Economics 101: Uber’s Prices Don’t “Exploit” People

The past few weeks have been full of travel—between Denver, Atlanta, Louisville, and Washington, D.C., I’ve had more than my fair share of layovers and flight delays. (I was also forced to contemplate what terrible thing I might have done to deserve sitting next to the woman who let out a scream every time the plane made a noise.)

Despite the headaches it may bring, I love traveling. I get the chance to meet new people, explore new places, and I always learn something. In my recent travels, I’ve learned once again to appreciate the fundamentals of economics. My teacher? Uber.

Uber is a ride-sharing company that originated in San Francisco. Using the technology in smartphones, the firm arranges rides between drivers and riders. Riders use an application on their phones to request and track their vehicle and driver. By the end of August 2014, Uber was available in more than 45 countries and 200 cities worldwide.

Uber has received a great deal of criticism, mainly over a part of its business model called “surge pricing.” Stories involving very expensive rides have led many to call Uber’s practices unfair. One woman’s 10.8-mile ride in Minneapolis, for example, cost an impressive $411 dollars. Uber made headlines once again this week when the company enacted surge pricing during a hostage crisis in Sydney, Australia.

These expensive rides have induced many to call for the regulation of surge prices. But before we decide that regulating Uber’s prices is necessary or desirable, we need to remember the important function prices serve in our economy.

Prices reflect a wealth of information about a good or service in one easy-to-understand metric. Importantly, prices serve as a signal to both producers and consumers. As conditions in supply or demand change, the price adjusts up and down. If consumers demand more of a particular good or there is a drop in supply, prices rise. If consumers demand less of a product, or more producers enter the market, the price falls.

This system is how market prices, including Uber’s, are set. When many people want rides at a certain time in a particular area, this increase in demand pushes the price of rides higher. This higher price sends two signals—one to Uber drivers, and one to customers.

First, the higher price sends the signal to Uber drivers that they can make more money by bringing their service to the high-demand area. Second, the higher price sends the signal to customers that rides are in high demand. Those who don’t highly value the ride (those not willing to pay the higher rate) choose an alternative, freeing up Uber rides to those who really want them (aka: those willing to pay the higher fare).

As more drivers move into the “surge area” in search of a higher payout, the supply of Uber vehicles available to consumers increases. Those unwilling to pay the higher price for a ride drop out of the market. As a result of these movements in supply and demand, the price falls back down.

I asked one of my recent Uber drivers about surge pricing and what it meant to him as a driver. His response captures the above mechanism perfectly (and yes, it was such a great example I wrote it down on the back of a receipt!).

I see that they are doing surge [in a particular area] and I rush over. It tells me that they need more cars. It also tells customers, if they really don’t need a ride they should wait. The prices [go] down pretty fast. Sometimes, by the time I get [to the surge area], everyone else is there too and the surge price is gone.

Some would still claim that this type of pricing is unfair, that customers are blindsided with an astronomical fee without knowing. But this simply isn’t true. Customers are told when surge pricing is in effect and how many times the normal rate their fare will cost. For those who choose, the app allows a rider to calculate their estimated fare. In either case, users must agree to the surge pricing before requesting a ride (you have to type it in manually).

Many have pointed to the use of surge pricing in Sydney as the pinnacle of greed and unfair business. But consider that it is the very mechanism being criticized, the surge pricing, that induced Uber drivers to potentially put themselves in harm’s way to pick up passengers. (It should also be noted that, once it was revealed why so many people were demanding rides, the company didn’t charge riders at all.)

This is not to mention the very important fact that this whole exchange is perfectly voluntary. Saying that customers “don’t know” or “don’t understand” what they are doing implies that individuals are, pardon my bluntness, too stupid to figure out what’s best for them—it’s paternalism writ large.

The fact is, consumers aren’t forced to use the service. Lyft (an Uber competitor) and cab companies provide competitive alternatives. If you find Uber’s pricing scheme offensive, by all means express your displeasure by using a different service. If someone agrees to pay the price, then by their very action, we know they value the ride at least as much as the price they paid.

What also seems to fall on deaf ears is the fact that “surge” pricing happens all the time, in all kinds of markets. When the price of bananas increases from $0.49/lb to $0.99/lb, you don’t hear calls to regulate those terrible banana producers. It’s understood that changes in the supply and demand of bananas determine the price. The same laws of supply and demand underlying the market for fruit likewise discipline the market for Uber rides.

So the next time you hear a story about a $200 Uber ride, remember, it’s market forces at work. Far from exploitative, these forces are truly awesome, benefiting both consumers and producers.