Airline Competition Workshop: Agenda

Keynote Lecture

Speaker: Severin Borenstein (University of California, Berkeley, and NBER)

Paper: How Airline Markets Work...Or Do They? Regulatory Reform in the Airline Industry, joint with Nancy Rose (MIT and NBER).

Abstract: Following a brief review of the U.S. domestic airline industry under regulation (1938-1978), we study the changes that have occurred in pricing, service, and competition in the 28 years since deregulation. We then examine some of the major public policy issues facing the industry: (a) the sustainability of competition and volatility of airline profits, (b) possible market power of dominant airlines, and (c) congestion and investment shortfall in the airport and air traffic infrastructure.

Session 1: Airline Competition, Financial Volatility and Recent Trends

Speakers: Steven Berry (Yale University and NBER) and Panle Jia (MIT and NBER)

Paper: Tracing the Woes: An Empirical Analysis of the Airline Industry

Abstract: The U.S. airline industry went through tremendous turmoil in the early 2000s. There were four major bankruptcies and two major mergers, with all legacy carriers reporting a large profit reduction. This paper presents a structural model of the airline industry, and estimates the impact of demand and supply changes on profitability. We find that, compared with the late 1990s, in 2006, (a) air-travel demand was more price sensitive; (b) passengers displayed a strong preference for direct flights, and the connection semi-elasticity was much higher; (c) the changes of marginal cost significantly favored direct flights. These findings are present in all the specifications we estimated. Together with the expansion of low cost carriers, they explained more than 80 percent of the decrease in legacy carriers’ variable profits, with changes in demand contributing to more than 50 percent of the reduction.

Speakers: Federico Ciliberto (University of Virginia) and Carola Schenone (University of Virginia)

Paper: Bankruptcy and Product-Market Competition: Evidence from the Airline Industry

Abstract: In this paper we investigate price changes in airline markets when one of the competitors files for protection under Chapter 11. We study both how average prices change and the prices charged by each carrier change in response to a bankruptcy filing. We find that, on average, firms reduce their prices by just 1 percent when they file for bankruptcy protection. Yet, the effects on prices are very heterogeneous across events. We estimate price changes ranging from negative 14.5 percent (ATA’s bankruptcy) or 5.2 percent (first USAir filing) percent, to a 4.6 percent increase in the case of Northwest’s bankruptcy. We find much less heterogeneity in the post-bankruptcy period: all bankrupt firms return to their pre-bankruptcy levels or higher when they emerge from bankruptcy. Finally, we find that competitors do not match the price changes of the bankrupt firms. The lack of significant price reductions during the bankruptcy filings and finding of increases in prices after the emergence from bankruptcy provide strong evidence against the hypothesis that firms file for bankruptcy protection to lower their operating costs, since cost savings (if any) should still persist after the emergence from Chapter 11. This is a striking and very surprising result, since airlines always justify their bankruptcy filings as ways to lower their operating costs.

Speaker: Rene Kamita (Economic Analysis Group, Antitrust Division)

Paper: Analyzing the Impact of Antitrust Immunity: Price Effects Following the Aloha-Hawaiian Antitrust Immunity Agreement

Abstract: Coordination between competitors may take various forms. In this paper, I examine the impact of an agreement in which two airlines received antitrust immunity to coordinate air travel capacity between December 2002 and October 2003. Using data on airfares from the Department of Transportation's Origin and Destination database, I find a significant and steady increase in price during the period of coordination, consistent with the depletion of previously purchased low priced travel vouchers. Moreover, I find price effects that appear to persist well beyond the period of antitrust immunity. Several possible explanations for the prolonged price effects are discussed. That a number of firms have announced plans to enter the inter-island travel markets is consistent with a scenario in which post-immunity prices reflect supra-competitive pricing rather than a new competitive equilibrium. I conclude that the airlines may have been able to tacitly sustain coordination past the period in which they received immunity.

Session 2: Airline Competition, Airport Delays and Congestion

Speakers: Cliff Winston (Economic Studies, Brookings Institution) and Steven Morrison (Northeastern University)

Paper: Airline Delays: Can Airport Privatization Help?

Abstract: In the wake of thirty years of airline deregulation, congestion and delays have emerged as a central issue in the performance of the US airline industry. It is also a controversial issue as airlines, travelers, and policymakers point to different sources of delays, including inclement weather, the out-of-date air traffic control system, carrier over-scheduling, and inefficient airport operations. In this paper, we quantify the effects of these sources on air travel delays and conclude that an effective solution calls for a fundamental shift in airport policy. Unfortunately, publicly owned and managed airports are resistant to change; thus, we explore whether airport privatization could help address the problem of congestion and delays. We identify the salient features of a privatized airport system that could raise social welfare and suggest experiments to provide hard evidence of the potential benefits.

Speaker: Jan Brueckner (University of California, Irvine)

Paper: Price vs. Quantity-Based Approaches to Airport Congestion Management

Abstract: This paper analyzes slot-based approaches to management of airport congestion, using a model where airlines are asymmetric and internalize airport congestion. Under these circumstances, optimal congestion tolls differ across carriers, and since a slot-sale regime (with its uniform slot price) cannot duplicate this pattern, the equilibrium it generates is inefficient. Flight volumes tend to be too low for large carriers and too high for small carriers. Under a slot-trading regime or a slot auction, however, the existence of a fixed number of slots causes carriers to treat total flight volume (and thus congestion) as fixed, and this difference can lead to an efficient outcome.

Session 3: Airline Competition, Entry and Potential Competition

Speaker: Abe Dunn (Economic Analysis Group, Antitrust Division)

Paper: Do Low Quality Products Affect High Quality Entry? Multiproduct Firms and Nonstop Entry in Airline Markets

Abstract: This paper studies the effect of product ownership and quality on nonstop entry in the airline industry. Specifically, this paper empirically examines the decision of an airline to offer high quality nonstop service between cities given that the airline may or may not be offering lower quality one-stop service. I find that airlines that offer one-stop service through a hub are less likely to enter that same market with nonstop service than those that do not. In addition, the quality of the one-stop service is an important determinant of entry. Airlines are more likely to enter a market with nonstop service if their own or their rival's one-stop service in the market are of lower quality. Estimates suggest that the entry of a rival nonstop carrier diminishes the probability a carrier enters the market with nonstop service. However, airlines offering one-stop service respond differently to nonstop rivals. In particular, relative to other carriers, those offering one-stop service are more likely to enter markets if there are nonstop rivals, suggesting that cannibalization effects are diminished in the presence of nonstop competition.

Speakers: John Kwoka (Northeastern University) and Evgenia Shumilkina (Northeastern University)

Paper: The Price Effect of Eliminating Potential Competition: Evidence from an Airline Merger

Abstract: Some mergers, in addition to reducing actual competition, may eliminate one firm in its role as a potential entrant into markets served by the other merging party. This paper provides the first direct empirical evidence of the competitive effects of the elimination of potential competition. It examines the merger between USAir and Piedmont Airlines, which involved many routes where one carrier was the incumbent and the other positioned readily to enter. Using data on several quarters of operation before and after the merger, it finds that elimination of such a potential entrant allowed the incumbent carrier to raise price by 5 to 6 percent. This effect is approximately half as large as the price increase on routes where the two carriers had previously been actual competitors. Both represent substantial and statistically significant adverse effects of the merger. These results are robust to variations in definition, classification, and identity of the parties.