Discussion Paper

M4 Airline Economics-2

Complete the following content for this lesson topic:  

This module provides and overview of how economics and economic models can be used to examine decision making in the airline industry. If it has been a while since you had microeconomics or if you feel uncertain about applying economic methides you might want to review some material from a priciples of economics text or a managerial economics textbook; just about any book and edition would work for reference material.  Another good source of basic economic information is the Handbook that accompanies the National Science Foundation  (NSF) funded EconPort (Links to an external site.) that was developed at Georgia State University primarily as an experimental economics tool for game theory applications. From the home page (Welcome to EconPort!) note the content sections, especially Handbook, Cataloged Resources and Glossary. For reviewing basic economics and also a different discussion on market structures that complements what you will read in Wensveen (2016) chapter 7 you will use the Handbook content section. Once the Handbook section is opened, you will see various topics: under Principles of Microeconomics you should review the material in the Demand, Supply, Market Equilibrium, and Elasticities topic areas. In the Intermediate and Advanced Topics area you should review Industrial Organization and within that section everything under Market Structure. You might also want to take a look at the Game Theory topic and look through the Beginner's Guide that will help you understand the Boeing/Airbus video:

Game Theory and strategic behavior:  Boeing Airbus and the Prisoner's Dilemm (Links to an external site.) a (7m).  It is also interesting to contemplate this new announcement about  United Airlines (Links to an external site.) .

Here is a pdf that contains a short easy to read summary of airline oligopoly from the St. Louis FED.   the-economics-of-flying-how-competitive-are-the-friendly-skies_SE.pdf    download 

Watch this video regarding aircraft economics and analyze the United Airlines decision to purchase supersonic aircraft:

Why Planes Don't Fly Faster - YouTube (Links to an external site.)

Most scheduled carriers, major passenger airlines, regional passenger airlines, and cargo carriers are described by the oligopoly market structure. The large aircraft manufacturers, Boeing and Airbus are a duopoly as are the two regional jet aircraft manufacturers Bombardier and Embraer, although recent moves in that segment with Bombardier selling its CJR series to Japanese manufacturer Mitsubishi and another series to Airbus (now the A220) Embraer is the dominant firm in the regional jet aircraft market. Boeing and Embraer have had merger discussions but to date it is still independent.  General and business aviation aircraft manufacturers are also an oligopoly except for the light sport aircraft and experimental aircraft markets that are monopolistically competitive.  Fixed based operators (FBOs) across the U.S. are, for the most part characterized by monopolistic competition as they are generally small businesses with local operations; but there are some large scale national fixed base operators that are oligopolistic in structure.

All markets are characterized by a demand side and a supply side that interact to establish a product price. Aviation markets are not competitive in the sense that supply and demand independently to set a price and then both consumers and producers must adjust their decision making to that market price. Aviation markets have elements of a monopoly where firms have market power and that is defined as the ability of the firm to set price as opposed to a market determined price. Firms set price either directly or indirectly through the quantity of the product that they supply. This result means that price doesn't equal the marginal cost of production as it would in a competitive market but that the firm can control price and move up the supply curve to where price is greater than marginal cost and, depending on the firms average cost and demand the company can earn more than a normal profit. Recall that a normal profit is where the firm covers all of its cost including implicit or opportunity costs that include a required return on capital investment to shareholders. Economic profits or profits above normal can only be had over the long run in oligopoly and monopoly markets because of barriers to entry that can serve to protect economic profitability. Monopolistically competitive firms can earn economic profits in the short run but because there are no barriers to entry in that market structure economic profitability will attract firms and the new supply will eventually erode profits back to normal. So while airlines can be economically profitable they are often not due to demand side issues and supply side cost pressure. Airlines are cyclical and travel demand varies with the business cycle so profits can be earned during economic expansions but losses accrue during recessions. Air cargo carriers have an element of cyclical demand variation as well but as can be observed over the last pandemic induced recession air cargo carriers did quite well while the passenger carriers did poorly. Recent changes do find the passenger carriers focused more on cargo as the an aircraft is a traveling metal tube divided in two with the upper portion carrying people and the lower part of the aircraft carrying cargo.

To summarize an oligopoly is a market where their are few sellers, few meaning that firms recognize their interdependence and rapidly observe competitive moves by other firms (increases in advertising, new passenger policies, price changes, etc.) and then respond with competitive changes of their own so as not lose market share. This strategic behavior results in an environment that can not be modeled with a single framework but requires dynamic assessment as firms change how they respond to one another competitively.  This is why there are many game theory assessments of aviation market behavior and the importance of other more qualitative assessments of market structure in the form of Michael Porter's Competitive Forces model that we will look at in a future module. Other structural characteristics include barriers to entry that can be natural or manufactured. Barriers prevent new supply from entering the market and putting downward pressure on price and profitability. An actual definition of how to determine the extent of a market and what firms are actually competing has been developed by the U.S. Department of Justice (DoJ) and the Federal Trade Commission (FTC) to assess the competitive effects from horizontal mergers (mergers between competing firms) and the potential for adverse impacts on consumers. See   Department of Justice Horizontal Merger Guidelines (Links to an external site.)

especially sections 1.11, 1.41 and 1.5. Note that you download a PDF file of the Guidelines if you wish.  You might also note that the definition of firms in competition is based on a cross price elasticity of demand where the quantity demanded of one product responds to a price change in another, similar product in a direct (positive) way see EconPort where products are substitutes. While you might notice some discussions of price discrimination in the document, this concept will be important later when we look at pricing issues. To price discriminate a firm must be able to segment its market into subsets that have differing price elasticities of demand or, in other words, groups that respond to price changes differently, for example business and non-business passengers have different price sensitivity.  

M4 Assignments

Complete the following assignments for Module 4:

Read Chapter 7, Economic Characteristics of the Airlines in the Wensveen (2016) text.

 

There is a not a paper due this week but you should develop content for the following discussion questions that will be included in the paper requirements for the paper at the end of next weeks. module.

1. Why is the airline industry considered an oligopoly? What are some of the current barriers in the market today and compare these to the barriers (both entry and exit) that existed prior to deregulation. How has the structure of the industry changed since deregulation. Discuss how the prisoners dilemma can describe airline behavior especially when it is repeated on a regular basis. 

2.  Use some data from the previous module and choose market shares for airlines for two different potential merger combinations and calculate if they would substantially reduce competition and be challenged by the Justice Department according to their published guidelines. What are some potential adverse impacts from horizontal mergers.

3. Develop an HHI for the air cargo industry and discuss the potential for a merger between UPS and a smaller carrier. Air cargo might well be defined by the dominant firm oligopoly model. What are the characteristics of this model and discuss how it might fit the air cargo industry.

4. What is load factor and explain its relationship with unit costs. Why have load factors increased in recent years and how is high load factor related to overbooking?  What are traffic peaks and valleys and how do they impact the airline?

5. Discuss the United Airlines and  Boom Supersonic (Links to an external site.)  decisions to bring supersonic flight back to the industry given the information in the Why Airplanes Don't Fly Faster video.

Industry Data Assignment (Use the data you collect to illustrate your discussions)

1. Find an appropriate data source and update the load factor table (Table7.4) in the text. Develop a diagram using excel for the load factor data.

2. Reproduce the data in Table 7-1 for the airlines for the years 2014 through most recent available. Collect data for the items Operating Revenue, Operating Expenses, Fuel and Labor only.

3. Develop an updated Table 7.2 for the variables Cargo RTM, RPM, ASM.

M5 Lesson Topic 1

You will complete the following content for this lesson topic:  

· Read the Following Chapters in the Wensveen textbook:

· Chapter 8, Airline Management and Organization

· Chapter 10, Airline Passenger Marketing

· Watch the following video (16m43s) that provides more detail about the canvas business model. You will be using this model to develop an aviation oriented business model for a firm, real or imaginary in an industry segment that you will select to focus on in the course:

· Business Model Canvas Explained with Examples (Links to an external site.)

 For most of you the topics discussed in the chapters will be familiar; management functions and the marketing mix should be a part of your lexicon by now. What will be new is the specific areas that are unique to the airlines (both passenger and cargo). You might find the Canvas business model as new material but time spent on that will be useful as it is a convenient way to lay out all the functional areas that require decision making and then synthesize everything into revenue, cost and the difference between them which is profit, the primary goal of the enterprise. 

Airline Operations Centers

Delta (1m, 28s) https://www.youtube.com/watch?v=VhzCbnfJWBI

Envoy and American (9m 21s)  https://www.youtube.com/watch?v=SzifsS3Hesg (Links to an external site.)

United/ABC News 2016 (7m 30s) https://abcnews.go.com/Travel/video/inside-united-airlines-operations-center-amid-holiday-travel-44348132

 

Here are some important takeaways from Chapter 8

Management Functions

Planning

Policy and Procedures as Part of Planning: Every airline has a policy and procedure manual, usually prepared by the personnel department and containing major section pertaining to each of the administrations: A policy is a broadly stated course of action that employees should follow in making decisions A procedure is somewhat like a policy, but it specifies in more detail the kind of action required to handle a specific situation Rules or regulations indicate in very precise terms whether, in a specific situation, something is to be done or not done.

Organizing

Organizing involves the division of work among employees and the determination of how much authority each person will have Organizing may be defined as the process of logically grouping activities, delineating authority and responsibility, and establishing working relationships that enable the employees, and thus the entire unit, to work with maximum efficiency and effectiveness to: Provide supervision of all work with a maximum utilization of knowledge and experience to best advantage, Efficiently assign and schedule all work with the proper priority observed in projects to be accomplished, Provide a means whereby management can be kept informed of the efficiency and dispatch with which each particular unit is fulfilling its function, and Establish a sequence of importance in job classifications so that all employees can adequately judge the possibilities for advancement.

Staffing

Staffing involves stationing people to work in the positions provided for by the organizational structure It includes defining work force requirements for the job to be done, as well as inventorying, appraising, and selecting candidates for positions compensating employees; and training or otherwise developing both job candidates and current employees to accomplish their tasks effectively.

Directing

Directing is assigning tasks and instructing subordinates (team members today) on what to do and perhaps how to do it. 

Controlling

Controlling is the measuring and correcting of activities of subordinates (team members) to ensure that events conform to plans by: Setting performance standards for the work Comparing actual performance with the standard Taking corrective action to bring performance in line with the standard.

Delegation of Authority. Delegation of authority implies that the authority to make decisions should be pushed down to the lowest competent level of supervision Levels of Management. This principle holds that the number of levels of management in the company should be kept to a minimum to reduce complexity Clearly Defined Duties. Every job classification should be clearly defined so that it differs from and does not overlap with other job classifications.

Organizational Chart Content

Staff Departments: Staff departments include those areas that provide a service to the line departments The are primarily located at the carrier’s executive headquarters or at major regional offices Finance and Property Information Services Personnel Medical Legal Corporate Communications

Line Departments: Line departments are those administrations that are directly involved in producing and selling air transportation They include Flight Operations Engineering and Maintenance Marketing and Services

Flight Operations: The office of the senior vice-president of flight operations is responsible for Developing flight-operations policies Procedures and techniques to promote the safe efficient, and progressive operation of aircraft Flight operations must maintain the airline operating certificate in compliance with FAA regulations The administration is responsible for developing schedule patterns and procedures for the economic utilization of flight equipment and personnel In dispatching aircraft, airlines generally maintain a central control agency, sometimes referred to as system operations control (SOC), that coordinates flight operations, including airplane movements system wide. See the videos above.

Engineering and Maintenance: This department’s mission is to keep the company’s equipment in condition to provide safe and salable air transportation. There are different types of maintenance: Routine scheduled maintenance (such as airframe and engine checks) Non-routine maintenance (structural fatigue repair and corrosion control) Refurbishments (cabin upgrades and exterior painting) Modifications (passenger-to-freight conversions and hushkit installations). There are also different types of airframe checks: A-check. Roughly every 125 flight hours (two to three weeks), an amplified preflight visual inspection of the fuselage exterior, power plant, and certain readily accessible subsystems, including avionics (aviation electronics) and accessories, is conducted to ascertain the general condition of the aircraft B-check. Approximately every 750 flight hours (three to four months), workers conduct an open inspection of panels and cowlings, during which some preventive maintenance (exterior wash, engine oil spectroscopic analysis, and so on) is performed, oil filters are removed and checked, parts are lubricated as required, and the airframe is carefully examined. The B-check incorporates an A-check

Marketing and Services: This department is making decisions about marketing policy, as well as the daily administration of the organization It is usually one of the largest divisions, providing: Advertising Marketing Services Services Planning Sales Planning Sales and Services Food Service

The Flight – Servicing Passengers: The end product of marketing and services is serving customers’ needs The typical airline customer spends more time with the flight attendants than with any other employee group Thus, the flight attendants have much to do with how an airline’s customers feel about the carrier and whether they will fly that airline again in the future

 

Airline Passenger Marketing

United Guitar Fiasco

Video 1 (20.7m hits): https://www.youtube.com/watch?v=5YGc4zOqozo (Links to an external site.)

Video 2 (2.4m hits): https://www.youtube.com/watch?v=h-UoERHaSQg (Links to an external site.)

Video 3 (1.2m hits): https://www.youtube.com/watch?v=P45E0uGVyeg (Links to an external site.)     (1.2m hits)

United has also had several other issues associated with pet deaths and forcibly dragging a passenger off one of its aircraft.

Here is an assessment of airline customer experience and satisfaction efforts: Steimer (2018) (Links to an external site.)

It should also be noted that there are issues that arise between passengers that seems to have become more common since the pandemic, it was only a short time ago that a passenger dispute on a Southwest flight out of Dallas diverted to Pensacola due a smoldering cell phone broken during the altercation. A useful marketing planning tool for the airlines and any other industry for that matter is the  PEST  (Links to an external site.) model and its variants.

Probably one of the most important items in the marketing chapter is market segmentation by the airlines. Grouping customers into categories with differing price sensitivities is a very lucrative price strategy for the airlines. This will be discussed in more detail in the next module. In the meantime associate economic class with market segment and watch the following video:

Airline market segmentation: The Economics of Airline Class - YouTube (Links to an external site.)

M5 Assignments

Complete the following assignments for Module 5:

There is a paper due this week that contains requirements from last weeks module (Module 4) and from this week.

Module 4 Requirements (copied from last week)

1. Why is the airline industry considered an oligopoly? What are some of the current barriers in the market today and compare these to the barriers (both entry and exit) that existed prior to deregulation. How has the structure of the industry changed since deregulation. Discuss how the prisoners dilemma can describe airline behavior especially when it is repeated on a regular basis. 

2.  Use some data from the previous module and choose market shares for airlines for two different potential merger combinations and calculate if they would substantially reduce competition and be challenged by the Justice Department according to their published guidelines. What are some potential adverse impacts from horizontal mergers.

3. Develop an HHI for the air cargo industry and discuss the potential for a merger between UPS and a smaller carrier. Air cargo might well be defined by the dominant firm oligopoly model. What are the characteristics of this model and discuss how it might fit the air cargo industry.

4. What is load factor and explain its relationship with unit costs. Why have load factors increased in recent years and how is high load factor related to overbooking?  What are traffic peaks and valleys and how do they impact the airline?

5. Discuss the United Airlines and  Boom Supersonic (Links to an external site.)  decisions to bring supersonic flight back to the industry given the information in the Why Airplanes Don't Fly Faster video.

Industry Data Assignment (Use the data you collect to illustrate your discussions)

1. Find an appropriate data source and update the load factor table (Table7.4) in the text. Develop a diagram using excel for the load factor data.

2. Reproduce the data in Table 7-1 for the airlines for the years 2014 through most recent available. Collect data for the items Operating Revenue, Operating Expenses, Fuel and Labor only.

3. Develop an updated Table 7.2 for the variables Cargo RTM, RPM, ASM.

Model 5 Discussion Questions 

1. What is the Business Model Canvas? Be sure to describe its major components and how it encompasses the managerial functions described in Chapter 8.

2. Discuss successes and failures associated with passenger marketing and customer satisfaction  and experiences. What can the PEST approach to marketing due to help and how does the value proposition in the canvas business model help in this marketing problem. To what extent do you think the passenger airlines consider passengers as cargo?

3. Choose a major airline or cargo carrier and gather information about its organizational structure. Discuss similarities and differences with the material presented in Chapter 8. 

4. Define and discuss market segmentation in marketing and price discrimination in economics. Summarize what you learned from the economic class video with regard to market segments and their prices. 

 

Paper Information and Rubric

Discussion Paper Information

The topic for each paper/essay is given in the UWF ELearning Canvas site course content Module Assignments document. Also be aware that students in previous courses submitted similar but not exact essays in digital format and those essays are archived in a searchable database. Each essay currently received is compared with the database and Turnitin and a significant match will result in both the student whose original work it was and the one who submitted the essay being subjected to the university cheating policy. You  must also complete the plagiarism training in the course information.

General Paper/Essay Information

1. Your paper should be 15 pages or less of double spaced text in a 12 point font with a ragged right margin. Title page and references , and figures and graphs do not count.

2. Your paper should be a Microsoft Word Document. The filename should be: yourlastname.docx

3. Do not use wikepedia, investepedia, cliff notes, dictionaries, encyclopedias, etc. as sources if you do your grade will be reduced.

4. Your paper should have a title page that, in addition to the title (Use Paper1, Paper 2, etc. as the title), includes your name and email address.

5. Your paper  should cite material that you use in your text and have references.

6. The paper should not be copied text from other sources; it should be in your own words. Your report will be run through a plagiarism checker ( http://turnitin.com/static/plagiarism.html (Links to an external site.)Links to an external site. ).

7. If you require guidance on text organization and want a style guide to follow you should use the APA style guide ( http://apastyle.apa.org (Links to an external site.)Links to an external site. ). Please note that there is no need for an abstract or lists of tables and figures or a table of contents.

8. Each essay should be turned into the UWF eLearning assignment folder (dropbox) for that essay by the deadline.

9. Generally I take 10 days to grade your essay (The first grade will be sooner so that you can see that you are meeting expectations).

10. Your grade will be a numeric score. Generally if you get a 95 if everything was fine, that is you answered all the required questions in sufficient detail and correctly so that you get full credit (for an exceptional essay it is possible to earn a 100). If your score is anything less than a 95 then something was lacking: insufficinet detail, errors, no references and citations, required content left out etc. I do not reduce your score for style. If you want info about your score feel free to email me with questions and I will provide you with additional information about your work. You can also check out the rubric I use for grading

11. You can turn in essays late for reduced credit.