What do real estate agents and Uber drivers have in common? In short, they're both independent contractors, they both set their own hours, and they both get paid on volume. But that's not what we're going to talk about right now...today's topic is how increased pay leads to lower productivity. Sound like a bold statement? Read on to learn more.
Stanford University recently released their findings on a gender pay-gap study of Uber drivers. If you listen to the Freakonomics podcast (which I highly recommend), then you may have heard about this. While the entire study itself is fascinating, I found the section on tipping to be hauntingly familiar to real estate.
If you've used Uber in the past few months, then you may have noticed the new "tipping" feature. We now have the ability to pay Uber drivers over and above the fixed ride price if they provide exceptional service (i.e. helping load your bags, sharing some folksy wisdom, or simply tolerating the witty banter from you and your inebriated friends after an epic night on the town). For the most part, riders seem to have little to no issues with tipping. After all, it's a normal part of American commerce, and Uber drivers deserve some extra coin. Am I right?
But what if I told you that tipping has actually made Uber driver wages go down? Below is an excerpt from the Freakonomics podcast interview with John List, Chairman of the Department of Economics at University of Chicago.
LIST: The earnings actually go down a little bit. They don’t go up after you introduce tipping.
DUBNER: Now how can that be?
LIST: What happens is the supply curve shifts out enough to compensate the higher tips. And when the supply curve shifts out, the organic wages go down. And what you have is drivers are underutilized. So what I mean by that is typically they’ll sit in their car empty 35% of the time. With tipping, maybe it’ll go up to 38% percent of the time.
DUBNER: In other words, the wage declines because more drivers think they’re going to make more money since tips are now included, but that increases the supply of drivers, which means there’s less demand to go around.
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So as potential earnings go up, productivity decreases, which leads to a decrease in actual earnings...weird huh? But ironically, this is exactly what has been going on in real estate since the late 1990s.
Though real estate agents don't receive tips (at least they shouldn't), their wages have been steadily increasing over the past 20 years. Since most charge a fixed 3% commission, their pay is directly tied to home values, which increase about 5.4% per year...nearly double the average US worker's annual wage increase.
But the advent of the Internet has been the real game changer in the rise of real estate agent wages. You've probably heard me say this before, but technology has drastically changed real estate. I can't emphasize this enough! It's a big deal. Just imagine searching for homes in a catalog instead of online. And what about contracts? Before the Internet, there was NO e-signature software or email...contracts had to be hand-signed and hand-delivered, which can add hours to a simple home sale.
The Internet has, in fact, made it a lot easier to be a real estate agent. A typical transaction now requires just 20-25 hours of work. And with average commissions in Central Ohio around $6,000, that's over $300 per hour. Not too shabby.
Here's where things get interesting. Over the past 50 years, the number of agents has gone from about 3,000 per capita to 300 per capita.
In other words, as wages increased, so did the number of agents. Just like new drivers flocking to Uber for extra tips, thousands of people have become licensed real estate agents in order to bring home these ever-growing commission checks.
And similar to Uber, the number of customers hasn't increased. So agents are spending more time searching for new clients (networking, cold calls, etc) than actually serving the clients they already have. In fact, I estimate that the average real estate agent spends over half their time in lead generating activities that are of no value to their clients. See the problem here?
While I'm sure Uber's productivity issue will eventually balance out, I'm not so sure about real estate agents. This is because commissions are relatively fixed at 3%. While there are a few agents (like myself) trying to shake things up, it doesn't look like the traditional 3% agents are going anywhere anytime soon.
For more information on price fixing within the real estate industry, check out my recent blog post, Fixed Pricing: Why Most Real Estate Agents Charge 3%.