Overbooking with Endogenous Demand

54 Pages Posted: 31 Jan 2019

See all articles by Rowena J. Gan

Rowena J. Gan

University of Pennsylvania - The Wharton School - Operations, Information and Decisions

Noah Gans

University of Pennsylvania - Operations & Information Management Department

Gerry Tsoukalas

University of Pennsylvania - The Wharton School

Date Written: January 23, 2019

Abstract

Using airlines as a backdrop, we study optimal overbooking policies with endogenous customer demand, when customers internalize their expected cost of being bumped. We first consider the traditional setting in which compensation for bumped passengers is fixed and booking limits are the airline's only form of control. We provide sufficient conditions under which demand endogeneity leads to lower overbooking limits in this case. We then consider the broader problem of joint control of ticket price, bumping compensation, and booking limit. We show that price and bumping compensation can act as substitutes, which reduces the general problem to a more tractable one-dimensional search for optimal overbooking compensation and effectively allows the value of flying to be decoupled from the cost of being bumped. Finally, we extend our analysis to the case of auction-based compensation schemes and demonstrate that these generally outperform fixed compensation schemes. Numerical experiments that gauge magnitudes suggest that fixed-compensation policies that account for demand endogeneity can significantly outperform those that do not and that auction-based policies bring smaller but still significant additional gains.

Keywords: airline revenue management, overbooking, strategic customers, auctions

Suggested Citation

Gan, Jingxing (Rowena) and Gans, Noah and Tsoukalas, Gerry, Overbooking with Endogenous Demand (January 23, 2019). The Wharton School Research Paper. Available at SSRN: https://ssrn.com/abstract=3321409

Jingxing (Rowena) Gan

University of Pennsylvania - The Wharton School - Operations, Information and Decisions ( email )

3641 Locust Walk
Philadelphia, PA 19104-6365
United States

HOME PAGE: http://oid.wharton.upenn.edu/profile/ganj/

Noah Gans

University of Pennsylvania - Operations & Information Management Department ( email )

Philadelphia, PA 19104
United States

Gerry Tsoukalas (Contact Author)

University of Pennsylvania - The Wharton School ( email )

3641 Locust Walk
Philadelphia, PA 19104-6365
United States

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