Yesternight, a friend of mine was attempting to hail a taxi at Salt Lake in Kolkata. Of course, no taxi guy seemed to be willing to take him for anything under 10 times the actual price, so he had to walk in the end.
But this got me thinking. According to definitions, perfect competition would exist when it is very easy for people to enter and exit the market. By that definition, taxi drivers in Salt lake should exist in perfect competition. But clearly, because prices have not fallen, it seems as if there is no perfect competition here. Why is that so?
Now, at first I thought it could be cabals or unions that distort the free market...but that did not make enough sense. So here is an alternative explanation for why taxi and auto guys charge so much...even though due to competition they ought to offer cut rate prices.
Let us take a hypothetical case where there are 1o taxi drivers. In most places, such as Bangalore, or bombay, there would be a plethora of customers, and the taxi driver would have choices, as does the customer. Also, because most of the customers are locals, knowledge of the locale is also assumed. In this case, it seems to me that the perfect competition model ensures that the lowest prices will be guaranteed.
However, in a place like Salt Lake and Gurgaon, the case would be slightly different. Firstly, the local populance is unlikely to travel by taxi. In salt lake, this is probably due to familiarity, and lack of places to go to. In the case of gurgaon, it is because those who live there are likely to have their own private means of transport like a car or a bike. Therefore, the only people who are likely to hail a taxi-cab are going to be people who are not locals. Also this subset is definitely smaller than the superset of all the people living in the area.
So to summarise, problem is
1. Information Asymnetry
2. Finite customer base.
So, let us take a hypothetical case of 10 taxi drivers, and only 2 customers. While it seems counterintuitive that the prices should go up, here is why they will. In order for the taxi driver to make ends meet, he will have to get revenues of say Rs. 200 a week. Whether he gets it by taking 1 fellow 5 times or taking him once is immaterial to him. Therefore, now these 2 customers will now pay 400 between them. Now, while only 2 taxi drivers benefit, averages say that the next day, another 2 taxi drivers will get 200 and the first 2 will go without clients at all. So, all in all, in a 5 day week, all the taxi drivers will get paid, and the total income would be Rs. 2000. (200 a week per taxi driver)
What would happen now if 1 guy undercuts to a more realistic fare...say Rs. 30. Remember, this is a price inelastic market, so the number of customers won't really go up. So he might get 2 more passengers added to the market. Now, by perfect competition laws, every other taxi driver should also lower his prices down to 30. So now, the total revenue made by all the taxi drivers now is 4x30x5= Rs. 600. This means that every taxi driver now gets only Rs. 60 in a 5 day week.
So we have a perfectly logical explanation for why taxi guys overcharge in certain places. Its market demand a and supply based, after all!
But there is a neat little corollary here. This is in reality a vicious cycle, because the assumption that is made for this to work is that the demand is inelastic with respect to price. This assumption was made with respect to mobile phones when they first came to India. The rates were incredible, with prices going as high as Rs. 27 per minute. Obviously there were not many takers for that sort of price. But once TRAI mandated changes to pricing, companies were busy complaining that they were going to make huge losses. But to their surprise...they did not...the market got them new customers....and that began the price war that led to perfect competition (practically).
The analogy of course with autos and taxis is this....someday, someone will cut the price and address a market of locals as well...then the traditional elastic demand and supply economics will triumph!
But till then, if you live in Salt Lake or Chennai...prepare to get fleeced by the local private transport providers!
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6 comments:
Spellcheck please!
good one ;-)
The taxi drivers market can never be perfectly competitive. The first reason that comes to mind is that a customer cannot choose from ALL of the taxis because there's that teeny weeny problem of geographical separation.
yup...but in a place like kolkata (or chennai) where taxis and autos are found in groups, its not too wrong to assume perfect competition.
you should visit chennai, where the autos are found everywhere, but will still try their best to fleece you!
If they're found in groups, that's a carte, dear sir, not a perfectly competitive market. I'm shocked you ignored this bit :D
Shocked, I say!
I meant Cartel.
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