Testing Theories of Scarcity Pricing in the Airline Industry

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.