in the US are."

Because they actually give out expensive lodging and cash compensation versus the US where they cheap on everything...

Samuel Bejar

Dear Mark Lehman (#17): Yes I know that airlines overbook flights based on the experience of about 10% of the passengers not showing up for whatever reason. However, IMHO that should be the missing passenger's problem. If he has a paid reservation and doesn't show up on time to take his flight, that's it, he looses his money and his chance to fly with that reservation. Should he decide to take a new flight, he should pay for the new reservation. Period. It's like if you buy tickets to the theather and don't show up for your reserved perfomance, your seat is there, empty. If you want to see the same play at a later performance, you need to buy a new ticket. By overbooking, airlines are sometimes penalizing responsible passengers who are on time at the designed departure gate in order to protect the interests of those who are late or don't came at all.

Emily

I thought of a brilliant way that airlines could save money on buybacks.

They could not overbook the flights in the first place.

There's probably some obvious reason why they do it, I've never learned what it is.

Katie

I've always thought that rampant overbooking leads to bad customer service and costs to the airline. Many are so horribly run and so rude to customers in addition. If you're overbooking and needing volunteers on every flight, you're not doing a good job running the airline.

My husband and I volunteered to be bumped from a London to New York flight on I believe it was United airlines in June of 2002. We used those vouchers to fly 3 people to New Orleans and 1 to Texas, again volunteered to be bumped, went to Denver and got more vouchers, used those vouchers to fly to San Francisco, etc. We literally took all our flights for a year (sometimes 2 people and sometimes 3) on the airline's nickel. That is ridiculous.

Also stopped ever flying continental when a gate agent was extremely both rude and clueless about proper placement of an FAA approved car seat on a plane. Again, ridiculous. I'll happily pay a premium for smart, polite airline employees.

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Tom

This made me question the whole homo economicus assumption. Honestly, I wouldn't really know how to accurately assess my valuation of the inconvenience of getting a later flight. I feel like without an anchoring value, estimating wtp might be difficult, so the selection of volunteers might become a little random. Not that that's a problem for Northwestern, unless people are inclined to state figures above the amount that would be offered at the gate.

Mike

Expanding on #1 Brad, why not just have all airplane seats prices as commodities. As the seats get full, the prices would go up and there'd be no overbooking. People who plan far in advance can buy at a reduced price and resell if the price goes up. It'd be a great way to get an equilibrium in all seat prices.