The Evolution of Demand and Cost in the Domestic Airline Industry, 1985-1993
The Effect of Operation Under Bankruptcy Protection on the Demand and Cost of U.S. Domestic Airlines
Airline Hubs: Costs, Markups and the Implications of Customer Heterogeneity
My main concern has been the analysis of the evolution of the industry since deregulation, and in particular the role of hub and spoke networks. My recent collaborators are Jan Brueckner from UIUC, Steve Berry, Yale University and Mike Carnall, UIUC.
Abstract. In this paper the model developed in Berry, Carnall and Spiller (1995) - see below- is estimated over the nine year period from 1985 through 1995. The results are used as an aid in the understanding of the changes that took place over the period and to determine whether the actual changes in the industry are consistent with BCS's predictions based on the 1985 results. In addition, the parameters of the model are jointly estimated using a pooled sample which includes five of the nine quarters spanning the period. We find that, consistent with the predictions of BCS, hub carriers at large hubs are able to maintain and in fact increase their advantage in fare as well as market share. In markets in which non-hub carriers compete with hub carriers at large hubs, the hub carriers increased their share of passengers from about 65% in 1985 to more than 80% in 1993. Their share of the business passengers increases from about 70% to more than 90%. The hub premium, a hub carrier's increase in fare over its non-hub competitors, in these markets increased from 15% in 1985 to 35% in 1993 for business passengers. The hub premium for tourist passengers also increased, but more modestly, from about 5% in 1985 to about 12% in 1987, and remained at that level throughout the period. We also find that non-hub carriers compete in fewer markets at hubs and that the total revenue generated by non-hub carriers in markets originating at a competitor's large hub declined by 50% over the period.
Abstract. After several years of continuous expansion, events in 1989 and 1990 led to a number of bankruptcies among the U.S. domestic passenger airlines. Declining economic activity beginning in 1989, coupled with the reduced demand and high fuel prices associated with the war in the Persian Gulf, were sufficient to force into bankruptcy protection not only such carriers as Eastern Airlines, with its regulated era cost structure, but also America West, the darling of the post-deregulation carriers. Several of these bankruptcies have been characterized by years of operation under Chapter 11 protection before liquidation or reorganization. This has led to pleas from other carriers that continued operation under Chapter 11 protection reduces marginal costs and thus allows the protected carrier to set its prices lower than other carriers in the markets. On the other hand, bankrtupcy drives customers away from the airline, as the risk of being stranded, with the potential loss of time and money, makes customers think twice about purchasing tickets from an airline operating under Chapter 11. Furthermore, the potential for liquidation raises questions about the value of frequent flyer miles in that airline. In this paper we use the model developed in Barry, Carnall and Spiller (1995) to estimate the differential impact on cost and demand, as well as the differential response the tourist and business demand has to bankruptcy operation. We find that operation under Chapter 11 protection is associated with a reduction of about $20 in the average marginal cost (which is approximately a 25% drop in estimated marginal cost), but that both tourist and business customers are willing to pay more than that amount to avoid flights on bankrupt carriers. Our results also indicate that carriers that eventually emerge from bankruptcy are those that do not experience a reduction in their share of business passengers after filing for Chapter 11 protection, suggesting that succesful recovery from bankruptcy requires special attention to the needs of those customers.
Abstract. In this paper we provide the first estimates of a model of airline competition which capture the two major features of the industry: product differentiation and economies of density. On the demand side, we capture the fact that airline customers are heterogeneous by allowing customers' preferences over various product specifications to be drawn from a binary distribution. On the cost side, we estimate a very flexible spoke marginal cost function, so as to allow economies of density to vary across different ranges. Our estimates not only provide support to some of the traditional common wisdom in the industry, but are also useful to understanding major puzzles concerning the evolution of the industry.
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Last Updated: August 21, 1995