Lindamood_Market Concentration in the Airline Industry

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Embry-Riddle Aeronautical University Research Paper, Final Draft Greg Lindamood College of Business, Embry-Riddle Aeronautical University ECON 210 Microeconomics Professor Marlo Chavarria May 15, 2023

Market Concentration and Mergers in the Airline Industry Airline mergers have become increasingly common in the airline industry. An airline merger occurs when two or more airlines combine into a single entity. These mergers can be horizontal, where airlines of similar size and business models merge, or vertical, where airlines of different stages of the supply chain merge. The airline industry is highly competitive, with airlines constantly seeking ways to differentiate themselves from their rivals. Pricing strategies are a crucial component of this competition, with airlines using various methods to set prices in response to market conditions. This paper aims to explore the impact of airline mergers on competition, pricing strategies in the airline industry, and measures that can be taken to ensure fair competition and prevent market power abuse. Literature Review The airline industry is a significant contributor to the global economy, generating over $700 billion in revenue in 2019. However, it is a highly competitive and volatile industry, with airlines constantly seeking ways to differentiate themselves from their rivals. Pricing strategies are a crucial component of this competition, with airlines using various methods to set prices in response to market conditions. The airline industry is characterized by an oligopolistic market structure, with a small number of large firms dominating the market. This market structure makes the industry particularly susceptible to market power abuse, which can harm consumers and reduce competition.

One of the most significant developments in the airline industry in recent years has been the increasing trend toward airline mergers. These mergers can be horizontal, where airlines of similar size and business models merge, or vertical, where airlines of different stages of the supply chain merge. While airline mergers can lead to increased efficiencies and lower costs for consumers, they can also lead to reduced competition and higher prices. Economic Analysis The impact of airline mergers on competition and pricing strategies in the airline industry can be analyzed using the tools developed in microeconomics. Graphical analysis can be used to demonstrate how changes in market structure can affect market outcomes such as prices and quantities. For example, a merger between two airlines can lead to increased market concentration, resulting in higher prices and reduced consumer welfare. The following graph illustrates the impact of a merger on market concentration in Chinese Airline mergers: Figure 1: ⡥ ICAO (2022)

As shown in the graph, a merger between the airlines can result in a significant increase in market concentration, and can also be measured by the Herfindahl-Hirschman Index (HHI). An increase in market concentration can lead to reduced competition, resulting in higher prices and lower output. However, a merger can also lead to increased efficiencies, resulting in lower costs and prices for consumers. The following graph illustrates the impact of a merger on costs: Figure 2: ⡥ ICAO (2020) As shown in the graph, a merger can result in lower costs for the merged airline, as a result of increased efficiencies such as economies of scale. Lower costs can result in lower prices for consumers, leading to increased consumer welfare. Covid 19 Impact on Airline Mergers in the Industry The COVID-19 pandemic has had a significant impact on the airline industry, including mergers and acquisitions (ICAO, 2022). Before the pandemic, there was a trend toward consolidation in the industry, with several major mergers taking place in recent years. However, the pandemic has caused a sharp decline in air travel demand, leading to significant financial losses for airlines (ACI, 2020).

According to ACI (2020), “As reported in Forbes magazine, a consumer confidence survey conducted by IATA found that only 14% of passengers said they would fly right away. (…) National governments will likely progress gradually from permitting non-essential domestic travel and reviewing advice against international travel towards coordinated reciprocal arrangements to reassure smooth flow of passengers in both directions, as illustrated below.” Figure 3: © ACI (2020) As a result, many airlines are now focused on survival and recovery, rather than mergers and acquisitions. The financial uncertainty and volatility in the industry have made it difficult for airlines to pursue mergers or acquisitions, as it is unclear what the long-term financial outlook will be. Additionally, the pandemic has created new challenges for airlines, such as navigating travel restrictions and changing consumer preferences. As a result, many airlines are focused on adapting their business models and operations to the new normal, rather than pursuing mergers or acquisitions.

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