Wednesday, October 8, 2008

All-you-can-eat vs pay-as-you-consume

Sounds like some frightening cannibal menu, but I’m really talking about pricing models. The wrong plan can have enormous unintended consequences. Take restaurants, for example. Given America’s rising obesity epidemic, all-you-can-eat buffets encourage us to over consume – an undesirable urge. So what does this have to do with cars you ask?

Economists will say that all-you-can-eat is the right way to price when you have lots of excess capacity and the cost to provide that extra unit of consumption very low. This is why cellphone providers offer monthly bundles of minutes. They know that people prefer having a stable monthly bill they can predict. They also know that people typically choose a higher rate plan than suffer the occasional penalty of going over. And then, people use their minutes right up to cut-off point.

The bottom line is that all-you-can-eat encourages more consumption than pay-as-you-go. Depending on the network I’m talking about, I have different opinions, which could make me sound like a hypocrite. When I’m talking about the internet, which I think everyone should have access to and use as much as they like, I usually favor all-you-can-eat pricing: please, consume as much information as you can! Produce as much content as you are inspired to produce! All for one monthly price!

But then, when I talk about cars, I say the exact opposite. We should pay-as-we-consume. We want people to know and experience the real cost of driving for every mile (and place) that they drive, so that they can make rational decisions about whether they should walk, bike, take transit, drive now, or bundle the errand with another trip. There is a reason for my flip flop (I’m in a political state-of-mind these days). There are enormous externalities associated with driving, that because they are don’t have a cost associated with them, make driving that extra mile appear free when it really isn’t. Take congested roads for an example, the cost of adding each additional vehicle is very high to every other person out there on the road. But there is a whole list of other underfunded costs as well: parking supply and demand, highway maintenance, traffic accidents (death and injury), the effects of car-dedicated pavement on land use, water quality, and the ability of other modes and people to share that same space. Can you believe I didn’t even say the CO word? I’m trying to make the point that even if no carbon dioxide were emitted from the engine, driving that extra mile has lots of other serious costs associated with it.

Over the last thirty years, the transportation profession has learned that if you build it, they will come – meaning you can never build your way out of congestion, because the more free roads and parking you offer, the more miles people drive and the more places they drive to instead of taking an alternative mode. In the last four years, the US government has been encouraging states to start making drivers more aware of the actual and marginal costs. In San Francisco, they have just launched an experiment with dynamic parking rates in a large area of the city. The tighter the on-street parking supply gets, the more it costs to park. [Conversely, you are always guaranteed to find a parking space in that section of town, you’ll just pay a lot for it at peak times.] Progressive insurance has just started offering pay-by-the-mile insurance: the more you drive the more you pay; the less you drive the less you pay. It makes sense.

I was reading about a keynote address Shai Agassi gave at a conference put on by Discovery Institute’s Cascadia Center for Regional Development. Shai has a compelling story to tell about how he is going to supply electric cars and refueling centers to entire countries (Israel and Denmark have signed up) to reduce CO2 emissions. Electric cars have an important role to play in reducing the 18% of the world’s emissions that come from our cars. Shai is doing some admirable work raising capital, building a business model, engaging partners, and accelerating the adoption of electric vehicles. People everywhere, who have been fretting about how to reconcile our car dependence and energy and environmental needs are loving Shai’s story. This from an article that covered the September 5 conference:

‘But what roused the audience to a level of enthusiasm comparable to the political conventions was the keynote address of Shai Agassi.

But Shai’s program has one element I’d like to see changed. His current plan is to offer drivers a cellphone-like plan. You get the car and x miles per month for a one fixed monthly price. And here is where I’d like governments and transportation planner and business people to take note: This pricing model for the electric cars runs counter to all the other steps transportation planners and city governments are taking. It undermines efforts underway to turn the fixed costs of car ownership into variable ones.

Cars aren’t bad, and electric cars are much better. But, all-you-can-eat buffets shouldn’t be on the menu.


.j.william. said...

Robin, you're so right regarding pricing. I've oft wanted to create a quick "trip price" meter to put in cars so that people understand the actual price of their trolling stores for the best deals, driving extra far to save a few pennies.

On the other hand, I have to say: electric vehicles aren't always better than fossil-fueled vehicles, from a CO2 point-of-view. In fact, we should not encourage current-day China to switch to EVs lest their coal-fired plants pump out more CO2 than the gasoline it replaces!

Keep writing and speaking to the masses. Your "reduce waste whenever possible" axiom is one of my mantras.

Ken Weinstein said...

On the flip side, developing attractive options for all-you-can-eat public transit can further push people away from driving. I've lived in Boston/Cambridge for ten years (the last two car-free), but only in the last few months have I started to commute by T every day. Because it now made financial sense, I bought a monthly T pass for $59 pre-tax (unless you're riding the T almost every workday, it's cheaper to pay as you go). I'm cheap enough that many quick shopping trips that I might have spent $8 on a Zipcar for a few months ago, I now find a way to use public transit for zero marginal cost (as compared to $3.40 if I didn't have a monthly pass). As you say, "all-you-can-eat is the right way to price when you have lots of excess capacity and the cost to provide that extra unit of consumption very low." Applying this concept to public transit and creating lower-priced or more flexible "buffet" options (and marketing them effectively) could make financial sense for troubled transit authorities and result in social and economic benefit.


Dwight Mengel said...

Let's talk about transit pass incentives and consumer choice. The calendar monthly transit pass is obsolete, although some systems still cling to them. This pass is good for a calendar month, starting on the first day of the month. Clearly, it is not consumer friendly. A transit system still using them does not value their loyal customers.

Next comes the 30 day pass, starting the first day it's validated. This is the conventional transit pass used by most systems. A consumer is discouraged after buying this pass if, for some reason, they can not ride a system enough in during the 30 day period to justify its purchase. This is the all-you-can-eat regret when you miss out on the dessert bar.

I think a better option is a 30 any-day pass, good for any 30 non-consecutive days. The consumer has choice of 30 days of travel and is encouraged to maximize their travel each day. Frequent customers would buy the passes as would people who want to have the "insurance" that they're prepared to ride transit when necessary. There are many positive emotional rewards to consumers of this pass. The transit agency still enjoys the cash flow benefit of pre-selling trips. The 30 any- day pass has higher value than a conventional 30 day pass and could be priced accordingly in a high transit demand market.

Robin Chase said...

See this amusing take on an offering by JetBlue for "all you can emit"