Subsidies, taxes, and queuingTodayA subsidy for renters?Think, think, thinkShort-run analysisWhat happens?Slide 7Slide 8First-come, first-served policySlide 10The inefficiencies of long linesSlide 12Max, a single guy who likes to vacation in styleJill, a busy executive at a local firmThey book seats on 6:05 am flight to Denver tomorrowA tale of two people: MaxA tale of two people: JillCheck-in for United flight 6682EfficiencySuppose that United cannot overbook its flightWith overbooked flightsCost-benefit analysis of incentiveSlide 23Slide 24Pareto improvementsHypothetical cost-benefit analysis from United’s point of viewCost-benefit analysis from United’s point of viewIn the textWhat have we learned today?Subsidies, taxes, and queuing Today: Some methods that either hurt or improve efficiencyTodayMore on topics related to efficiencySubsidiesTaxesQueuing and first-come, first-served policiesA subsidy for renters?Recall that last time, we concluded that rent control had few (if any) winners and many losersSuppose that we wanted to find another way to help I.V. rentersHow about a $500 check per month for each renter of I.V.?Think, think, thinkAs aspiring economists, we need to examine whether a subsidy is a good ideaWe must keep in mindSubsidy is not a “benefit” in economic terms, but a transferMoney for subsidy must be raised from somewhereShort-run analysisIn this case, we will look at the short-run consequencesAssume for the near future, nobody can build new apartments or convert apartments to condosSupply is verticalWhat happens?Initial demand is DAfter subsidy is given, each person is willing to pay $500 more than before, changing demand to D’What happens?Before the subsidy, price is P2; quantity is Q1With subsidy, quantity demanded at price P2 is Q2In short-run, notice new price for apartments is P1This price is $500 higher than beforeWhat happens?All of the subsidy goes to the apartment owners (and we have not even found money for the subsidy yet!)First-come, first-served policyThis is essentially what happens todayWhen a vacancy occurs, the manager accepts applicationsIf the rent is at the market-clearing price:Each person willing to pay the price should find an apartmentEach apartment should be rentedFirst-come, first-served policyWhat if the apartment is not at the market-clearing price?If the rent is below the market-clearing price, long lines developIf the rent is above the market-clearing price, the apartment will sit unoccupiedThe inefficiencies of long linesIn 1978, airlines adopted a voluntary approach to overbooked flightsBefore this, people were allowed to board on a first-come, first-served basisRemember to think like an economist: Waiting time is a loss to society that nobody benefits fromThe inefficiencies of long linesEach person has a value of their timePeople on vacation typically have lower values of time than those traveling for workLet’s look at a tale of two people for a concrete exampleMax, who is ready to go on a skiing tripJill, who has a business meeting tomorrow in Denver at NoonMax, a single guy who likes to vacation in styleJill, a busy executive at a local firmThey book seats on 6:05 am flight to Denver tomorrowA tale of two people: MaxMax has shopped at Vons for the last 12 years in order to accumulate enough miles to book his free flightHe stays in Denver for one night before embarking on a two-week ski tour of ColoradoA tale of two people: JillShe receives a call tonight at 10 pmShe must be in Denver tomorrow for a Noon meeting tomorrow, or else her local firm loses a $2 million contractShe books an Economy seat to Denver for $775Check-in for United flight 6682 Max and Jill are the last two people to check-in for the flightJill is right behind Max in lineUnfortunately, only one seat is leftShould Jill be bumped?EfficiencyAs economists, we want to find a way for the most efficient outcome to occurAs an airline, we want to make ALL of our customers happyHow do we do this?Suppose that United cannot overbook its flightEmpty seatsHigher ticket pricesJill becomes desperate to find a way to DenverWith overbooked flightsVoluntary system to find a person with a low value of timeOffer an incentive so that someone is willing to travel on a later flightA First-class seat on the 1:45 pm flight to DenverCost-benefit analysis of incentiveMax’s cost of waiting in Santa Barbara for eight hours is low, since he was just going to check into his hotel and eat a nice dinner at a local restaurant$10 cost per hour, or $80 totalJill loses a big contract if she does not make the flight$50,000 total costCost-benefit analysis of incentiveAssume that either Max or Jill benefits the same from a First-class seat$200Max gains $120 by offering to give up his seat in order for Jill to attend her business meeting on timeHe instantly volunteers to give up his seat for JillCost-benefit analysis of incentiveGoing from a first-come, first-served policy to a voluntary incentive system has improved the outcomes of both Max and JillMax has improved by $120 and is traveling in style, just the way he wantsJill is able to make her meeting and save the contractPareto improvementsWhen one or more people are made better off without making anyone else worse off, these are known as Pareto improvementsIn our previous example, both Max and Jill were made better off without making any other passenger worse offHypothetical cost-benefit analysis from United’s point of viewUnited Airlines has determined in its computer system that the probability of the last First-class ticket being booked for the later flight is 0.05, at a price of $1200The marginal cost of an a First-class passenger over an Economy passenger is $50Cost-benefit analysis from United’s point of viewMarginal benefit of booking Jill’s ticket: $775Marginal cost of booking Jill’s ticket:Possible loss of First-class ticket being booked on the later flight, $60Additional First-class cost of Max’s trip, $50Total, $110United is better off with this policy, tooIn the textDemand curve is derived from reservation price (or highest willingness to pay)Max’s reservation price is low in this exampleJill’s reservation price is high in this examplePeople with low reservation