Airline deregulation has crashed


STANDARD and Poors has officially downgraded the bonds of all the major U.S. airlines to junk-bond status. The airlines lost a cool $10 billion in the past three years, despite a reduction in fuel costs, labor costs and interest rates.

The Clinton administration will shortly appoint a commission on the future of the airline and aircraft industries, and not a moment too soon. It might begin by reviewing the experiment in airline deregulation.

Thanks to deregulation, the industry has evolved into a disastrous blend of collusion and ruinous competition. There is enough collusion to partly rig prices, but not enough for the airlines to earn a reliable profit. It is hard to imagine a worse combination.

When the airlines were deregulated, sponsors of the idea predicted that new airlines would give consumers greater choice and force down prices. With lower prices, more people could afford to fly, which would allow the industry to buy more fuel-efficient planes, fly fuller planes, and in turn lower prices even further.

That Eden lasted less than half a decade. By the mid-1980s, the big airlines were using computers and market power to selectively undercut the upstarts, who were forced into bankruptcy or shotgun mergers.

Today, all the airlines save little Southwest are losing money. Yet consumers rightly feel gouged. How can both things be true?

For one thing, deregulation has led to a widespread gray market in fares. The airlines gouge wherever they can, but quietly give big customers unpublished bargains not available to the general public.

On a recent flight, I booked well in advance but still had to pay $602.50. My seatmate was an employee of a large corporation which had negotiated bulk rates of just over $300 for the same round trip.

Note that this result is exactly the opposite of the one promised when fares were deregulated. As you may recall, sponsors confidently forecast that "non-discretionary" business travelers (who left on short notice, remember?) would pay full fare, while recreational travelers, who could plan ahead, would get bargains. Today, there are still occasional bargains if you plan far ahead and risk penalties, but mostly it is the lone traveler who subsidizes the corporate one, not vice versa.

In the weird blend of price-cutting and price-gouging, the airlines are ultimately cutting their own throats: The sheer unpredictability of fares and the exorbitant full-fare prices are causing many travelers simply to fly less.

By coincidence, just as airline bonds were being downgraded to junk, the Transportation Department was giving USAir and British Air the right to operate their reservation systems as if they were one airline. In return, British Air will invest $300 million in the ailing American company.

The USAir-British Air deal has been hailed in some quarters as the first step toward global deregulation and another victory for freer markets. In reality, it is a double failure. First, it is yet another failure of domestic deregulation. USAir needs a foreign bailout mainly because it is losing so much money thanks to deregulation.

The approval, which is conditional for one year, is also a failure of nerve when it comes to U.S. diplomacy. The British government rigidly limits landing rights at London's Heathrow and other domestic airports. Any extension of the deal beyond next year should depend on whether real progress is achieved in opening Britain's skies to American carriers.

It is appropriate that the administration's commission will review policy on both airlines and aircraft, for the two are closely linked. Aircraft producers are having to lay off workers mainly because money-losing airlines cannot afford to buy planes.

In Palmdale, in the California desert east of Los Angeles, is a mothballed fleet of hundreds of jetliners no longer needed by the airlines, for lack of customers. This monument to deregulation is testimony to the immense glut of planes which in turn is depressing the aircraft industry.

In the bad old days of regulation, airlines knew that they could count on a modest profit; travelers could count on predictable ticket prices. Government policy acknowledged the reality that an airline is a public conveyance, not a casino.

In that era, the fuel-adjusted cost of flying actually declined over time slightly faster than it has since deregulation, because the airlines could keep buying more efficient planes. And despite price-regulation, there was a measure of competition: Airlines competed for customer loyalty based on service. (Remember service?)

Under a new system of regulation, airlines could compete on the basis of price, within limits, but would not be permitted the current crazy quilt that makes it cheaper to fly from Washington to Los Angeles than to Boston or to fly round-trip to some destinations than one-way. Nor could they resort to the predatory pricing strategies that have put genuine innovators out of business.

The lingering support for deregulation among economists and politicians represents a victory of assumption over evidence. In naming its commission, the administration needs to reach outside the usual pool of cheerleaders for free markets and appoint skeptics who will review the entire experiment with an open mind.

Robert Kuttner writes a column on economic matters.

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