Consumer Heterogeneity and Markups over the Business Cycle: Evidence from the Airline Industry

Abstract

We analyze price dispersion in the airline industry in order to determine the e®ects of the business cycle on markup variations. We ¯nd that the cycle can a®ect the degree to which airlines can price discriminate between di®erent consumer types, ultimately a®ecting the degree of price dispersion. Performing a ¯xed-e®ects panel analysis on 17 years of data covering two business cycles, we ¯nd that price dispersion is highly procyclical. Estimates show that a rise in the output gap of one percentage point increases the interquartile range by 1.6 percent. These results suggest that markups move procyclically in the airline industry, such that during booms in the cycle, the ¯rm can signi¯cantly raise the markup charged to those with high willingness to pay. Our analysis suggests that this impact on the ¯rm's ability to price discriminate imposes extra pro¯t risk to the ¯rm over and above cost variations.