South-Western College Publishing - Economics  
Air Fares Have Difficulty Taking Off
Subject Comparative Statics
Topic Equilibrium
Key Words Airfares, Strike, Yield, Revenue, Prices, Net Income, Demand, Capacity, Loss.
News Story

Industry analysts are warning that U.S. airlines will have difficulty raising airfares in 1999. This follows a year when the airlines attempted to increase fares 16 times but had to retreat due to customer resistance. Northwest, in particular, which had a 15-day pilots' strike, was unwilling to match the increases. As a result, Delta's yield -- the average passenger revenue per mile -- fell from 12.97 cents to 12.63 cents in the last quarter of 1998 compared to a year earlier. Northwest experienced a reduction from 12.03 cents to 10.92 cents. Only cost-cutting and lower fuel prices allowed Delta's net income to increase.

Although the airlines have been carrying record numbers of passengers for five years, domestic demand is said to be soft. It is expected that industry capacity will increase 5.4 percent in 1999. Airlines that are expanding particularly fast are Southwest, Continental, US Airways, and Northwest. Also, Northwest, which suffered a net loss in the last quarter of 1998, is unlikely to increase fares in order to regain customers and net income.

(Updated March 1, 1999)

1. Draw a supply and demand diagram for the air travel market showing the yield (price) on the vertical axis and the number of passenger miles flown on the horizontal axis. In 1998, recall that the airlines cut costs. Show what happened to the equilibrium yield and the number of miles flown as a result.
2. Draw another supply and demand diagram of the market for air travel. In 1998, the Northwest pilots' strike took place.
  a) How was the supply curve affected? Why?
  b) How was the demand curve affected? Why? Why might the change in demand have been greater than the change in supply?
  c) Illustrate the effect of the strike on the equilibrium yield and miles flown.
3. Draw a third supply and demand diagram of the air travel market. In 1999, the number of passenger jets is expected to grow by over 5 percent. What do you expect to happen to equilibrium yields and miles flown? Illustrate on your diagram.
Source David Field, "Airline growth plans will keep fares down", USA Today, January 20, 1999.

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