3.4 – The Provision and Demand of Transportation Services

Authors: Dr. Jean-Paul Rodrigue and Dr. Theo Notteboom

Transport supply is the capacity of specific transportation infrastructures and modes over a time period. Transport demand is mobility needs for the same time period, even if they are only partially satisfied.

1. The Supply and Demand for Transportation

Each transport more shares the common goal of fulfilling a derived transport demand, and each transport mode thus fills the purpose of supporting mobility. Transportation is a service that must be utilized immediately since, unlike the resources it often carries, the transport service itself cannot be stored. Mobility takes place using transport infrastructures of a fixed capacity, providing a transport supply. In several instances, transport demand is answered in the simplest means possible, notably by walking over a landscape that has received little or no modifications. However, in some cases, elaborate and expensive infrastructures and modes are required to provide mobility, such as for air transportation.

Transportation is a market composed of suppliers of transport services and users of these services. Well-functioning transport markets should allow the transport supply to meet transport demand to satisfy transport needs for mobility. An economic system, including numerous activities located in different areas, generates movements that the transport system must support. Without mobility, infrastructures would be useless, and without infrastructures, mobility could not occur or would not occur in a cost-efficient manner. This interdependency can be considered according to two concepts, which are transport supply and demand:

Transport supply. The capacity of transportation infrastructures and modes, generally over a geographically defined transport system and for a specific period of time. Supply is expressed in terms of infrastructures (capacity), services (frequency), and networks (coverage). Capacity is often assessed in static and dynamic terms where static capacity represents the amount of space available for transport (e.g. terminal surface), and dynamic capacity is the improvement that can be made through better technology and management. The number of passengers, volume (for liquids or containerized traffic), or mass (for freight) that can be transported per unit of time and space is commonly used to quantify transport supply.

Transport demand. Transport needs, even if those needs are satisfied, fully, partially, or not at all. Similar to transport supply, it is expressed in terms of the number of people, volume, or tons per unit of time and distance.

The supply side of the transport market can be divided into two categories:

  • Third-party transportation. Transport companies offer transport services to users who require such services, often on open markets. Transport users pay for the services delivered according to the terms of the agreed contract. Examples include third-party trucking companies, container shipping lines, railway operators, and bus companies. Competitiveness is a key advantage of third-party transportation as providers strive to offer better and lower-cost services for their customers. There is also the risk of fluctuating prices due to changing market conditions and that transport capacity may not be available when a customer requires it. Third-party transportation companies come in a variety of sizes depending on the characteristics of the transportation markets they service. There are large global third-party transportation companies such as maritime shipping lines and third-party logistics providers (UPS, FedEx, DHL), as well as small operations such as trucking and local delivery companies.
  • Own account transportation. The transport user deploys his own transport means to move freight or travel (e.g. motorists using private cars or large industrial companies owning a fleet of trucks or rail wagons). The transport user has direct access to a known capacity but at the risk of a lower level of asset utilization (e.g. empty movements or idle equipment). There is no specific relation between firm size and the use of own account transportation since such arrangement is used by small local firms having their delivery vehicles as well as large corporations such as mining and wood companies.

Transport demand is generated by the economy, which is composed of persons, institutions, and industries and which generates the mobility of people and freight. A distinction can be made between consumptive and productive transport needs. Productive transport needs have a clear economic focus. For example, the transport of semi-finished products from one production site to the final production or assembly site creates added value in the production process by benefiting from the locational advantages of each of the production sites. Consumptive transport needs to generate less visible added value. For example, a road trip does not add value in a purely economic sense but generates subjective utility and satisfaction to the users. A discussion on the functioning of transport markets is particularly relevant where it concerns the fulfillment of productive transport needs, but the consumptive dimension of transport must also be considered.

A wide range of models has been developed to represent transportation demand, which can be categorized as constant, deterministic, and stochastic. Transport demand can vary under two circumstances that are often concomitant; the number of passengers or freight increases or the distance over which these passengers or freight are carried increases. For the movements of passengers, the location of residential, commercial, and industrial areas tells a lot about the generation and attraction of movements. The location of resources, factories, distribution centers, and markets are related to freight mobility. Geographical considerations and transport costs account for significant variations in the composition of freight transport demand between countries.

2. Supply and Demand Functions

Transport supply and demand have a reciprocal but asymmetric relation. While a realized transport demand cannot take place without a corresponding level of transport supply, a transport supply can exist without a corresponding transport demand. This is common in infrastructure projects that are designed with a capacity fulfilling an expected demand level, which may or may not materialize, or may take several years to do so. Scheduled transport services, such a public transit or airlines, are offering a transport supply that runs even if the demand is insufficient. Infrastructures also tend to be designed at a capacity level higher than the expected base scenario in case that demand turns out to be is higher than anticipated. In other cases, the demand does not materialize, often due to improper planning or unexpected socio-economic changes.

Transport demand that is met by a supply of transport services generates traffic (trucks, trains, ships, airplanes, buses, bicycles, etc.) on the corresponding transport infrastructure networks. The traffic capacity is generally larger than the actual transport demand since the average utilization level of vehicles rarely reaches 100 percent. For instance, empty hauls of trucks, an underutilized container ship capacity sailing on a shipping route characterized by imbalanced container flows, underutilized off-peak bus service, and the one person per car situation in commuter traffic. There is a simple statistical way to measure transport supply and demand for passengers or freight:

The passenger-km (or passenger-mile) is a common measure expressing the realized passenger transport demand as it compares a transported quantity of passengers with a distance over which it gets carried. The ton-km (or ton-mile) is a standard measure expressing the realized freight transport demand. Although both the passenger-km and ton-km are most commonly used to measure realized demand, the measure can equally apply for transport supply.

For instance, the transport supply of a Boeing 777-200ER flight between New York and London would be 314 passengers (in a three classes configuration) over 5,500 kilometers (with a transit time of about 6 hours depending on the direction). This implies a transport supply of 1,727,000 passenger-km. In reality, there could be a demand of 340 passengers for that flight (1,870,000 passenger-km), even if the actual capacity would be of 314 passengers. In this case, the realized demand would be 314 passengers over 5,500 kilometers out of a potential demand of 340 passengers, implying a system where demand is at 108% of capacity. When the potential demand is much higher than the realized demand, fares are usually adjusted until there is a better match (laws of supply and demand). Higher fares may lessen the potential demand while they may, at the same time, be an incentive to add additional capacity. This process is usually iterative until supply and demand converge. Like many economic sectors, the transportation market is continuously impacted by price discovery mechanisms.

Several factors are impacting the capacity of transport infrastructure, from the physical characteristics of the network, how it is funded, operated, and maintained to the presence of bottlenecks. Transport supply can be simplified by a set of functions representing what the main variables influencing the capacity of transport systems are. These variables are different for each mode. For road and rail, transport supply is often dependent on the capacity of the routes and vehicles (modal supply), while air and maritime transportation transport supply is strongly influenced by the capacity of the terminals (intermodal supply).

  • Modal supply. The supply of one mode influences the supply of others, such as roads where different modes compete for the same infrastructure, especially in congested areas. For instance, the transport supply for cars and trucks is inversely proportional since they share the same road infrastructure. This is mainly a zero-sum game.
  • Intermodal supply. Transport supply is also dependent on the transshipment capacity of intermodal infrastructures. For instance, the maximum number of flights per day between New York and Chicago cannot be superior to the daily capacity of the airports of New York and Chicago, even though the New York – Chicago air corridor has potentially a very high capacity.

Transport demand tends to be expressed at specific times that are related to economic and social activity patterns. In many cases, transport demand is stable and recurrent, which allows a good approximation in planning services. In other cases, transport demand is unstable and uncertain, which makes it challenging to offer an adequate level of service. For instance, commuting is a recurring and predictable pattern of movements, while emergency response vehicles such as ambulances are dealing with an unpredictable demand that can be expressed as a probability. Transport demand functions vary according to the nature of what is to be transported:

  • Passengers. For the road and air transport of passengers, demand is a function of demographic attributes of the population, such as income, age, the standard of living, race, and gender, as well as modal preferences.
  • Freight. For freight transportation, demand is a function of the nature and importance of economic activities (GDP, commercial surface, number of tons of ore extracted, etc.) and of modal preferences. Freight transportation demand is more complex to evaluate than passengers.

3. Supply / Demand Relationships

Relationships between the transport supply and demand continually change, but they are mutually interrelated. From a conventional economic perspective, transport supply and demand interact until an equilibrium is reached between the quantity of transportation the market is willing to use at a given price and the quantity being supplied for that price level. Price changes not only affect the level of transport demand but can also lead to shifts of demand to other routes, alternative transport modes, and or other time periods. In the medium or long-term structural changes in the pricing of transport can affect locational decisions of individuals and businesses. However, several considerations are specific to the transport sector, which make supply/demand relationships more complex:

  • Entry costs. These are the costs incurred to operate at least one vehicle in a transport system. In some sectors, notably maritime, rail, and air transportation, entry costs are very high, while in others such as trucking, they are very low. High entry costs imply that transport companies will seriously consider the additional demand before adding new capacity or new infrastructures (or venturing in a new service). In a situation of low entry costs, the number of companies is fluctuating with the demand. When entry costs are high, the emergence of a new player is uncommon, while dropping out is often a dramatic event linked to a massive bankruptcy. Consequently, transport activities with high entry costs tend to be oligopolistic, while transport activities with low entry costs tend to have many competitors.
  • Public sector. Few other sectors of the economy have seen such a high level of public involvement than transportation, which creates many disruptions in conventional price mechanisms. The provision of transport infrastructures, especially roads, was massively funded by governments, namely for the sake of national accessibility and regional equity. Transit systems are also heavily subsidized to provide accessibility to urban populations and, more specifically, to the poorest segment judged to be deprived of mobility. Therefore, transport costs are often considered as partially subsidized. Government control (and direct ownership) was also significant for several modes, such as rail and air transportation in several countries. The recent years have been characterized by privatization and deregulation.
  • Elasticity. The notion of price elasticity is at the core of transport demand and refers to the variation of demand in response to a variation in cost. For example, an elasticity of -0.5 for vehicle use with respect to vehicle operating costs means that an increase of 1% in operating costs would imply a 0.5% reduction in vehicle mileage or trips. Variations of transport costs have different consequences for different modes, but transport demand tends to be inelastic. While commuting tends to be inelastic in terms of costs, it is elastic in terms of time. For economic sectors where freight costs are a small component of the total production costs, variations in transport costs have limited consequences on the demand. For air transportation, especially the tourism sector, price variations have significant impacts on the demand. There are thus differences among the obtained price elasticities, which raises questions about the transferability of the results to other locations and or other time periods. Hence, each case is characterized by a specific local environment in terms of modal choice options, budget/income of the transport user, spatial planning, price levels, etc. All these factors combined can make the behavior of transport users somewhat different across regions and settings.

The price elasticity of transport demand can influence the strategic behavior of economic actors. For instance, container shipping lines are faced with a highly inelastic demand due to the combined effect of a lack of close substitutes and the small impact of freight rates on total costs. The only alternative transport mode in the intercontinental transport of high-value goods is air freight, but this market segment has a much lower cargo-carrying capacity, and prices are much higher. For most shipments, the total freight price only accounts for a tiny portion of the shipment’s total value, usually less than 5%. As container lines cannot influence the size of the final market, they try to increase their short-run market share by reducing prices. As such, shipping lines may reduce freight rates without substantially affecting the underlying demand for container freight. The only additional demand can come from low-value products, which will only be shipped overseas if freight rates are very low (e.g. the market for waste paper and metal scrap). These temporary markets tend to disappear once the freight rate is above a threshold level, no longer allowing a profit on trading these products overseas. The relatively inelastic nature of the demand for shipping services constitutes the core problem for the poor financial performance of container shipping lines. Shipping lines have developed an intense concentration on costs and negotiated long-term contracts with large shippers in view of securing cargo.

As transport demand is a derived demand from individuals, groups, and industries, it can be desegregated into a series of partial demands fulfilled by the adaptation and evolution of transport techniques, vehicles, and infrastructures to changing needs. Moreover, the growing complexity of economies and societies linked with technological changes force the transport industry to constant changes. This leads to growing congestion, a potential reduction in transport safety, degradation of transport infrastructures, and concerns about environmental impacts.

4. Transportation Yield Management

Transport demand tends to be variable in time and space, whereas the transport supply is fixed. When demand is lower than supply, transit times are stable and predictable, since the infrastructures can support their load. When transport demand exceeds supply for a period in time, there is congestion with significant increases in transit times and higher levels of unpredictability. The growth of the transport demand increases the load factor of a transport network until the transport supply is reached. Speed and transit times drop afterward. The same journey can thus have different duration according to the time of the day.

Conventionally, congestion tended to have limited impacts on the fare structure as many transport operators were state-owned or highly regulated. Services and fares were fixed. With deregulation, transport companies were able to establish a level of service reflecting market forces, as well as being able to expand or rationalize their capacity. Subsidies were removed, implying that the fare structure would be the dominant source of income to provide for operating and capital costs of the transport service. A common issue is that while the transport supply is relatively well known, often a scheduled service, the transport demand remains predictable but subject to volatility. Many transport providers, particularly airline companies, have responded to the complexity of predicting transport demand with yield management approaches.

Transportation yield management is the process of managing the usage price of a transport asset, such as the fare paid by users, given continuous changes in the demand. The goal of such an approach is to maximize profit in the context where the transport supply is fixed.

Yield management leans on three conditions:

  • A fixed transport capacity implying that transport demand is the only function that can effectively vary. For instance, the capacity of a scheduled flight or a containership is fixed (known value) and cannot be readily changed without severe impacts on the quality of service. An exception to this rule concerns on-demand taxi services where peak hours often lead to surges in fares, inciting additional drivers to become available during that time period.
  • Unused transport capacity loses all its utility, implying that transport suppliers cannot store the services that have not been used for another time. Once an aircraft or a ship has departed, its transport capacity is lost for the concerned airport or port. Therefore, any unused capacity is a loss of potential revenue.
  • Transport users are willing to pay different rates for the same capacity or service, implying that they value transportation differently based upon their priorities and time preferences. For instance, a business traveler needing to attend a meeting values differently the same airplane seat as a tourist would. The former would be willing to pay a high price to secure a seat on a specific flight while the latter tends to seek discounted values and would be unwilling to bid above a certain price threshold. Also, time-dependent users of cargo services (e.g. electronics) are willing to pay more for the same capacity than those who are less time-dependent.

Under such circumstances, transport operators may continuously change their rates to reflect temporal and spatial fluctuations in demand. For instance, in the United States, domestic airfares are readjusted on average 92 times on a specific flight between the time seats are made available and scheduled departure time. Another form of yield management concerns overbooking where a transportation service provider sells more capacity than available. The expectation is that ‘no-shows’ will ensure that the existing capacity is close to being fully used. This issue is particularly prevalent in the airline and container shipping industries. The main risk is the miscalculation of the overbooked demand, leading to passengers or freight being denied a booked transport service.

The provision and demand for transportation services is a complex mechanism subject to constant fluctuations. It is not an optimal process but in many markets, efficient enough to provide the required mobility level for passengers and freight.


Related Topics

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