Monday, June 18, 2012

That's the Spirit!

Spirit pushback
One of the things I hate most about airline travel -- and there's a lot to dislike, for sure -- is how non-business passengers grossly abuse the carry-on baggage system, lugging massive suitcases into the cabin that should be checked.

I forgive the frequent flyers who, usually for business, carry their (usually quite light) bags on. But for the recreational travelers, who do this merely to avoid paying for checked bags, I feel nothing but frustration and contempt.

The time they waste runs in the tens of man-hours, cumulatively for all passengers and crew, in loading and unloading their usually massive bags from the overhead compartments.

This is a problem created by incentives. Passengers used to check their luggage, but when airlines added fees, passengers responded. They quickly figured out that they could circumvent the fees by carrying the bags on -- or when the overhead compartments filled, brimming with suitcases, they could check them at the gate for no cost.

Some airlines then tried to attach fees to this practice, but Senator Charles Schumer extracted promises from five major carriers against charging for carry-on luggage too large to fit beneath the seat, according to John Cochrane, who shared my frustration in a recent blog post.

But some smaller carriers ignored Schumer and charged fees. And, reporting firsthand from my flight yesterday on Spirit Airlines, I can report to you that "people [do indeed] respond to incentives."

Spirit charges $30 for the first carry-on bag on domestic flights, not including something that can go under the seat, when a standard passenger reserves that right online during booking. But, in what constitutes a $2 incentive, they charge $28 for the first checked bag when booking online.

And the incentives keep coming: if you wait until you show up at the airport counter to decide that you need to carry on or check a bag, it costs $40 and $38 respectively. That means there is a $12 incentive to decide during online booking you will check a bag than deciding at the counter to carry the bag on. Again, a $2 incentive exists at that moment to check rather than to carry-on.

If you wait until the gate, instead of getting a freebie, you get punished with a $45 per-bag charge for carry-ons. The cumulative incentive against doing what everybody does on every other airline is $17 per bag.

Spirit Airlines has the incentives aligned correctly. They want people to pack light, or failing that, to check their bags and check them early, rather than waiting until the last minute to drop them off at the gate.

The incentives work wonders. Instead of completely-filled overhead compartments, I estimate there were fewer than ten suitcases stored. The total difference time to board and disembark the aircraft, again estimating, was roughly a half-hour. Multiplied for a cabin of roughly 180 passengers, total time saved is 90 man-hours.

Assuming that people value their time at $8 per hour, and that 80 percent of passengers would have otherwise carried large bags on, the per-bag benefit of the incentive structure is $5. Remember, Spirit Airlines effectively pays its passengers $2 to check their bags.

If you consider the $5 per bag as an externality -- the cost imposed by the bag-wielding passenger on the rest of the passengers -- then Spirit's incentives are in effect a side payment which generates a Pareto-efficient outcome. Vive le Coase theorem!

(Add onto that your own estimate of the opportunity cost to Spirit Airlines of keeping the plane running with crew for the additional half hour, and moreover the fuel costs for the total difference in baggage weight.)

I never thought I would use this blog to publicly praise an airline -- heck, I never thought I would praise an airline, period -- but Spirit Airlines' bag-fee incentives serve as a remarkable example of the power of economic incentives, as well as a practical application of  side payments to resolve an externality problem.

6 comments:

  1. and, oh yeah, Spirit makes a bunch more money...all airlines will soon follow regardless of Sen Schumer...

    ReplyDelete
  2. Perhaps it's due to your youth, but I'm not sure you've got all the history right.

    Back in the Dark Ages (well, the light ages, I'd say), airlines assumed everyone traveled with luggage, thus included the cost of it in the overall ticket price. In these heady days, the decision whether to check or carry on was one made by the flyer for their own reasons. Like to be able to get out of the airport as quickly as possible at your destination? Great! Carry on. Prefer not to have to drag your bags through the airport? Okay! Check. The variation in consumer preferences meant things worked out okay in the overhead bins.

    Then the airlines decided to add fees for checked bags. They started out just charging for really big bags, or really excessive weight. I don't know exactly what they were thinking, but one could argue that they were actually trying to correct the incentives created by free luggage: there was no particular reason to pack light (well, not at the airport anyway). That was fine. That made sense.

    But then airlines figured out they could use these fees as an opaque way to raise ticket prices. Even better, the unwary traveler (i.e., the leisure traveler, the ones least likely to pack light) wouldn't even know about the fee until they got to the airport. So they started to charge for a second checked bag, regardless of weight. Then some of them started charging for the first checked bag.

    And that's where your story starts. Given that history, I have a hard time cheering for an airline using carry on bag charges to correct the mess of incentives they created by trying to hide the costs of their tickets.

    ReplyDelete
  3. I think Evan has got the story about incentives right. To do it justice, it can be a rather long story to cover both the pros/cons and the history of changes from inclusive pricing and a la carte pricing (meals, drinks, pillows, blankets, audio headsets, phone and internet access can all be included in that story). As travelers preferences diverge, it's harder and harder to have all inclusive pricing that will satisfy everyone. So a la carte pricing makes sense.

    The messes in pricing most airlines are in today are not entirely the fault of the airlines' profit motive. Customers' expectations for free lunches of various forms and weird social conventions and taboos (aka, the ick factor) also played a distorting roles. For an example of the ick factor, nobody likes to sit next to an obese passenger, but not many wants to be caught advocating for surcharging the obese. Maybe some airlines will come up with a scheme to financially compensate the passengers for sittng next to obese person(s) (e.g., $75 off your ticket for each obese person you are next to). It will eventually amount to the same thing as surcharging the obese, but might make people feel better about it.

    Anyway, even though I hate flying and partially blame the airlines for the aweful experience, I'd also be willing to give the airlines a bit of a break, they are forced to be creative, and even deceptive, in order to solve economic incentive problems under very irrational and hypocritical cultural constraints, for a bunch of self-deceiving customers.

    ReplyDelete
    Replies
    1. What evidence is there that traveler preferences have diverged?

      And the airlines are especially good at offering different pricing to different customers. One could argue it's about the only thing they are really good at.

      Delete
    2. You want examples of diverging preferences? It's arguable that the luggage size/weight preferences Evan wrote about was a pre-existing, not obviously an increasing, divergence. But surely diverging preferences for seat sizes, at cost increments less than the diff between coach and first class, have both existed and increased, and remain insufficiently addressed.

      Delete
  4. Fun post, and I do like Spirit's pricing strategy, but I think your analysis is lacking in one respect: Checking luggage may result in less time spent boarding and disembarking, but it will result in more time spent at baggage claim. Some significant chunk of the time you credit as per-person savings is really just shifted to waiting in a different location. This will be particularly true for large planes, where checked luggage can take a long time to retrieve.

    There's also the tail risk: more checked luggage leads to more lost or misrouted luggage. That's not frequent (it's only happened to me once), but it leads to a much larger inconvenience and time lost for the people that do encounter it. It's pretty hard to lose your luggage when it's in a bin over your head.

    ReplyDelete