May 14, 2015

Popular ride-sharing service, Uber, comes under constant criticism for a pricing tactic they implement called Surge Pricing.

What is Surge Pricing?

When demand for Uber in a particular area increases — such that it outstrips supply — Uber increases their prices to match this demand.

Despite this practice being maligned by the media — “Is Uber’s Surge-Pricing an Example of High-Tech Gouging?”, New York Times, 2014; “Is Uber’s Surge Pricing Fair?”, Washington Post, 2014 — it’s a natural function of how the ratio between supple and demand drives the economy.

This practice came under particularly heavy fire several months ago during a terrorist attack in Sydney, Australia. While a hostage situation was taking place, nearby citizens used Uber to flee the scene, only to find the service cost to have increased more than 4 times the standard fee.

Despite the media’s preening of immoral exploitation of victims or a ploy to gouge more money out of pockets on Uber’s part, the fact is that surge pricing is the only way to ensure everyone can be accommodated.

Imagine that Uber does not implement surge pricing in this instance. Say in that particular area of Sydney, Australia, there are X Uber drivers, whatever the number is, it’s safe to say there are less Uber drivers than citizens.

Without a surge charge, the first people to get their phone out and order an Uber will be the first to have their car arrive, pick them up and leave. Due to the cost being what they are used to paying, their first thought would be to leave the area as quickly as possible. Many large vehicles with high occupancy will be wasted transporting just one person.

This now leaves many, many people without access to Uber in a terrorist hostage area.

What happened, thanks to Uber’s surge pricing, was people were first taken back by the higher prices, but then realized that the most cost-effective method would be to split fares. This led to multiple people sharing the same Uber and taking advantage of high occupancy vehicles. Furthermore, drivers that were further away from the area were notified of a surge charge, and with the opportunity to make more money, immediately drove to the scene, increasing the supply of drivers.

The result was a much more efficient allocation of drivers to customers.

This is the beauty of the free market: a never ending tug-of-war between supply and demand, ultimately resulting in equilibrium such that everyone’s needs are met.