Our taxi industry is way too socialist

In Canada, we generally have free markets. But when it comes to taxis, the industry seems to as centrally planned as Soviet Russia, and I don't understand why.

In my hometown of Vancouver, city councillor Geoff Meggs blogged about the shortage of taxis in the downtown core on weekends. It's tough for drunken revellers to find a cab home, apparently. And some taxi drivers are unwilling to take people home to the suburbs. It's definitely a problem, but Meggs' musings about possible solutions are misguided.

First, Meggs doesn't seem to understand basic supply and demand:

The trade-off is straightforward: if you always want to be able to flag a cab — easy in Toronto, where the per capita number of cabs is double Vancouver’s — get ready to pay through the nose to keep all those drivers on the road.

This would make sense if taxis operated in a competitive market. But the taxi industry is nowhere near competitive. There are barriers to entry — the provincial government only issues a licence when they determine there is a "need" for another taxi. And there are price controls — prices are set by the government, not individual cab drivers.

If the taxi market were perfectly competitive, we'd be at a competitive equilibrium. This means that if Vancouverites decide to demand more taxis, they'll have to pay more, so in this sense Meggs is on the right track. But the taxi market is nowhere near being perfectly competitive. There are potential drivers who would like a taxi licence at the current price, but are being refused licences from the government. Since more people would be willing to drive cabs at the current price (or less), adding drivers would create downward pressure on prices by increasing competition between drivers.

We can show this with one of those pretty little graph that economists love to draw:

When we place a cap on the number of cab drivers, prices are higher. That's because there are fewer cabs per passenger, so in the absence of price controls, cabbies can skip past cheapskate passengers and only pick up those who are willing to pay big bucks. The purple triangle is what economists call "deadweight loss" — it's the inefficiency created by the stupidity of the central planner. The purple triangle represents all the potential cab drivers sitting at home on their couch because they were denied a licence from the government, and all the passengers they would have happily driven if they were allowed to work.

If we remove the cap on drivers, we get more drivers (duh!) but we also get lower prices — there are now fewer passengers per taxi so drivers can't be as selective about who they pick up. Meggs' logic makes no sense — there would be no trade-off between the number of cabs and prices. Unfortunately, he is approaching the problem the wrong way, by trying to figure out how the central planner can plan better:

Now we need to see creative solutions to this new challenge. Should we issue licences valid only on the weekend? Allow suburban cabs to enter the city for limited time periods? Are there other solutions?

There are other solutions: get out of the central planning business altogether! If you eliminate barriers to entry for taxi drivers, you'll get downward pressure on prices. And if you remove price controls, you'll get more efficient outcomes. Cabs will be cheaper when business is slow than when business is brisk, but you'll have more cabs out on busy nights because there is more money to be made.

This begs the question: why the heck is the cab business so socialist? I've got a few thoughts. There's the cynical explanation: barriers to entry mean less competition for the existing cab companies. So maybe the politicians are trying to win over votes from cabbies.

But there are a couple more practical reasons why we might want to regulate cabs, based mainly on what economists call asymmetric information. Taxis, more than most businesses, are used by tourists. People who are unfamiliar with Vancouver and what constitutes a reasonable fare might be prone to getting gouged. So setting price controls helps tourists. Likewise, we don't know who the cab driver is when we get into the cab. It wouldn't be good for a city's image if they have, for example, sexual predators driving cabs and taking advantage of customers. That might justify the city being in the licencing business — they could grant licences only to cab drivers who pass a criminal record check and have a sufficiently clean driving record.

But there are ways to protect people without having price controls. You could post signs at taxi stands at the airport and the ferry terminal with "suggested" fares for different neighbourhoods, so that tourists would know if they are getting ripped off. And you don't need to have a cap on the number of licences in order to keep customers safe from bad drivers.

Meggs is wrong. The solution to Vancouver's taxi problem isn't revamped central planning — it's allowing Adam Smith to work his magical invisible hand.