They Do It On Purpose

The Economist summarizes the notion of “information asymmetry” pioneered by George Akerlof and others. Using a used car lot a setting for a thought experiment, Akerlof showed (in a paper published in 1978) that the information asymmetry between buyers and sellers kills the market. Sellers can tell the good cars from the bad, and know if they’ve covered up flaws. Buyers can’t know if they are getting a lemon or a peach, so they bid low. If they could be guaranteed they were getting a peach, they’d be happy to pay more.

It was a new idea to many economists, and they began applying it to other sectors of the economy. Michael Spence looked at “Job Market Signalling.” Firms can’t really know what kind of worker an applicant will be, so applicants collect “gongs, like college degrees.” It’s a decent signal, so long as it takes some work and talent to get a degree.

Sellers send signals too, since they can’t know how deep their customers’ pockets are. Which brings me to the crucial point of the piece: Airlines. Here’s how the Economist explains it: “Airlines, for instance, want to milk rich customers with higher prices, without driving away poorer ones. If they knew the depth of each customer’s pockets in advance, they could offer only first-class tickets to the wealthy, and better-value tickets to everyone else. But because they must offer everyone the same options, they must nudge those who can afford it towards the pricier ticket. That means deliberately making the standard cabin uncomfortable, to ensure that the only people who slum it are those with slimmer wallets.”

They make you uncomfortable on purpose. You suspected it. Now you know.

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