Thursday, August 16, 2007
Posted by D. Daniel Sokol
Are you paying too much for your airline ticket? New research suggests that if you fly out of an airline hub, the answer is yes. The hub premium is 8 percent for travel out of a hub and 6.4 percent for travel into a hub. Some competition advocacy by the FTC that would support a free market model for landing slots is in order. The paper by Federico Ciliberto and and Jonathan W. Williams of the University of Virginia Department of Economics that demonstrates these interesting findings is titled Limited Access to Airport Facilities and Market Power in the Airline Industry.
ABSTRACT: We investigate the role of limited access to airport facilities as a determinant of prices, and more specifically of the hub premium, in the US airline industry. To this purpose, we use original data from competition plans that airports are required to submit to the Department of Transportation in compliance with the Aviation Investment and Reform Act for the 21st Century.
First, we find that the unconditional premium on the median fare is 12.5 percent for tickets out of a hub, and 6.8 percent for tickets into a hub. After controlling for the markup that airlines can charge because they offer a differentiated product, the hub premium is 8 percent for travel out of a hub and 6.4 percent for travel into a hub. Second, the unconditional and conditional hub premia are increasing in the price of the ticket. The hub premium for the median fare is higher than the premium charged for the 25th percentile fare and much smaller than the premium for the 75th percentile fare. Third, we find that the conditional hub premium is completely explained away once we control for airline specific barriers to entry and product differentiation. Exclusive access to and dominance of gates at the market endpoint airports as well as subleasing terms and restrictions are key determinants of the hub premium.
Finally, we propose a solution that is simple to implement for reducing the gate premium in a large number of dominated markets. We show that the average fare across all markets in our study would fall by at least 5 percent if airports enforce stricter subleasing terms between airlines. For the markets in our data, the median loss in consumer welfare from the current very lax subleasing terms is $52,208 per quarter in each market. This is a large welfare loss for the consumers.