Category AVIATION &ТНЕ ROLE OF GOVERNMENT

The Airline Deregulation Act initiated two primary changes in the status quo ante in the airline indus­try that were to have profound effects in labor relations. First, the practical effects of competition from new entrant, nonunion carriers were largely
beyond the negotiating parameters practiced by the incumbent carriers and their unions; that is, concessions in wages and rules to match the start­ups would have been rejected out of hand by the unions as being too severe. This provided the start­ups with the advantage of being able to provide essentially the same service as the major airlines at greatly reduced rates and fares, and still make a profit. Second, the effects of economic pressures from outside the airline industry, such as recession, fuel prices, and interest rates, could no longer be assuaged or compensated for by the CAB. The air­lines and their unions, in other words, were going to have to leam to deal with each other in the real world where profit margins, or the lack thereof, were going to drive the relationship.

The overall economic climate that prevailed after the passage of ADA was first seen as a lim­ited decline that turned into a recession by 1980, followed by a deeper sustained recession into the early years of the 1980s. Interest rates soared to 20 percent and inflation went into double digits. The OPEC fuel embargo caused fuel prices to rise from $.40 in 1978 to $1.15 in 1980. The airlines’ bottom line was hit hard. There was no safety net to prevent bankruptcy, as Braniff faltered and then fell. Management practices, at Braniff for instance, which completely mis­apprehended the effects of deregulation, com­pounded the problem. Between 1979 and 1984, the airlines as an industry lost $4 billion. Other airlines followed Braniff into insolvency, includ­ing Air Florida, Air New England, and Laker.

Between 1979 and the end of 1984, 47 air­lines filed under the Bankruptcy Act.

The takeover tactics of Lorenzo, and the cre­ation of subsidiary airlines of incumbent carriers, like New York Air as a nonunion carrier owned by unionized Texas International, constituted wake-up calls to union leadership. Incursions by startups caused a general reassessment by both management of incumbent carriers and their unions. The apparent willingness, even eager­ness, of pilots to work for these new carriers without the benefits of union representation was proven by the large number of applicants for the relatively few available positions.

As we saw in Chapter 24, deregulation also created apparent inconsistencies in the applica­tion of the Railway Labor Act, with UPS being subject to the National Labor Relations Act and FedEx being governed by the Railway Labor Act, even though they now perform the same functions.

f you were a traveler in the year 2000, 22 years after the airlines were deregulated, you would have been unable to fly nonstop between Springfield, Illinois and Washington, D. C. No airline in the country offered this service. Instead, you would be required to go through either Chicago or St. Louis. Your airfare would be about the same, $470 in that year, whether you went through O’Hare using United Airlines or through St. Louis using American. But say that for personal reasons you wanted to drive to your first stop of Chicago or St. Louis, and then take the same flight from that airport on to Washington. Your airfare from either Chi­cago or St. Louis to Washington would then be about $1,200, between two to three times as much, even though the distance to Washington is shorter by 178 miles through Chicago and by 86 miles through St. Louis. The reason is summed up in three words: Lack of Competition.

United competes with American for the Springfield traffic to Washington. Springfield passengers had a choice of almost equal pro­portions, in distance, convenience, and service. And the price is about the same for our Spring­field traveler whether he goes through Chicago or St. Louis. At Chicago, however, United has little competition for the Chicago to Washington
traffic. United has what is known as a “fortress hub” in Chicago. The same situation exists in St. Louis with American. The fares are, therefore, much higher, even though the distance traveled is less.

■ A Look Back at the Arguments for Deregulation

It is clear that many of the arguments made in support of deregulation were theoretical only; there was no practical or empirical basis in the airline industry for them. Airline markets since deregulation have not performed as expected. What happened?

First, predictions made before deregulation did not foresee the evolution of the hub and spoke system, a system that was adopted by every incumbent carrier. Point-to-point service as a primary marketing or operations strategy was maintained by only one major carrier, Southwest Airlines. The hub and spoke system has created major barriers to entry for the startup airlines.

Second, expectations that a simplified fare structure would be adopted, based on the assumption that startups with low operating costs would prevent the development or prolifera­tion of complex fare structures, were not borne

out. The computer reservation systems of the incumbent airlines, coupled with the captured market produced by the hub and spoke system, allowed the proliferation of yield management principles first introduced by American Airlines in the 1970s. The application of these principles had a significant impact on rate structures. The widening of the gap between the price of unre­stricted full-fare tickets (purchased by the time- constrained or business passenger) and the price of the restricted low fares (purchased by the price-constrained, leisure class of passenger) has been due in large part to the workings of comput­erized yield management.

Third, it was predicted that there would be no “economies of scale” in a deregulated airline market. This expectation assumed that incumbent carriers would be unable to bring their size, their experience, their computer reservations systems, their borrowing power, their ownership of slots and gates, or the benefits of the unanticipated hub and spoke systems to create an advantage over smaller, startup airlines. The contrary, in fact, had been assumed, that the incumbent airlines would have difficulty in competing with the more effi­cient low-cost carriers that would emerge after deregulation. The lack of economies of scale argument had focused on the cost side of the equation, not on the revenue side. Experience has shown that there truly are few economies of scale on the cost side (e. g., costs of operation are not reduced because of economies of scale), but there are substantial economies of scale on the revenue side (e. g., the enhancement of revenues) due to the factors enumerated above. As a result, most of the startups that came into the market imme­diately after deregulation, not possessing these attributes, have vanished. With the exception of Southwest, most of the major airlines in opera­tion after deregulation were the very same large airlines that existed before deregulation. More recently, certain low-cost carriers like JetBlue and AirTran have shown staying power utilizing the business model pioneered by Southwest Airlines.

The fact that the incumbent airlines were able to survive, and to expand, in spite of the lower costs of the smaller and more efficient startups, leads to the conclusion that there are economies of scale. Further, competitive responses of the incumbents to the entry of the startups in competing markets suggest the exis­tence of anticompetitive practices by the incum­bent lines, again possible because of the size and presence of the incumbent carriers. This leads to the next argument made for deregulation.

Fourth, it was said that airline markets were “contestable,” that is, in a market where there are only relatively few participants to vie for and share the available market, low-cost car­riers with low fares would necessarily cause the competing carriers to lower their fares. In actual practice, the market contestability theory has not proven out in the airline industry. Free entry into the market has been depressed by slot and gate scarcity. There has been an inequality of management acumen and operating experi­ence. Costs associated with the beginning of operations are substantial, and they normally are not recovered in the short run. Predatory practices by the incumbent airlines are routine, resulting in fares being lowered on the incum­bent airlines to match those charged by startups. These practices include increasing capacity on the routes flown by the new entrant and by the inauguration of new routes to compete with the new entrant. Marketing strategies, such as fre­quent flyer programs that grant advantages to the large, incumbent airlines, have also proven to be effective.

Deregulation was supposed to foster com­petition. Competition is what gives to the con­sumer the best possible deal in price and quality. Until recently, competition has been primarily the result of new airlines entering the market, as well as established airlines entering new mar­kets. Freedom to compete since the industry was deregulated, however, has not been uniform, and competition has been stifled in many ways. We will now take a further look at how the promise of deregulation has been compromised.

Each airport is operated under a master plan, the primary purpose of which is to provide safe and efficient air carrier service and to enhance airport capacity. Capital improvements include construc­tion of new facilities or renovations of existing facilities. Sources of funding include:

• Airport Revenue Bonds

• The Airport Improvement Program (AIP)

• Airport user charges

• Passenger Facility Charges (PFCs)

• State and local funding programs

Airport Revenue Bonds

Bonds are the primary means of financing airport capital development projects. Bonds are debt instruments (like I. O.U. s) issued by the airport

owner to raise the money necessary for new construction or renovations. These bonds are tax-exempt and are known as General Airport Revenue Bonds (GARBs). Some GARBs have maturity dates of 30 years or more and since 1982 they have comprised more than 95 percent of all airport debt.

A secondary source of revenue is derived from bonds known as Special Facility Bonds. These bonds are secured directly by the owner of the facility, such as a fixed base operation or aircraft maintenance facility, and the owner of the facility is usually responsible for paying off the principal amount of the bond and all interest charges.

Deregulation had also produced the practice of code sharing between airlines domestically, in 1983. Code sharing allows an airline to advertise, as its own, a route from an origin to a destination, even though a part of that route is not actu­ally flown by the advertising airline. Usually unknown to the passenger, a part of the route is flown by a different airline using its own aircraft, its own pilots, and its own support infrastructure and staff, all of which entails utilizing its own procedures and rules. For many reasons, this is information that many travelers would like to know, but a primary reason is that major carriers and regional carriers (who code share) may have significantly different safety records, types of air­craft, and pilot hiring qualifications.

Code sharing also involves airlines jointly setting rates and fares, which is traditionally a big no-no since that kind of action fits exactly the definition of antitrust collusion and anti­competitive behavior. The antitrust laws of the United States apply fully to code-share arrange­ments, which are administered by the Department of Justice. Over the years, code-share arrange­ments have gone into effect without interference from the Department of Justice for the simple reason that these arrangements are seen by the DOJ as competitive overall and favorable to the consumer.

Code sharing between domestic airlines and foreign airlines is also subject to the antitrust laws of the United States, unless an express grant of statutory immunity is made by the Department of Transportation. The first foreign code-share arrangement was approved by the Department of Transportation in 1993 to allow KLM Royal Dutch Airlines to infuse capital into financially strapped Northwest Airlines. Although code sharing between airlines does not require a swap of assets or other financial investment between them, approval was initially given by the United States government to these arrangements in part due to the fact that additional financial stability was achieved in the domestic carrier. Following the KLM-Northwest code-share arrangement, approval was given for a United Airlines – Lufthansa pairing, and shortly thereafter British Airways bought into USAir for $400 million and began code sharing. Although these arrange­ments constituted, in many cases, a deception to the flying public, they were actually a first step in the globalization of the world air transportation market.

Airline alliances are an evolutionary devel­opment of code sharing. Beginning with code­sharing arrangements domestically and then internationally, alliances between domestic and foreign airlines have blossomed since the first group, Star Alliance, was founded in 1997. This alliance was followed by two others, One – World and SkyTeam, in 1999 and 2000, respec­tively. These antitrust immunized arrangements allow the alliance partners to provide a seamless travel experience as if there were a single carrier involved, to include benefits such as coordinated schedules at hubs to expedite interline trans­fers, integrated frequent flyer programs, and bag­gage check throughs. These alliances have been greatly facilitated by “Open Skies” treaties.

International alliances and Open Skies trea­ties, as part of global deregulation, will be further discussed in Part VI.

Led by Southwest Airlines, a class of new entrant discount airline began entering the industry shortly

Source: GAO review of airline Web Sites and interviews with airline officials.

aAlaska Airlines does not charge for the first 3 checked bags for trips wholly within the state of Alaska.

bSpirit revised its checked baggage fee for travel on or after August 1, 2010 to $25 for each of the first two bags, and $85 for each of the 3rd, 4th and 5th bags.

‘United also offers a $249 annual fee to check one or two bags per flight without charge.

TABLE 35-3 Domestic Checked Baggage Fees of 17 U. S. Airlines as of July 1, 2010

after 1978. Their distinguishing characteristic has been to provide a no frills, basic transportation service at the cheapest fare possible. They have sought to do this by concentrated efforts to reduce their operating and marketing costs by various means and practices uncommon in the traditional airline business. Primary among these airlines cur­rently are Southwest, JetBlue, AirTran (prior to merger with Southwest), Spirit, Frontier, Allegiant Air, Sun Country Airlines, and Virgin America.

Contrary to most airlines and to emerging trends, Southwest does not charge for baggage. It is also contrarian by the fact that it has never furloughed any employees and has never asked its labor workforce for wage concessions. It has, therefore, a high wage structure compared to other airlines. It has been able to maintain consistent profitability through the utilization of the various efficiencies discussed above. As the unit cost gap between the new legacy carriers and Southwest and the other LCCs narrows, it will be interesting to see how Southwest, in particular, is able to con­tinue its labor practices into the future competition.

The evolution of Southwest is further marked by its purchase of AirTran in 2011. AirTran has service to Mexico and the Caribbean, so part of the process of combining operations and expanding their route systems will involve

Southwest becoming an international carrier. This is far removed from the original discount carrier concept that Southwest pioneered and then carefully honed. In the process Southwest is becoming increasingly larger; as of 2102 it operated scheduled service to destinations in 42 states. Its size, number of enplanements (it carries more passengers than any domestic airline), and increased number of destinations, has caused it to change from a primarily point-to-point airline to one that must facilitate connections.

It now practices the “rolling hub” concept, which schedules a majority of flights into cer­tain designated airports for connection purposes, but it avoids arrival “banks” of aircraft at the same time to lessen congestion, rather schedul­ing arrivals over longer periods of time. With Phoenix having 181 daily departures, you might say that this is Southwest’s largest rolling hub, but it also has extensive departures from Las Vegas, Baltimore-Washington, Houston, Chi­cago-Midway, and many others. The AirTran merger will carry it into Atlanta in a big way.

Southwest pioneered the Internet reservation system in the 1990s and in the process personalized its service, made it transparent and readily accessi­ble, and saved a lot of money. Now, with its excur­sions into international passenger service (which is more lucrative than domestic service), it has partnered with a European global distribution firm known as Amadeus, which is seen as a major move toward transforming itself from a low-cost domes­tic carrier into a large airline in the global airline industry, probably expanding into South America.

The other primarily notable LCC is Jet­Blue Airways which, while still classified as a low-cost carrier, differs significantly from the Southwest model. JetBlue, for instance, began operations in 2000 at John F. Kennedy Interna­tional airport, a busy international hub centered in the most congested area of the country. It had to have slots to operate (which it got from the FAA) and it flew into other large airports, originally serving the east coast of the United States and then spreading across the country and internationally to Puerto Rico and 11 countries in the Caribbean and Latin America. While offering services at a discounted price, it differentiated itself by offering amenities like leather seats and DirecTV at every seat, and a personalized cus­tomer experience that has resulted in high satis­faction and a loyal customer base.

JetBlue sells only electronic tickets, primarily through its website. So far its workforce is entirely nonunion, so it has flexible work rules and effec­tively uses part-time employees. Its relatively new fleet consists entirely of two types of airplanes, the Airbus 320 and the Embraer 190. JetBlue car­ries high debt due to new aircraft acquisition, on a debt-to-value ratio between 65 and 75 percent, compared to Southwest’s 20-40 percent.

The company has a marketing program that is innovative yet inexpensive, using social media such as Facebook and YouTube at very little cost.

he concept of international air transportation emerged almost immediately with powered flight itself. Flight in lighter-than-air craft had been an international affair from the start. As the reality of powered flight neared, activity in both North America and Europe proceeded simulta­neously. After the Wright brothers’ success in 1903, Europeans immediately followed, develop­ing their own brands and models of airplanes.

International flight in heavier-than-air machines first occurred on July 25, 1909, when Louis Bleriot flew his monoplane across the Eng­lish Channel from France to England. William Boeing was carrying airmail between Seattle and Vancouver in his Boeing В-IE seaplane in 1919 under agreement with both the United States and Canada. The International Air Traffic Association was organized in 1919 by six Euro­pean air transport companies. It was obvious that mere boundaries could not contain the airplane and those who would use it in commerce. Still, under international law, borders could not be transcended with impunity, and it was clear early on that some kind of structure would have to be put in place to deal with the interaction between peoples of different cultures and different laws.

International Aviation Relations

Beginning in 1910 in Paris, international con­ferences between nations, attended by their appointed representatives, convened for the pur­pose of discussing and resolving issues related to international civil aviation. Representatives from 19 European countries assembled that year in a meeting, now known as the Paris Confer­ence, to consider the legal and practical requisites for international air commerce. Although little was immediately accomplished, a start had been made, and much of the work of that first confer­ence resurfaced in the conferences of the future.

It is important to note the international legal distinction between the words conference and convention. A convention, as used in interna­tional civil aviation, means an agreement between nations, not yet rising to the status of a treaty, the latter of which only occurs upon ratification by the signatory nations. The word conference is used to describe the assembly or gathering where a convention might be agreed on. A protocol is a major amendment to the regulations of the con­vention. An amendment is a minor change in the regulations enforced by the convention.

In 1919, after World War I, representa­tives of the victorious nations, as well as Brazil and Cuba, adopted the Paris Convention, which established for the first time several important foundations for civil aviation. First, the Conven­tion recognized that each nation has sovereignty over its own airspace, including its territories and colonies. Second, it followed the maritime law principle that each aircraft must have a national registration. Third, it established certain basic rules regarding the airworthiness of aircraft. Fourth, it adopted rules regarding the certifica­tion of pilots. Although the United States signed the Convention, it was not ratified. It would, however, become a model for the later enactment of statutes in the United States regarding the same subject matters.

In 1926, representatives from countries left out of the Paris meeting in 1919 adopted the Madrid Convention, which basically was the same agreement adopted in Paris in 1919. This agreement would have no substantial effect on later agreements in the field of civil aviation.

The Havana Convention of 1928 was an agreement between nations of the Western Hemi­sphere, and grew out of the Pan American Con­ference held in Santiago, Chile, in 1923. The provisions of this Convention were similar to those of the Paris Convention, but due to varia­tions between the two, this Convention caused some commercial and operating uncertainties in the international community until the differences were finally resolved in 1944 at the Chicago Convention.

A cornerstone of the dream of a unified Europe was that a reliable, common transportation sys­tem exist for the moving of people and goods. The Treaty of Rome incorporated this realiza­tion into Articles 85 and 86, which required the implementation of a common transport policy within the Community. Nevertheless, when the Council in 1962 adopted Regulation 17, which implemented those provisions of the Treaty, both air and sea transport were exempted.

The EC went further in 1968 and adopted a broad transportation policy applicable to commercial rail, road, and inland waterways, but not to sea and air transport. Air transporta­tion policy within the EC was a difficult issue since each of the member states had, since the Chicago Convention of 1944, regularly entered into bilateral agreements with other countries around the world. In addition, the airlines of Europe were heavily subsidized by their separate governments. They were gen­erally understood to be and were treated as public utilities, and were considered part and parcel of the national image projected by the government. There was, therefore, very little progress made in the area of air transportation policy prior to 1986.

The Treaty of Rome also incorporated into Articles 85 and 86 specific provisions prohib­iting anticompetitive activities and policies in the field of transportation by Member States. It was realized that any true integration of Euro­pean economies would be impossible unless and until barriers to the smooth flow of commerce between them were removed.

By the middle of the 1980s, the competition mles of the Treaty of Rome had been applied to other forms of transportation and to virtually all other areas of commerce. Within the international aviation community, pressure had been building for some time to apply these rules to commercial aviation. The fact was that commercial aviation in the European Community had been left out of the integration that had proceeded with all other forms of commerce. At the same time, the Community found it hard to ignore the competitive effects of deregulation in the United States as U. S. airlines adopted policies and procedures in the running of their companies that produced more efficient oper­ations, reduced overhead, and allowed reduced rates and fares. While some of the harsher realities of deregulation that had occurred in the United States were closely evaluated in Europe, it was realized by all concerned that Europe was going to have to compete with these American airlines on the international scene sooner or later. Next, we will look at the effect that American deregulation had on the European Union.

Endnotes

1. http://www. loc. gov/exhibits/marshall/m9.html.

2. http://www. loc. gov/exhibits/marshall/ml2.html.

3. France, Luxembourg, Italy, West Germany, Belgium, and the Netherlands.

4. Tom Reid, Washington Post.

5. In addition to the Six, there now were Ireland, Greece, Denmark, the United Kingdom, Spain, and Portugal.

6. Cyprus, Czech Republic, Estonia, Hungary, Latvia, Lithuania, Malta, Poland, Slovakia, and Slovenia.

Before October 4, 1957, humankind had always conducted its affairs below this boundary. On that date, the Space Age began with the orbit­ing of the artificial earth satellite known as “Sputnik,” which was launched by the Soviet Union (Union of Soviet Socialist Republics, or U. S.S. R.) on a military rocket. This accomplish­ment, while heralded by the scientific commu­nity, caused considerable distress in the nations of the West.

After World War II, the Soviet Union had asserted dominion over the countries of Eastern

Europe, and it was the titular head of the Com­munist World. The People’s Republic of China, the name of the communist government that controlled that country beginning in 1949, and the People’s Republic of North Korea also fell into this camp. Communist-controlled gov­ernments, considered by the West to be bent on world domination, extended from North­ern Europe to the Pacific Ocean. The hostile relationship that emerged after World War II between the nations of the West and the Com­munist Bloc countries had been termed the “Cold War” by Winston Churchill in 1948, but there had been a shooting war on the Korean Peninsula between these factions from 1950 to 1953, and millions of people, both civilians and combatants, had died.

The Soviet Union had perfected nuclear weapon capability well before 1957, and with the launch of Sputnik, it was clear that the U. S.S. R. now had the capability to deliver these weapons on intercontinental ballistic missiles. Now also, for the first time since Roman law had estab­lished that national sovereignty extended from the ground upward to infinity, the sovereign skies of the Western countries were being violated every 90 minutes by the unauthorized passage overhead of the Russian satellite. Its “beeping” radio signal every few seconds only punctuated their helplessness.

The geopolitical contest between the West­ern powers and the Communist Bloc countries was one of brutal competition, and it was con­sidered a philosophical, social and, if necessary, a military fight to the death. But in the midst of this perilous world scene, there was some precedent for cooperation and good will among nations, based on scientific inquiry. Worldwide cooperative endeavors known as the International Polar Year in 1884, the Second International Polar Year in 1934, and the International Geo­physical Year beginning in 1957 stood as hope­ful examples of the advancement of humankind through peaceful cooperation.

People worried which way the Space Age would take them.

On January 18, 2006, NASA announced a new program to encourage the development of new spacecraft and launch systems designed to be able to supply the delivery of crew and cargo to the International Space Station. This need, of course, is due to the cancellation of the Shuttle program, which formerly performed that func­tion, among others.

The COTS program anticipates an extra dimension of precision needed by participants since delivery to the ISS requires exact orbit inser­tion, rendezvous, and docking with or proximity to the ISS or other spacecraft. The program includes the award of financial contributions and the trans­fer of proprietary NASA technical data to assist in the development of the participants’ vehicles.

More than 20 companies submitted propos­als under the COTS program in March 2006 and an additional seven by November 2007. The primary recipients of COTS awards have been Space Exploration Technologies Corporation (Space X) and Orbital Sciences Corporation. Space X has achieved success in reaching its milestones under the program (see below) and has received some $500 million from NASA.

When technological advances in the railroad industry introduced the diesel locomotive to ren­der obsolete the steam locomotive, and with it the firemen who had been necessary to stoke the steam locomotive’s fireboxes, the unions successfully fought the railroads’ attempts to eliminate the firemen’s position. The firemen thenceforth sat in the engine with little or nothing to do and were paid their regular wage. The name given to this development was “feather-bedding,” and it effectively reduced the productivity gains that diesel technology had produced.

When the DC-9 and the Boeing 737 were introduced into the airline fleet in the 1960s, the FAA certified these new types for operation with two-pilot crews. ALPA adopted a hard stance against the FAA certification on the 737, and refused to fly the aircraft with a two-pilot crew. United was originally the largest purchaser of the 737, and to avoid a pilot strike during the regu­lated 1960s, United agreed to binding arbitration to resolve the issue notwithstanding the FAA certification. In spite of the FAA certification and the proven experience of other airlines, like Lufthansa and Piedmont, that were flying the 737 with two-pilot crews with spotless safety records, the arbitration panel surprisingly ruled that safety concerns mandated that the United 737s be oper­ated with three-pilot crews.

ALPA’s stance was now further hardened and extended to the upcoming new Boeing types, the 757 and 767. At ALPA’s National Convention in 1980, the delegates voted for a nationwide strike by March 1, 1981, if the crew-size issue on the new aircraft types was not resolved in favor of a three-pilot crew by that date. Such a strike would be a blatant viola­tion of the provisions of the RLA, as ALPA well knew, and as the strike date approached, ALPA pressed for the appointment of a Presidential Task Force to review the FAA’s prior certifica­tions. In July 1981, the Task Force reported its findings that safety concerns did not justify the use of three-pilot crews on the new types of air­craft under consideration.

Prior to the publication of the Task Force report, United had concluded that its short-haul routes serviced by the three-man crewed 737 would have to be discontinued or severely cut back as too costly, with significant pilot fur­loughs. Although United had reported a profit in

1978 of $296 million, the subsequent years of

1979 and 1980 resulted in losses of $235 million and $65 million, respectively. In a first-of-its – kind turnabout, ALPA under these circumstances reversed its position on the crew size issue and announced that it would accede to the findings of the Task Force. Reminiscent of the days of old, however, ALPA did extract a concession from United, namely, that the airline would agree never to form a startup, nonunion subsidiary like New York Air.