Government Aid to Airlines Is Just Excess Baggage for Taxpayers
SEVERIN BORENSTEIN Severin Borenstein, a professor at UC Berkeley's Haas
School of Business, has advised airlines and governments on aviation policy for
more than 20 years.
August 27 2002
Some commentators are arguing
that the airline industry is uniquely incapable of operating profitably and
therefore needs government assistance. Yet losses and shakeouts happen
periodically in nearly all capital-intensive industries. More subsidies would
just divert federal revenue without helping passengers.
In the early
1990s, memory chips were expensive, and chip producers were getting rich.
Consequently, many chip makers built new billion-dollar production
When the expected growth in demand didn't materialize,
producers suffered immense losses, and many entered Chapter 11 bankruptcy. Yet
you could still buy memory chips for your PC. Given the firms' capital
investments, the companies were worth more operating than shut
Fast-forward five or six years to the U.S. airline industry: Big
profits in the mid-to late-1990s led to huge new investments in capital
(airplanes and ground facilities), which were followed by a decline in demand
(even before, but accelerated by, Sept. 11) that trashed the value of their
Companies found themselves on the financial ropes.
US Airways is in bankruptcy, United is teetering and others aren't far
Just as with the chip industry, nearly all these companies are
still worth more alive than dead.
Some will have to reorganize under
bankruptcy, which is a nice way of saying that shareholders will lose everything
and creditors will not get paid all they are owed. One or two airlines may even
close their doors, though many airlines have entered Chapter 11 and emerged a
year or two later without ever missing a day of operations. Continental has done
In any case, the U.S. airline industry is not going to shut
down. Fewer flights will--and should--operate because demand has declined, but
more people are flying now than in any year before 1999, so service cutbacks
won't be large. If some carriers close down, others will move into their
Last September, the industry wrangled a $5-billion
cash subsidy from the federal government, arguing that air travel is a backbone
of the economy. Indeed it is, but profitable flights would have continued with
or without the bailout, whether or not carriers had to file Chapter
The subsidy was essentially a $5-billion gift from taxpayers to
The money wasn't for workers or anyone near the
Sept. 11 disaster sites. And of all the people affected by Sept. 11, airline
shareholders don't seem to be among the most deserving of government aid.
Investors can reduce risk by diversifying their portfolios. Workers, however,
can't diversify their employment.
And airline workers, particularly
pilots and mechanics, will be big losers. Since deregulation, they have become
virtual (or actual) co-owners of the companies, and their compensation has
followed industry profits. (Not the flight attendants, though, because they have
so little bargaining power that they earn McDonald's-level wages in good times
A somewhat smaller industry also means some layoffs. But the
industry isn't going to shrink massively.
Employment will shift among
carriers. Layoffs by the least-efficient carriers--read US Airways--make
front-page news. But hiring by the most efficient--read Southwest--goes
For travelers, the industry turmoil means downward price
pressure because of excess capacity. Just as the plethora of unused fiber optic
lines has led to 4-cent-per-minute long-distance rates, those surplus aircraft
parked in the Mojave Desert mean discounts for air travelers.
for consumers isn't all good, though.
Airlines are now more likely to
give up on thinner routes that they were hoping would turn profitable. You'll
still be able to get from X to Y, but it may not be as convenient.
finally, the question on every traveler's mind: Yes, your frequent-flier miles
are safe. Carriers in bankruptcy continue to honor them, and if they get bought
by bigger airlines, the miles can become more valuable. Ask anyone who had TWA
miles before it was folded into American.
So unless you're an airline
pilot, mechanic or shareholder, cheer up. This isn't the prettiest part of
capitalism, but the industry is going to get through this fine, and there are
going to be some great fares along the way.
Of course, if you are a
taxpayer, you might wonder why we had to pay $5 billion to get to this point.