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‘Surge’ Pricing for Railway Tickets as Tax by Stealth

Sitakanta Panda (sitakanta764@gmail.com) is a visiting scientist (postdoc) at Economic Analysis Unit, Indian Statistical Institute Bangalore. Santosh Kumar Dash (santosh.eco@gmail.com) is a doctoral student of economics at the Institute of Financial Management and Research, Chennai.

 

The Indian Railways’ implementation of the “surge” pricing of tickets for its fast trains is unfortunately an ill-conceived policy and a “tax by stealth” measure. It flouts basic microeconomic rationale and real-world relevance as the railways is a monopoly with no flexible and immediate capacity for a rise in supply of traveller coaches and/or fast trains.

The Indian Railways has introduced “surge” pricing of tickets for seats (other than first class air conditioned and executive class coaches) in fast trains, namely Rajdhani, Duranto and Shatabdi with effect from 9 September 2016 (PIB 2016). In this “flexi fare system” which is usually followed by airlines, the base fare of tickets will increase by 10% with every 10% of berths sold while the first 10% of the seats will be sold at the normal fare. Fares can rise up to a maximum of 1.5 times the original base fare. Once half the tickets are sold, the remaining tickets will be sold at 1.5 times higher base fares for second class, sleeper and two-tier air-conditioned coaches, and 1.4 times higher for three-tier air-conditioned coaches. Other supplementary charges such as reservation fee, superfast charge, catering charge, and service tax shall be levied separately. For tatkal booking, while no tatkal charges were applicable, the fares for seats booked under tatkal quota were 1.5 times of the base fares for all the classes, except first class air-conditioned and the executive class. The information that will be displayed to the passenger will be alerted during the booking process if the fare of a lower class of tickets becomes higher than the higher class to exercise options to travel by the higher class (PIB 2016).

Theory of ‘Surge’ Pricing

Surge pricing is a price discrimination policy which is followed when the demand for a product exceeds its supply. It is a strategy of taking advantage of low price elasticity of demand during peak or rush times. The staggered increases in price serve as an incentive for the supplier to stay in the market and mint profits. As more and more suppliers stay in the market, price drops, or alternatively, price decreases to stimulate demand when it is low. The objective of this kind of dynamic pricing in the railways is to find the highest price that consumers are willing to pay. Therefore, this policy is used to maximise revenue based on the willingness to pay of different market segments that have different price elasticities of demand. During periods of higher demand, the marginal cost is generally higher as capacity limits are reached. The technology-enabled application of surge pricing shows how price mechanism works in modern marketplaces and how it can optimise resources to match demand and supply. The price acts as a signalling instrument and the technology as signal mechanism or signal enabler by frequently adjusting price.

If we think of how the surge pricing in the case of cab-hailing services like Uber work (it is prevalent in more market-friendly countries like the United States or US), we will better understand the policy. Uber’s surge pricing comes into effect when demand in an area goes up and the waiting time for taxis spike, higher fares ration available cars by willingness to pay. Richer consumers gain sometimes, but also those less able to wait out the surge period or with fewer travel options stand to gain. The extra fares extracted from passengers without good alternative modes of transport seem like price gouging. However, if there is no surge pricing, such passengers might not get a ride at all, as all the other people would not have any disincentive to request cars. In the process, surge pricing increases supply as well, at least locally by incentivising drivers with that extra money to travel to areas with high demand to pick up passengers (Economist 2016).

Thus, in a competitive market, this real-time pricing increases consumer surplus, a typical measure of consumer welfare. For instance, Cohen et al (2016) estimated that in 2015, the UberX cab-hailing service generated about $2.9 billion in consumer surplus in four US cities. For each dollar spent by consumers, about $1.60 of consumer surplus was generated. Their empirical analysis of almost 50 million individual-level observations suggests that the overall consumer surplus generated by the UberX service in the US in 2015 was $6.8 billion.

However, where the railways are concerned, India does not have a competitive market in the first place. We must keep in mind that the Indian Railways is a monopoly service provider that competes with alternative modes of public or private transport and has no flexible capacity to supply additional train coaches upon increasing traveller demand.

Absence of Economic Rationale

In 2016, some Indian states like Delhi and Madhya Pradesh had banned the adoption of surge pricing by mobile app-based taxi aggregators like Ola and Uber, defying economic reasoning. Whether the government wore the mask of a populist anti-market custodian of consumer welfare by banning the service is debatable. If the logic of electoral politics and fake populism led to the ban of surge pricing in a competitive market, then how is the railways an exception? While it was anti-market in spirit and was against larger consumer interest (as stated earlier, increasing consumer surplus is at the heart of surge pricing; see Cohen et al 2016) to ban surge pricing of Ola and Uber then, the context was altogether different. If the argument of consumer welfare was paramount in the cab-hailing market, the same argument clearly applies to the railways too. Further, in the case of railways, the very concept of dynamic pricing breaks down as it is a monopoly service provider that competes with alternative modes of public or private transport, has no flexible and immediate capacity at present to supply additional train coaches upon increased traveller demand, and is subject to the government policies which in turn get influenced by electoral politics.

Therefore, the problems with surge pricing of the railways travel are manifold. First, in general, surge pricing does not only reduce excess demand but also allows rising prices to increase supply. However, this is clearly and simply not so with the railways. There is a small number of fast trains in the Indian Railways. In fact, there are a total of 42 Rajdhani, 46 Shatabdi and 54 Duronto trains at present. So there will not be any larger supply than a fixed number of berths/tickets, so that way, prices will never drop. To the best of our knowledge, the government has neither announced that they are going to supply additional coaches to meet rising demand during normal as well as festive times. Analogously, prices will not drop to stimulate demand when it is low because of an institutionalised one-shot policy change in favour of surge pricing. This basically tells us that the microeconomics of surge pricing will not work for supply which is constrained by a monopoly service provider or where supply is kept constant due to intuitional rules. So, we think this is a case of price gouging which is nothing but trying to take advantage of supply shortfall by charging exorbitant prices from helpless consumers. Berths may remain vacant if passengers are not interested to pay hiked fares or they may opt for comparable airline tickets. Here there is another twist to the tale. According to the new policy, the vacant berths left at the time of charting would be offered for current booking. Tickets under current booking shall be sold at the last price sold for that class and other supplementary charges like reservation fee, superfast charges, catering charges, service tax, etc, as applicable shall be levied in full.

Second, the surge pricing policy in a monopoly service provider in societal contexts with high poverty and inequality is outright regressive and appalling. In the guise of raising revenues, it will only worsen the transport budgets of the poor and the middle-class passengers. Surge pricing exploits the consumers as the majority of consumers still pay more than their marginal cost to avail their train tickets. The railways may extract consumer surplus in such a way as it would turn this into higher producer surplus or supernormal profits in the case of the fast trains.

Third, the revised pricing system may lead to passengers moving away to airlines or alternative modes of transport from the railways network. Different airlines nowadays offer highly competitive and cheaper plane tickets on transport routes that are high on demand. India’s aviation market is growing, particularly in its low-cost segment. The railways would hand over passengers to airlines by pushing up upper-class rail fares ever closer to what a flight would cost. So the surge pricing for fast trains may actually boomerang for the railways to a great extent in the sense that it may wean away a sizeable part of the traveller demand in favour of the airlines. But this line of argument may be a little doubtful because India’s population is already 1.3 billion and transport demand on a daily basis is skyrocketing.

Finally, the surge pricing policy points to a larger critical policy challenge for the government. Many public sector firms have incurred losses and got divested or sold off to private corporates in the post-1991 era. Like many other public sector firms, pricing in the railways is subject to political logic and realities. The public sector firms go cash-strapped and resort to woolly-headed ploys to generate revenues. However, knee-jerk moves like surge pricing in order to boost revenues are far-fetched and may do more harm than the anticipated gains.

Tax by Stealth

We maintain that this policy is neither based on sound microeconomic principles of dynamic pricing nor ethical from the citizen’s welfare perspective. Then the natural question is: what was the motive of such a policy decision? The government has been pursuing such suboptimal policies which economists call “tax by stealth” policies in order to shore up the states’ coffers. Tax by stealth is an indirect and regressive way of taxing people which distorts incentives at many levels. It is worth mentioning that in the period April–August 2016, the railways’ gross earnings declined from `67,776 crore in 2015 to `64,387 crore, a decline of 5%. Further, it is 12% below the budgeted target of `73,713 crore during this period (Jha 2016). Thus, this decline might have prompted the government to go for surge pricing to meet the budgeted target or to make up for the lost earnings.

Recent policy decisions buttress our arguments. While this surge pricing policy had the stated objective of collecting an additional `500 crore during the last fiscal year (Jacob 2016), news reports suggest that occupancy in these trains has been hit by 15% to 20% after the introduction of the surge pricing scheme (Ranjan 2016). Further, on 19 December 2016, the railways decided to roll back surge pricing on two stretches: Jaipur–Ajmer, and Mysuru–Bengaluru sections (Jacob 2016). As fares increased, passengers did what basic microeconomics tells us they would: consumers shifted to alternative and comparable modes of transport like aviation and road traffic. The railways defends the scheme by saying that it provides one of the cheapest modes of transport which charges 36 paise for one kilometre of travel (Sanyal 2016). However, this does not legitimise the railways’ desperate and arbitrary way of increasing fares on some trains. What matters for passengers who can afford to travel in premium trains is not price, rather it is concerns like travel time, punctuality, and better amenities that are perceived to be more important. If the objective is to reduce cross-subsidisation, then the railways should raise fares across the board. And if the objective of raising fare is to get more funds for investment in railways infrastructure, then we believe that the railways should first invest and then they can legitimately raise fares.

Earlier, the government had implemented one such “tax by stealth” measure, namely the hike in railway ticket cancellation charges. Though the stated objective is to discourage touts from black marketing of tickets, yet the method is wrong. This is because passengers will ultimately pay the fine. The passengers who are unaware of such complex cancellation/refund rules will still go to the travel agent. Even if they are aware of such refund/cancellation rules, if they have to cancel ticket for genuine reasons, the passenger will bear the fee. How the new refund rule is discouraging agents is not yet clear. Moreover, since no penalty is imposed on agents (or middlemen), those agents will hardly stop booking bulk tickets online or black marketing of tickets (Dash 2016). We are sceptical as to whether such “indirect” punishment will help curb the rail ticket tout.

Given that the policy changes with respect to pricing of railways service defies the economics of surge pricing and that the railways board has not made public whether the railways will raise supply of coaches to equilibrate demand, the motive of the government to mint revenue in a less controversial manner is palpable. This stealth tax policy has already taken root when
the railways doubled the ticket cancellation charges.

We suggest that it is always better to go for optimal policies however bitter the pill may be. If the revenue increase is the main motive, then fares across the board should be raised, irrespective of the state of the price elasticity of the consumer. If the government finds raising passenger fares is politically difficult, then the government should instead set rail fares by an independent board that fixes fares from time to time. Applying surge pricing to some select trains is neither ethical nor economically rational. We think if this policy is regularised, it would be tantamount to abusing monopoly in a manner that is unsustainable in the long term, and do more harm than good for the Indian Railways.

References

Cohen, Peter et al (2016) “Using Big Data to Estimate Consumer Surplus: The Case of Uber,” Working Paper No 22627, National Bureau of Economic Research, Cambridge, Massachusetts.

Dash, Santosh Kumar (2016): “How Fair Are the New Railway Ticket Cancellation Charges Rules?” Macro Talks, 14 September, viewed on 17 September 2016, https://macrotalks.blogspot.in/2016/09/how-fair-are-new-railway-ticket.html.

Economist (2016): “A Fair Shake,” 14 May, last viewed on 18 September 2016, http://www.economist.com/news/finance-and-economics /21698656-jacking-up-prices-may-not-be-only-way-balance-supply-and-demand-taxis.

Jacob, Shine (2016): “Indian Railways Ends Flexi Fare Experiment on Two Stretches,” Business Standard, 9 December, viewed on 11 January 2017, http://www.business-standard.com/article/economy-policy/indian-railways-... _1.html.

Jha, Somesh (2016): “Railways’ Surge Pricing Follows Slump in Revenue,” Hindu, 10 September 10, viewed on 19 September 2016, http://www.thehindu.com/business/Industry/railways-surge-pricing-follows....

PIB (2016): “Introduction of Flexi Fare System for Rajdhani/Duronto and Shatabdi trains.” Ministry of Railways, Government of India, 7 September, viewed on 17 September 2016, http://pib.nic.in/newsite/PrintRelease.aspx?relid= 149606.

Ranjan, Rakesh (2016): “Surge Pricing Scheme Falls Flat on Its Face as Seats in Rajdhani, Shatabdi Remain Vacant,” India Today, 22 October, viewed on 11 January 2017, http://indiatoday.intoday.in/story/railway-surge-pricing-rajdhani-shatab....

Sanyal, Anindita (2016): “Surge Pricing For Train Tickets Starts Today; Will Be Reviewed, Says Railways,” NDTV, 9 September, viewed on 18 September 2016, http://www.ndtv.com/india-news/facing-criticism-railways-says-surge-pric....

Updated On : 6th Feb, 2018

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