Darius W. Gaskins, Jr.
Committee for a Study of Airline Competition
Transportation Research Board
National Research Council
Subcommittee on Aviation
Committee on Transportation and Infrastructure
U. S. House of Representatives
COMPETITION IN THE U.S. AIRLINE INDUSTRY
October 21, 1999
Chairman Duncan and distinguished members of the Committee, my name is Darius Gaskins, member of the Transportation Research Board committee charged by the National Research Council with responding to Congress’ request for a study of competition in the airline industry. As you know, the NRC is the operating arm of the National Academies of Sciences and Engineering and the Institute of Medicine. Thank you for inviting me to this hearing. It is a pleasure to be here.
My testimony reflects the main findings and conclusions of the 11-member study committee consisting of experts in airline operations, economics, and public policy. John R. Meyer, chairman of the committee, was unable to be here on this date and sends his regrets.
Our report, released in July, paints a generally favorable picture of the overall state of competition in the airline industry. Competition has not diminished during this decade. Instead, it has increased in many markets in large part because of the proliferation of Southwest Airlines and several other low-fare carriers. Competition is stronger than ever in many medium- to long-haul connecting markets, where major carriers compete for passengers over their respective hub-and-spoke networks.
More travelers are flying and benefiting from low air fares than ever before. Since 1990, passenger traffic is up more than 35 percent, scheduled departures are up more than 20 percent, and inflation-adjusted fares are down about 25 percent on average.
Nevertheless, while many passengers are paying low fares, others are paying much higher fares. Business travelers, in particular, are reporting very high fares for unrestricted tickets. It is important to recognize, however, that escalating passenger demand has produced resource constraints, including airport and airway capacity shortages during peak travel periods. Business travelers fly the most during these peaks, often to and from the nation’s busiest airports. Their peak-period bookings—often made at the last-minute—are costly for airlines to accommodate.
It is also important to keep in mind that major airlines have designed their networks to meet demands for frequent flights by these business travelers. Many ticket restrictions such as Saturday stay-over requirements allow airlines to identify and charge higher fares to schedule-sensitive business travelers. The higher fares help airlines cover the cost of providing the schedule-intensive service.
Still, there is reason for concern over airline competition and pricing. Because they are least sensitive to price, business travelers are most susceptible to being charged markups by airlines with dominant market positions and little effective competition. Competition tends to weakest on nonstop routes to and from major hubs such as Pittsburgh, Dallas-Ft. Worth, and Cincinnati. In many of these markets, the hubbing carriers controls 50 percent or more of the local traffic. Fares in these markets—which are often business markets—tend to be higher, on average, than in most other markets.
Smaller airlines that have entered these hub markets with low-fare service have often been met with sharp price reductions and increased numbers of low-fare seats by incumbents. To some observers, this behavior looks as if designed to drive out the new entrant. Of particular concern is that the conduct is predatory—intended to suppress competition in order to raise fares well above efficient, competitive levels.
Certainly, the wave of low-fare entry over the past decade has made carriers more competitive in their fare and service offerings. There is good reason, therefore, for wanting to encourage entry. Our committee reviewed instances where responses by incumbents to new entry looked suspiciously like predation. Especially hard to explain were instances in which incumbents duplicated the fare and service offerings of entrants on nonstop routes outside their normal hub-and-spoke networks.
DOT has proposed guidelines that would focus on price cutting by major airlines in response to new, low-fare entry. Yet, it is difficult to predict when such price cutting will indeed be followed by higher fares and reduced competition, or when it will produce vigorous and lasting price competition. We found cases of both, with no apparent way of predicting which would be the outcome in advance.
In short, it is very difficult to develop an objective and practical test for spotting predatory pricing. There is a risk that an administratively prescribed test will have effects that are worse than the problem it seeks to remedy. Some legitimate price competition may be inhibited. A longer-term risk is that administrative prohibitions will evolve into a regulatory regime that sets bounds on airline pricing while protecting inefficient carriers.
Study committee members differed in their assessment of these risks. Some questioned whether the predation problem was sufficient to warrant the risks inherent in DOT pursuing its own administrative approach for detecting predatory pricing. Others judged the problem sufficient to justify taking the risk of DOT intervention. Yet, all believe DOT’s proposed guidelines, as currently constituted, are flawed. The committee urged the Department of Justice to take an active role in policing airline competition.
What is most important is that our aviation policies vigorously facilitate entry into airline markets. With this goal in mind, the committee urged the following steps:
Use pricing to allocate airport and airway capacity more efficiently and to finance capacity expansion. Chronic congestion at airports and in the airways is costly to travelers, raising fares and increasing delays.
Low-fare airlines that depend on intense utilization of equipment and labor are adversely affected by recurrent capacity shortfalls.
User fees should be set to reflect the true cost, including congestion cost, of using scarce airport and airway capacity.
End slot controls and other administrative limits on airport use. These administrative measures do a poor job of allocating capacity. They have been shown to favor incumbent airlines. Exempting low-fare airlines from slot controls or giving slots to airlines that operate on specific routes—viewed by some as a reform—runs the risk of getting the government back in the business of handing out route authorities. Instead, slot and perimeter rules should be replaced with a more rational system of user pricing.
Ensure that federal rules governing airport funding and spending do not conflict with—but help to achieve—the goal of increasing airport gate availability and needed infrastructure at airports. A plethora of federal-aid rules, adopted over the course of decades, limit how airports can finance infrastructure. Consequently, many publicly-run airports have turned to their major airline tenants to fund expansions—possibly to the detriment of smaller competitors. These rules should be reassessed with regard to their effects on competition and consumers.
Lift limits on foreigners owning and operating U.S.-based airlines. These limits restrict the flow of capital and expertise into the domestic airline industry. Smaller airlines and new entrants are deprived resources and U.S. consumers have less choice. They should be lifted, unilaterally if necessary.
In conclusion, the committee strongly and unanimously urges positive steps to encourage entry and competition in the entire industry. Emphasis should be placed on providing infrastructure capacity efficiently and responsively, accompanied by vigilant antitrust oversight. Preserving and expanding opportunities for competition should be the principal goal of aviation economic policy.
On behalf of the chairman and other members of the study committee, thank you for this opportunity to present our recommendations.
Darius W. Gaskins, Jr. is a partner in the transportation consulting firm Norbridge, Inc., and in the investment group High Street Associates, Inc. From 1989 to 1991 he was visiting professor in the Center for Business and Government, John F. Kennedy School of Government, Harvard University. From 1985 to 1989 he was president and CEO of Burlington Northern Railroad, and he was senior vice president for marketing and sales from 1982 to 1985. During 1981 and 1982, he was senior vice president of Natomas North America. Among several government positions, he has served as chairman of the Interstate Commerce Commission (1980-1981), deputy assistant secretary for policy analysis in the Department of Energy (1978-1979), director of the department of economic analyses of the Civil Aeronautics Board, and director of the office of economics of the Federal Trade Commission (1976-1977). From 1970 to 1973 and 1975 to 1976, he taught economics at the University of California at Berkeley. In 1994, he was part of the original investment group that founded Eastwind Airlines. Dr. Gaskins is chairman of Resources for the Future and serves on the boards of Anacomp, Inc,. Northwestern Steel and Wire Company, and Sapient Corporation. He is an engineer (M.S.E., University of Michigan) and earned his Ph.D. in economics from the University of Michigan.
Copies of Special Report 255: Entry and Competition in the U.S. Airline Industry Issues and Opportunities are available from the Transportation Research Board, National Research Council, 2101 Constitution Ave., NW, Washington, DC 20413. Telephone 202-334-1513.