Flying the Unfriendly Skies
Subject Comparisons with competition
Topic Monopoly, Oligopoly
Key Words Fares, low-price competitor, consolidator, service, contract
News Story

TWA has agreed to be purchased by American Airlines because of its poor financial situation. This threatens the low fares that currently exist on flights connecting through St. Louis, TWA's hub. One survey showed business airfares from St. Louis were 32 percent lower than the national average in November. The reason is partly that Southwest Airlines, a low-price competitor, serves 21 destinations from St. Louis. TWA also offers low fares through consolidators such as Lowestfare.com.

Although American says that it will increase service and maintain competitive fares out of St. Louis, industry expert Tom Parsons and others believe that it will raise fares and reduce service. The biggest increases are expected to be on routes that American and TWA dominate such as between St. Louis and Dallas and Chicago. American is also likely to withdraw from selling tickets through consolidators, and it may refuse to honor low-price contracts negotiated between TWA and companies that fly with the airline regularly.

(Updated February 1, 2001)

1. Draw a diagram of the market for air travel via St. Louis assuming that it is competitive. Show the demand and marginal revenue curves and the marginal and average cost curves assuming that the service is being provided at a loss. Mark the equilibrium price and output, and shade in the area representing the loss.
2. If the merger between TWA and American Airlines causes the airlines flying out of St. Louis to Dallas and Chicago to act as a joint-profit maximizing monopolist, what will happen to the equilibrium price and output, and the amount of profit? Illustrate. Explain what you have drawn.
3. Why are consumers likely to be worse off? Explain with reference to the a. Price b. Output c. Consumer surplus d. Deadweight loss
Source Salina Kahn, "Analysts say air merger will raise fares," USA Today, January 17, 2001.

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