Airline Cartel Criticized: Being United is Un-American
Subject Assumptions, conduct, cartels
Topic Oligopoly
Key Words Market, innovations, fare structures, competing, collaborating, take over, cartel, airfares, cost structures, assets
News Story

United Airlines and American Airlines are the two biggest airlines in the U.S. They vie for the number one position in the market. American's acquisition of TWA this year made it the largest airline company. Between them, the two giants have approximately 40 percent of the market. They are archrivals in the transcontinental market. They are the only two U.S. airlines permitted to land at Heathrow Airport in London. Innovations are matched quickly, the airlines competing on factors such as frequent flyer programs, simplified fare structures, legroom, and routes, such as to Latin America.

But are they really competing? In some areas they are collaborating. When a flight is canceled, passengers are booked on the other company's flights. Now, United is bidding to take over US Airways, and sell some assets to American. They would jointly operate the Boston-New York-Washington D.C. shuttle. Continental Airlines' CEO has told the Senate Judiciary Committee, "The conspiracy by United and American to reach détente, create a cartel and control the U.S. domestic market will be so devastating that it should be disapproved outright." Corporate travel managers expect airfares to rise if the takeover is approved.

United and American disagree. They have higher cost structures than discounters such as Southwest and smaller carriers such as America West and Air Tran. As a result, they need to acquire other airlines to expand their network, appeal to more customers, and make the most use of their expensive assets.

(Updated August 1, 2001)

1. How do you know from the news story that the airline market is oligopolistic? Refer to the assumptions of oligopoly.
2. The news story reveals that United and American compete on occasions and appear to collude on others.
a) What characteristics of the market make collusion feasible?
b) Why is any collusion fragile?
3. Assume for the purpose of this question that American and United are colluding in the sharing of US Airways' East Coast shuttle, and would maximize joint profits, if the take over were approved.
a) Draw a diagram showing the joint profit maximizing equilibrium of the two airlines. Include the joint demand and marginal revenue curves, and the average total and marginal cost curves.
b) With reference to your diagram, explain why airfares would be higher than in a competitive oligopoly.
4. What is the legal status of cartels in the U.S.? Explain.
Source Chris Woodyard, "Is American-United rivalry too friendly?" USA Today, June 27, 2001.

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