BELIEVE IT OR NOT: New Paper Shows Airline Mergers Have Been Pro-Competitive

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BELIEVE IT OR NOT: New Paper Shows Airline Mergers Have Been Pro-Competitive

Airlines are capital intensive businesses. They buy (or lease) very expensive planes. They purchase fuel, whose price has been volatile. On the whole in the U.S. they are heavily unionized.

At the same time, sales are volatile. Schedules, while adjustable, are published for most carriers about 11 months in advance but for the most part consumers don’t begin buying tickets until inside of 90 days from travel.

There’s a reason that Warren Buffet has famously quipped that the quickest way to become a millionaire quickly is to start with a billion dollars and invest in an airline, and also remarked “if a farsighted capitalist had been present at Kitty Hawk, he would have done his successors a huge favor by shooting Orville down.”

And yet we often think airlines are taking advantage of us, and cheer on government ‘going after’ airlines. Usually though we talk about government intervening to prevent or break up ‘monopoly’. Yet considering that airfares have been falling, it’s hard to argue that US airlines have meaningful pricing power.

In some hub cities customers will pay a (voluntary) premium for some non-stop trips, but in most markets consumers face several options. It’s strange that talk usually focuses on ‘3 legacy airlines’ (United/Delta/American) when Southwest is the largest domestic airline. What’s the theoretical basis for suggesting 4 large competitors (and other small competitors) are insufficient to yield competitive outcomes?

That said, there are limits on competition.

  1. Airlines are among the most heavily regulated sectors of the economy (“deregulation” really just meant that the federal government no longer dictates schedules and prices). Commercial airports in the US are owned by government (Branson, Missouri is private; the worldwide trend is private airports). Nearly all airport security is performed by the federal government (a few airports, like San Francisco, have government contractors). Flight routes are managed by government air traffic control. Pricing displays and consumer terms are dictated by the Department of Transportation. For better or worse, these are dimensions along which airlines really aren’t permitted to compete.

  2. Government limits access to key airports, for instance there’s fierce competition for access to gates at Dallas Love Field because federal law required the airport to eliminate a third of its gates [a complicated deal to more or less give Southwest Airlines a monopoly at the airport]. And government keeps out competition through limits on foreign ownership.

It seems funny to me that so much of the focus of aviation policy has been on anti-trust enforcement, when government itself limits competition. And now the acquisition of Virgin America by Alaska Airlines – which would make Alaska a viable competitor to the ‘big 4’ – is slowed down in negotiations with DOJ.

So while it should be obvious, a new paper (HT: Tyler Cowen) by the University of Chicago’s Dennis Carlton and several co-authors finds that the Delta-Northwest, United-Continental, and American-US Airways mergers haven’t been anti-competitive at all. In fact,

In our empirical analysis, we employ a difference-in-differences approach, which allows us to compare how the variables of interest changed between pre- and post-merger periods on routes where mergers were expected to have the strongest competitive effects (i.e., overlap routes) relative to other routes. This methodology has been used in previous legacy carrier merger investigations (see, e.g., Heyer, Shapiro and Wilder (2009)).

Our main conclusion is simple: The recent legacy carrier mergers have been associated with pro-competitive, not anti-competitive outcomes. In particular, we find that, on average across all three mergers combined, nonstop overlap routes (on which both merging parties were present pre-merger) experienced statistically significant output increases and statistically insignificant nominal fare decreases relative to non-overlap routes. This pattern also holds when we study each of the three mergers individually.

We find that nonstop overlap routes experienced statistically significant output and capacity increases following all three legacy airline mergers, with statistically significant nominal fare decreases following Delta/Northwest and American/US Airways mergers, and statistically insignificant nominal fare decreases following the United/Continental merger.

That I do not like these mergers doesn’t mean that they have been ‘bad’ in a traditional anti-trust sense.

They aren’t a conspiracy against consumers that the government is being bought off to allow.

Perhaps these mergers have made airlines strong enough to compete vigorously with each other, though in good times and with fewer desperate carriers they may not be competing as aggressively differentiating their frequent flyer programs.

Any criticisms of government anti-trust policy allowing airline mergers needs to, at least it seems, confront the data in this new paper. And if you want more competition in commercial aviation, you’re likely to find better levers removing legal barriers to it.

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