Sunday, 31 August 2014

Newsflash! Flying is more expensive than driving

The NZ Herald ran a story on Friday, comparing the cost of flying with the cost of driving from main cities to regional centres:
Massey University student Lauren Cornish is one of many who opt to drive because of what they see as unaffordable airfares.
The veterinary science student has been studying in Palmerston North city for six years but returns home to Auckland regularly.
In that time she has taken no more than five flights - instead opting for a seven-hour drive home more than 20 times.
"It is never economically viable to fly, ever," she said. "If I get Grabaseat deals, they can be okay, but they are obviously very inflexible and it is still around $120." Instead she pays $90 in petrol to drive one way.
Colour me unsurprised. The cost of travelling from Palmerston North to Auckland by plane has a higher monetary cost, sure, but you would save a hell of a lot of time by flying rather than driving. Unfortunately, the Herald's calculations undo their good work in setting up the problem with their example of the student from Palmerston North, because according to the table it is cheaper to fly than to drive from Palmerston North to Auckland:

Anyway, let's put that mis-step aside for the moment because there is a broader issue of rational choice at play. Flying and driving are substitutes, but the monetary cost is only part of the full cost of flying and driving, and the time saving needs to be accounted for as well.

To illustrate, let's take a different example - the Auckland to Taupo route. According to the table, you're saving around five hours by travelling by plane rather than car from Auckland to Taupo. Having driven that route many times, I can honestly say that's more than a bit over-conservative (I've never flown it though). Also, you need to factor in the time spent travelling to the airport, checking in, waiting for your bag (if you had checked luggage) on arrival, and travelling again to your final destination. So let's say the time saving is around two and a half hours. The monetary cost difference between driving and flying is around $213 according to the table. So, you are paying around $85 per hour of travel time saved. Rational travellers who value their time at more than $85 per hour would be better off to choose flying, and those who value their time at less than $85 per hour would be better off to choose driving. The traveller's choice involves evaluating a simple trade-off between time and money [*].

Since people place different intrinsic values on their time, we needn't worry about forcing Air New Zealand to charge lower fares in order to accommodate those people with a lower value on their time. We can tell a similar story about buses too, where the monetary cost is even lower but the time loss is greater. Is it fair though?

That depends on your conception of fairness. Air New Zealand must price according to demand and their operating costs. If demand for a certain route is higher, you can expect higher prices. However, we also need to bear in mind that Air New Zealand has no effective competitors on the flight route between the main cities and regional centres. Air New Zealand has a monopoly on those routes and can charge the price that will maximise profits, rather than the (lower) price that will maximise societal welfare. This leads to a deadweight loss - a loss of societal welfare compared with the welfare maximising point.

In such cases, the government could intervene to increase welfare, through imposing controls on the price. This re-distributes societal welfare from the firm (and by extension from the shareholders, which includes the taxpayer) to air travellers, in the process reducing the size of the deadweight loss. This is even simpler to do if the government controls the monopoly since in a simplistic sense the government can simply choose a lower price to charge. In the case of Air New Zealand, the government has a controlling stake and some maybe they are going to use that influence:
The Commerce Commission was evaluating a complaint on the issue and Prime Minister John Key said he had "made it clear" to chief executive Christopher Luxon the airline needed to cut prices to the regions.
That isn't the end of the story on fairness though. If Air New Zealand's regional flights are operating near capacity seating, lowering the airfares won't necessarily increase welfare. Lower airfares increase the quantity of seats demanded (it decreases the differential monetary cost between flying and driving and will induce at least some travellers to switch to flying instead of driving). However, if the number of seats is limited this will simply create excess demand for seats at the new lower price, and some of those who place a higher value on flying (rather than driving) may miss out on a seat to others who value flying less. Now, I have no idea of the average loading on Air New Zealand's regional flights, but those I have been on don't seem to have lots of spare seats. More flights could be put on to accommodate the extra demand, but that requires additional planes, pilots, and so on. So it seems that excess demand is a strong possibility if prices on regional routes were reduced substantially. Moreover forcing people who would rather fly to drive instead, even though they are willing to pay more than the current ticket price, hardly seems to be more fair than the current situation.

Update: Thomas Lumley on StatsChat looks at similar data for the U.S. Pacific Northwest, though "the impact of competition is clearer".


* OK, it's not totally a simple trade-off between time and money. There are other considerations, like aversion to flying, fatigue from long driving trips, etc. There are other bonuses to flying as well - I get an amazing amount of work done when trapped in transit lounges, waiting for flights, or on board aircraft, etc. I even once joked that the University would increase my research productivity by simply sending me on endless flights around the world.

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