Rich Barton (left) and Bill Gurley speak with GeekWire's John Cook at the 2013 GeekWire Summit.
Rich Barton (left) and Bill Gurley speak with GeekWire’s John Cook at the 2013 GeekWire Summit.

If you miss going to your Economics 101 class every other morning at college, well, Bill Gurley is here to fill that void for one day.

Gurley, a general partner at Benchmark, today wrote a piece detailing why he thinks Uber’s highly-debated surge pricing model is actually good for both Uber and consumers.

For those not familiar with Uber, the company’s surge pricing strategy raises the cost of a ride when demand increases as a way for Uber to encourage more drivers to be on the road when passengers need rides.

Bill Gurley. Photo via Wikipedia
Bill Gurley. Photo via Wikipedia

It’s important to note that Gurley is an investor and board member at Uber. But, while “many will dismiss these thoughts as naked bias,” Gurley says he has access to a wealth of Uber’s information and has spent many hours thinking about the fundamentals of surge pricing.

“I also have quite a bit on the line, and as a result have spent a great deal of time contemplating the policy as well as the potential alternatives,” he notes.

You should read Gurley’s entire post here, but in a nutshell, the venture capitalist uses the basic laws of economics to explain why the surge pricing strategy makes sense for all parties involved. His most important point is that, contrary to what some of Uber’s critics say, Uber is a true marketplace.

“So why does Uber’s dynamic pricing even exist? The answer lies in understanding that Uber is fundamentally a marketplace, where supply is controlled not by the company but by the legion of independent contractors and transportation providers with whom they work,” Gurley writes. 

Gurley, who spoke at the GeekWire Summit last year, notes two functions of surge pricing: To increase supply, and to temporarily intentionally reduce demand.

uberx“Through these two mechanisms, the company is able to (a) increase supply, (b) assure reliability, a key tenet of the company, and (c) maximize the number of completed rides,” he writes.

Gurley points out how hotels, airliners and rental car companies use a similar model that is generally accepted in our society: when supply increases during busy times, they raise prices.

But Uber is different because contrary to those industries, supply is not fixed. During the times when riders demand more availability, like Friday or Saturday nights for example, drivers also would rather not be driving.

“The exact events that increase demand for needing a driver also cause supply to shrink,” Gurley explains. “In these cases the supply curve is moving left at the exact same time that the demand curve is moving right. As a result the need for a price catalyst to increase supply in the Uber case is vital.”

Gurley ends the post by noting how “the majority of leading Internet marketplace companies use dynamic pricing as a solution when confronted with a scarcity of supply,” like Ebay, StubHub, Airbnb, Homeaway and Google Adwords.

“Uber has no intention of abandoning dynamic pricing precisely because it is in the consumer’s best interest, especially when one understands the true alternatives,” he writes.

Read the full post here.

Comments

  • balls187

    If this were a true marketplace, shouldn’t the demand (passengers) and supplier (car drivers) set the prices, and not Uber?

    Hey guys, no we’re cool, because we’re a marketplace, and free market economics are a good thing!

    • Ed O

      You’re setting up a straw man. No one said it was a “true marketplace”. He said it was “fundamentally a marketplace”.

      Whether it’s a market or just Uber, though, it seems like a good idea to me (as someone who uses Uber almost once a day on average): if someone values the ride more than I do, Uber should be able to capture that value. If I value a ride less than Uber’s price, then I’ll find another way to get where I’m going.

      I don’t understand why people complain about surge pricing. No one is holding a gun to their head, making them ride Uber.

      • balls187

        Busted! You’re right, that was a straw man.

    • Love Econ

      Dear Forest Gump,
      Uber isn’t setting the prices, drivers and customers are. It is true that Uber is providing a price at a given time that is attempting to reflect the demand and supply side and that this pricing will never be completely efficient i.e. exact, but otherwise it is in effect a market price.
      If there aren’t enough drivers for whatever reason, Lyft, Sidecar, etc. pay more, rates are too low for a given time period and/or consumers think rates are too high, then Uber will either forgo revenue or be forced to drop their prices. This is in fact what happens on an almost real time basis.
      While consumers may complain at times, no one is forcing them to buy from Uber and the prices are provided upfront. Again, no consumer is forced to buy from Uber. The first thing I learned in Econ 101 is that human behavior and actions are what’s actually driving the market, not what people are saying. In other words actions speak louder then words.
      In this case people are willing to pay the vig and until they aren’t Uber would be stupid not to charge it. Of course there’s a diminishing marginal return but then that’s Econ 102.
      Professor of Econ.

      • balls187

        I think you need to fix your perscription there old-timer. Name is balls187, not Forest Gump[sic].

  • London Spears

    I prefer Lyft because their surge pricing is only up to 25% and their drivers are more friendly! I use Lyft nearly every weekend :)

    And if you haven’t used the app yet, enter code “PROMO1” for $25 credit. The code doesn’t expire and I’m almost certain it can be used in any city that Lyft is available.

  • Rathsuit

    Are we forgetting that Uber is a service that could easily be replaced? How much is surge pricing hurting ride frequency, word of mouth and upgrades to services beyond uberx?

  • Uber Drivers of America

    Thank
    you for your transparency on the pathway of Uber Technologies
    especially the new insight on UberX and the focus of low pricing as the
    key strategy for shareholder growth as
    you presented in item # 3 of your post. After speaking to 100′s of your
    “partners” I would like to also give you some insight on your company
    with which you are a board member of. As a spokesman for Uber Drivers of
    America it is concerning to see the lack of understanding a board
    member has on the operations of Uber. While your data driven thesis does
    offer a fair explanation on dynamic pricing, it lacks the data of
    reality. For example it is much cheaper to pre-arrange a professional
    chauffeur with a limousine company at 2:00am and be guaranteed a trip
    confirmation for a fare price than it is to gouge, yes I said gouge a
    customer. Did you know even your “partners” feel guilty of taking $400
    for a 30 minute ride? The formula and pricing model is broken at Uber
    and Uber Drivers of America are the biggest losers on the model. As you
    kindly indicated less than 10% of the trips on Uber are “surge”. With
    that said the remaining 90% + are at levels with which your “partners”
    are having difficulty surviving. A cost that is almost never mentioned
    is the massive depreciation of the vehicles that are used on the Uber
    platform. A vehicle that after one year of driving and accumulating
    100,000 miles on Uber has created a new trend. Just like the housing
    bubble in 2007 and 2008, Uber “partners” are beginning to owe more on
    their cars then they are actually worth due to the accelerated
    depreciation cost of operating commercially on Uber. The discounted
    vehicle acquisition program is rumored to not be a very real discount
    and that standard livery discounts are cheaper. There are Uber
    “partners” that can’t afford brake repairs and often delay them in an
    effort to make more money on the system. I have witnessed Uber vehicles
    in Chicago, Pittsburgh, and in D.C. that have body damage on them which
    haven’t been repaired because they can’t afford to do so right away.
    More on this if you would like but Uber has a tendency of not wanting to
    have a face to face dialogue with veterans of the industry. In my
    experience of over 15 years in this industry and dealing with both
    Federal regulations as well as State regulations I find it easier to
    communicate with Fortune 100 C Suite executives than it is to
    communicate with Uber executives. Or even their community managers for
    that matter which is appalling.

    Before I delve into the growing
    number of Uber “partners” across the United States having concerns on
    the Uber platform I wanted to address section 1 of your post. “1) Uber
    is a marketplace and Uber’s drivers are all independent agents.” While
    on paper this may look good to appease the legal team at Uber, Uber
    Drivers of America have a different view. You see once again this
    concerns me because you may again have a lack of knowledge on the actual
    operational side of Uber. Uber “partners” are consistently
    micro-managed. While you state “Each day, and each hour for that matter,
    these drivers decide whether or not to open the Uber application and
    accept requests for rides from Uber customers.” is incredulous to the
    reality of operations at Uber. Because Uber Drivers of America are
    accepting dangerously low fares , which you admit is more than 90% of
    the time, they have no other option than to work the grave yard shift
    which is the main time in which you offer driver incentives to work or
    possibly get that ONE surge fare. You see, even though you may not have a
    policy in writing saying “we need you to go online to cover demand late
    night” you created an economical low pricing formula that is so low
    that it makes drivers go online during these very difficult and
    sometimes dangerous hours in order to cover their expenses. You see Uber
    does tell the “partners” when to work. Our research has indicated that a
    growing number of Uber “partners” are making below poverty level income
    after taking into consideration fuel, Uber’s non-industry standard
    commissions, insurance, car payments, maintenance, vehicle repairs,
    bottles of water (because god knows a passenger paying $8 deserves a $1
    bottle of water and the $4 in gas that a driver spent to get to them and
    drive them), and last (but the the only other thing) vehicle
    depreciation that no-one seems to talk about.

    There is so much
    more on the inadequacies on the operations of Uber to mention on this
    forum. So I do invite you to contact me to discuss this in a
    constructive session with myself, however my gut tells me my invitation
    will go unanswered as it has so many times before by Uber’s top echelon.

    Make no mistake Uber IS the future for GPS based logistics not just for
    passengers but other assets. I am a fan. What I am not a fan of is it’s
    implementation. Remember you can not look at Uber and it’s valuation
    like a Twitter or a Facebook as several of your executives compare Uber
    to in order to distance itself as a service provider or to value the
    company for future shareholders. Why? The 100 million plus people on
    Facebook can’t get killed by their phone, tablet or computer to check in
    on their status but an Uber “partner” or passenger can get killed in a
    car accident or sustain a lifetime debilitating injury. There is a HUGE
    difference. The asset that you have helped facilate to move has a value
    with which you can not out a price tag on.

    If you would like to discuss this further I may be reached at Uberdriversofamerica@yahoo.com.

    Thank you for this opportunity on your forum.

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