Exploring Network Effects of Point-to-Point Networks: An Investigation of the Spatial Entry Patterns of Southwest Airlines

This paper explores network effects in Point-to-Point airline networks by examining the spatial entry patterns of Southwest airlines during the 1990-2006 period. Estimation results from a spatial probit model reveal clear spatial dependence in profitability across different routes served by the carrier. Detailed investigation suggests two main sources of network effects, namely: (1) airport and regional presence, and (2) substitutability of markets. Findings of the paper suggest also that the network effects embedded in Southwest’s Point-to-Point network have many distinguishing features as compared to those identified in a typical Hub-and-Spoke network. This study brings some fresh insights on airline network effects in general, as well as explaining the pattern of aggressive network expansions of LCCs in particular.Point-to-Point Networks, spatial entry patterns, Southwest airlines, spatial probit model

"An Analysis of Airport Pricing and Regulation in the Presence of Competition Between Full Service Airlines and Low Cost Carriers"

Despite the airport privatization and deregulation trend in recent years, whether or not the privatized or commercialized airports should be left unregulated is still an open question. Related to this issue, one question that has received a very little attention to date is if and how pricing behavior of unregulated airports affect downstream airline competition, especially the competition between airlines offering differentiated services such as the case of full service airlines (FSA) vis-a-vis low cost carriers (LCC). If the upstream monopoly (airport) hinders downstream (airline) competition, the welfare effects of the upstream unregulated monopoly may be much larger than initially suspected. This aspect of airport pricing has not been formally incorporated in the debate on airport price regulation. In this paper, we study a duopoly model to capture the differential competitive effects of changing airport user charges on FSAs and LCCs. By making reasonable assumptions on differential price elasticities, unit costs and competitive behavior as manifested by firmspecific conduct parameters, we perform numerical simulations to measure differential effects on an FSA and an LCC of increasing airside user charge by an unregulated upstream monopolist airport. Our analytical and numerical results suggest existence of the asymmetric effects of an airport's monopoly pricing on LCC and FSA. That is, LCCs suffer more from an identical cost increase than FSAs and are, therefore, more vulnerable to monopolistic pricing practices of an unregulated airport. This implies that unregulated airport pricing would reduce the extent of competition in downstream airline markets, and thus, cause a further detrimental effect on welfare over and above the first-order dead weight loss of airport's monopolistic pricing. Considering that LCCs have brought considerable reduction of average fares and the associated welfare gains, it is important for the governments to take into account of these asymmetric effects of increasing airport user charges on FSAs and LCCs when they consider the form and extent of regulation or deregulation. Although our model and simulation work deal specifically with the effect of airport pricing on downstream airline markets, our framework of analysis may be applicable to analysis of any policy affecting costs of FSAs and LCCs including security levies as well as potentially adaptable to other upstream-downstream industry cases.

Duopoly Competition between Airline Groups with Dual-brand Services - The case of the Australian domestic market

The Australian aviation industry achieved substantial growth after the abolition of the “two-airline-policy” in 1990. With Virgin’s purchase of Tiger Airways, a new duopoly between two airlines groups, each consisting of a full service airline (FSA) and a low cost carrier (LCC), emerged in the domestic market. In this study, we analyze the pricing dynamics among the four airlines of the duopoly groups, using panel data of online fares on the four most travelled routes in the domestic market. Our empirical results suggest that market segmentation allows the FSAs to charge significantly higher prices than the LCCs. Still, there is clear evidence of competition within and across the market segments, and the airlines’ pricing responses are asymmetric. Virgin’s price responses to Qantas and Jetstar are moderate. In comparison, more than one third of Qantas’s fare changes and less than half of Jetstar’s fare charges are in response to Virgin’s fare adjustments in the previous period. Despite Qantas and Jetstar’s large market share, after lengthy and costly price wars in previous years, the Qantas group still responds to Virgin as if competing with an entrant. All four carriers adopt revenue management practices, but the pricing of Qantas and Jetstar does not seem to be coordinated. Our study identifies a complex competition pattern between airline groups offering dual-brand services, and suggests that the Australian domestic market has not reached a stable equilibrium

Air Transport Services in Regional Australia – Demand pattern, frequency choice and airport entry

This study investigates the development of the aviation market at Australia’s top 50 regional airports during 2005-2013. Demand estimation results suggest that a higher commodity price increases traffic volume in markets where the local economy heavily relies on mineral resources and that an appreciation of the Australian dollar decreases passenger flows in tourism-dependent areas. The presence of leading airlines and low-cost carriers, and the availability of international services all contribute positively to market growth. Airport entry analysis reveals that major carriers engage in clear strategic interactions. The Qantas airline group has used Jetstar as a fighting brand, thus that Jetstar flies to a destination if and only if the regional airport is also served by Virgin Australia, the group’s major competitor. Unlike routes connected to major airports, demands in regional airports are not sensitive to flight frequency, but seem to be positively influenced by national fare levels. Our empirical results support a consistent aviation policy across Australia, especially for issues related to airline competition and demand stimulation. However, special considerations need be made for regional airports to help them to deal with economic shocks and cover fixed costs

Airport capacity choice under airport-airline vertical arrangements

This study investigates the effects of airport-airline vertical arrangements on airport capacity choices under demand uncertainty. A multi-stage game is analyzed, in which competing airlines contribute to capacity investments and at the same time share airport revenues. Our analytical results suggest that for a profit-maximizing airport, such a vertical arrangement leads to higher capacity although its profit may not be higher. For a welfare-maximizing airport, such an arrangement has no effect on capacity or welfare. Capital cost savings brought by airport-airline cooperation, if any, always leads to higher capacity, higher profit for a profit-maximizing airport, and higher welfare in the case of a welfare-maximizing airport. Numerical simulations reveal that win-win outcomes may be achieved for an airport and its airlines without government intervention

Investigating the impacts of introducing emission trading scheme to shipping industry

Although international shipping is the most energy efficient means of transportation in terms of unit CO2 emission per tone-mile cargo shipped, due to enormous cargo volume and continuous growth, it still contributes a significant part of global emissions. In order to reduce the CO2 emission from the international shipping industry, International Maritime Organization (IMO) is considering possible market-based measures (MBM). One of the most promising alternatives is the Emission trading Scheme (ETS). Our study thus proposes an economic model to theoretically analyze and benchmarks two different ETS mechanisms for international maritime transport industry, namely an open ETS scheme and a Maritime only ETS (METS) scheme. The model is also calibrated using maritime industry real operational data in year 2007. Our study quantifies the differential impacts of ETS on container shipping and dry bulk shipping sectors. It is suggested that ETS scheme, whether open or maritime only, will decrease ship’s cruising speed, throughput and fuel consumption for both container and bulk sectors. Under open ETS scheme, we find that dry-bulk sector will have higher proportional output reduction and sell more (or use less) emission permits. Under maritime only ETS, the emission permit trading price is endogenously determined, and the emission reduction objective will definitely be reached. Container carriers will buy emission permits from the dry-bulk side. The collusiveness of one sector will only affect itself in open ETS, while it will affect the other less colluded sector in the METS. Specifically, when the sector that sells (buys) permits in METS is more collusive (competitive), the permit price will rise

Modeling the Impacts of Alternative Emission Trading Schemes on International Shipping

Various market-based measures have been proposed to reduce CO2 emissions from international shipping. One promising mechanism under consideration is the Emission Trading Scheme (ETS). This study analyzes and benchmarks the economic implications of two alternative ETS mechanisms, namely, an open ETS compared to a Maritime only ETS (METS). The analytical solutions and model calibration results allow us to quantify the impacts of alternative ETS schemes on the container shipping sector and the dry bulk shipping sector. It is found that an ETS, whether open or maritime only, will decrease shipping speed, carrier outputs and fuel consumption for both the container and dry bulk sectors, even in the presence of a “windfall” profit to shipping companies. Under an open ETS, the dry bulk sector will suffer from a higher proportional reduction in output than the container sector, and will thus sell more emission permits or purchase fewer permits. Under an METS, container carriers will buy emission permits from the dry bulk side. In addition, under an METS the degree of competition within one sector will have spill-over effects on the other sector. Specifically, when the sector that sells (buys) permits is more collusive (competitive), the equilibrium permit price will rise. This study provides a framework for identifying the moderating effects of market structure and competition between firms on emission reduction schemes, and emphasizes the importance of understanding the differential impacts of ETS schemes on individual sectors within an industry when considering alternative policies

Revenue Sharing with Multiple Airlines and Airports

This paper investigates the effects of concession revenue sharing between an airport and its airlines. It is found that the degree of revenue sharing will be affected by how carriers’ services are related (complements, independent, or substitutes). In particular, when carriers provide substitutable services, the sharing proportions might become negative if horizontal substitutability is sufficiently strong. In these situations, while revenue sharing improves profit, it reduces social welfare. It is further found that airport competition results in a higher degree of revenue sharing than would be had in the case of single airports. Nevertheless, the airport-airline chains may derive lower profits through this revenue-sharing rivalry, and the situation is similar to a classic Prisoners’ Dilemma. As the airport-airline chains move further away from their joint profit maximum, social welfare rises beyond the level achievable by single airports. Our analysis also shows that the (equilibrium) revenue-sharing proportion at an airport decreases in the number of its carriers, and increases in the number of carriers at the competing airports. Finally, the effects of the pure sharing contract are compared with those of the two-part sharing contract