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Testing Theories of Scarcity Pricing in the Airline Industry

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  • Steven L. Puller
  • Anirban Sengupta
  • Steven N. Wiggins

Abstract

This paper investigates why passengers pay substantially different fares for travel on the same airline between the same two airports. We investigate questions that are fundamentally different from those in the existing literature on airline price dispersion. We use a unique new dataset to test between two broad classes of theories regarding airline pricing. The first group of theories, as advanced by Dana (1999b) and Gale and Holmes (1993), postulates that airlines practice scarcity based pricing and predicts that variation in ticket prices is driven by differences between high demand and low demand periods. The second group of theories is that airlines practice price discrimination by using ticketing restrictions to segment customers by willingness to pay. We use a unique dataset, a census of ticket transactions from one of the major computer reservation systems, to study the relationships between fares, ticket characteristics, and flight load factors. The central advantage of our dataset is that it contains variables not previously available that permit a test of these theories. We find only mixed support for the scarcity pricing theories. Flights during high demand periods have slightly higher fares but exhibit no more fare dispersion than flights where demand is low. Moreover, the fraction of discounted advance purchase seats is only slightly higher on off-peak flights. However, ticket characteristics that are associated with second-degree price discrimination drive much of the variation in ticket pricing.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 15555.

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Date of creation: Dec 2009
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Handle: RePEc:nbr:nberwo:15555

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  1. Steven Berry & Panle Jia, 2010. "Tracing the Woes: An Empirical Analysis of the Airline Industry," American Economic Journal: Microeconomics, American Economic Association, vol. 2(3), pages 1-43, August.
  2. Gale, Ian L & Holmes, Thomas J, 1993. "Advance-Purchase Discounts and Monopoly Allocation of Capacity," American Economic Review, American Economic Association, vol. 83(1), pages 135-46, March.
  3. Meghan Busse, 2002. "Firm Financial Condition and Airline Price Wars," RAND Journal of Economics, The RAND Corporation, vol. 33(2), pages 298-318, Summer.
  4. Escobari, Diego, 2009. "Systematic peak-load pricing, congestion premia and demand diverting: Empirical evidence," MPRA Paper 34857, University Library of Munich, Germany.
  5. James D. Dana Jr., 1999. "Using Yield Management to Shift Demand When the Peak Time is Unknown," RAND Journal of Economics, The RAND Corporation, vol. 30(3), pages 456-474, Autumn.
  6. Severin Borenstein & Nancy L. Rose, 2007. "How Airline Markets Work...Or Do They? Regulatory Reform in the Airline Industry," NBER Working Papers 13452, National Bureau of Economic Research, Inc.
  7. Ciliberto, Federico & Schenone, Carola, 2012. "Bankruptcy and product-market competition: Evidence from the airline industry," International Journal of Industrial Organization, Elsevier, vol. 30(6), pages 564-577.
  8. Kristopher S. Gerardi & Adam Hale Shapiro, 2009. "Does Competition Reduce Price Dispersion? New Evidence from the Airline Industry," Journal of Political Economy, University of Chicago Press, vol. 117(1), pages 1-37, 02.
  9. Borenstein, Severin & Rose, Nancy L, 1995. "Bankruptcy and Pricing Behavior in U.S. Airline Markets," American Economic Review, American Economic Association, vol. 85(2), pages 397-402, May.
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  11. Severin Borenstein & Nancy L. Rose, 1995. "Competition and Price Dispersion in the U.S. Airline Industry," NBER Working Papers 3785, National Bureau of Economic Research, Inc.
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  13. Rosenthal, Robert W, 1980. "A Model in Which an Increase in the Number of Sellers Leads to a Higher Price," Econometrica, Econometric Society, vol. 48(6), pages 1575-79, September.
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  15. Eden, Benjamin, 1990. "Marginal Cost Pricing When Spot Markets Are Complete," Journal of Political Economy, University of Chicago Press, vol. 98(6), pages 1293-1306, December.
  16. James D. Dana Jr., 1999. "Equilibrium Price Dispersion Under Demand Uncertainty: The Roles of Costly Capacity and Market Structure," RAND Journal of Economics, The RAND Corporation, vol. 30(4), pages 632-660, Winter.
  17. Prescott, Edward C, 1975. "Efficiency of the Natural Rate," Journal of Political Economy, University of Chicago Press, vol. 83(6), pages 1229-36, December.
  18. James D. Dana & Jr., 1998. "Advance-Purchase Discounts and Price Discrimination in Competitive Markets," Journal of Political Economy, University of Chicago Press, vol. 106(2), pages 395-422, April.
  19. Severin Borenstein, 1989. "Hubs and High Fares: Dominance and Market Power in the U.S. Airline Industry," RAND Journal of Economics, The RAND Corporation, vol. 20(3), pages 344-365, Autumn.
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Citations

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Cited by:
  1. Puller, Steven L. & Taylor, Lisa M., 2012. "Price discrimination by day-of-week of purchase: Evidence from the U.S. airline industry," Journal of Economic Behavior & Organization, Elsevier, vol. 84(3), pages 801-812.
  2. Andrew Sweeting, 2008. "Equilibrium Price Dynamics in Perishable Goods Markets: The Case of Secondary Markets for Major League Baseball Tickets," NBER Working Papers 14505, National Bureau of Economic Research, Inc.
  3. Clark, Robert & Vincent, Nicolas, 2012. "Capacity-contingent pricing and competition in the airline industry," Journal of Air Transport Management, Elsevier, vol. 24(C), pages 7-11.
  4. Marco Cornia & Kristopher S. Gerardi & Adam Hale Shapiro, 2010. "Consumer Heterogeneity and Markups over the Business Cycle: Evidence from the Airline Industry," BEA Working Papers 0056, Bureau of Economic Analysis.
  5. Marco Alderighi & Marcella Nicolini & Claudio A. Piga, 2012. "Combined Effects of Load Factors and Booking Time on Fares: Insights from the Yield Management of a Low-Cost Airline," Quaderni di Dipartimento 171, University of Pavia, Department of Economics and Quantitative Methods.
  6. Seongman Moon & Makoto Watanabe, 2011. "Refundability and Price: Empirical Analysis on the Airline Industry," Working Papers 1107, Research Institute for Market Economy, Sogang University.

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