The US DOJ, various state attorneys general and the District of Columbia have filed challenging the American Airlines (AA)–US Airways (US) merger.  This news was not what was expected by industry followers.  The previous merger between Delta and Northwest went through without a hitch, followed by United and Continental and then Southwest and AirTran, all of which were approved. How is this merger any different?

It can’t be competing routes.  Delta and Northwest had 12 overlapping non-stop routes, United-Continental 11, and Southwest-AirTran 18 routes.  USAirways and American overlap on 12 – so that certainly can’t be the reason.  It appears that the DOJ has decided, after three mega-mergers, that a fourth will be anti-competitive and change the nature of the industry.

Up to now the US has been leading the airline industry in turning around its profitability.  This has been enabled by two key issues; consolidation and capacity discipline.   Capacity discipline has led to much higher load factors and, even with high , helped airlines improve their efficiencies.

The following chart illustrates the recent performance of this industry on two factors, yield and load factor.  Running an airline is a risky, perishable commodity  business, with cash flows easily interrupted by exogenous factors.  This industry has seen players routinely bankrupted, and needs either regulation or consolidation to endure.  Its history as a destroyer of capital means that the few survivors need to operate in a more rational way.  Ergo, consolidation and capacity discipline.

Addison_1If the AA/US merger is not approved, we will almost certainly see these two airlines struggle to attract traffic to the same extent as Delta, United and Southwest.  The airline business is volume driven, and the players each want the biggest slice of the pie.  Profitability comes from getting as many paying customers through the system as possible.  Domestically, without a merger, neither AA nor US can effectively compete with competition on a national scale for the lucrative business travel market.

Therefore one can understand the chagrin within the management teams at these two airlines. They are not going to accept the DOJ’s antitrust position without a fight.  American said it would “vigorously defend” the merger and the US Airways CEO said “we will fight them.” Bill Baer, the assistant attorney general in charge of the DOJ’s antitrust division, argued the merger lessens competition and results in higher fares and less service.  One has to ask, where was this view with the previous mergers?  It was plain as day that once one merger took place the others had to follow. Surely the DOJ has access to people who understand oligopoly economics.  The DOJ position is hard to defend.

As the chart above illustrates, US airline consolidation has provided greater financial stability. The most recent years show yields and load factors improving.  Yes fares are higher but the economy has not been strong – yet people are flying more every year.  And a more stable airline sector is going to create jobs, something the US economy dearly needs.

The concern with rising fares needs to be seen in context.  The US airline club, Airlines for America (), provides a useful historic view.  To keep it simple we selected the average fare in constant 2000 dollars. As A4A describes it, “From 1979 to 2012, the U.S. CPI rose from 72.6 to 229.594 or 216 percent.  That means that in constant Year 2000 dollars (in “real” terms), the average round-trip domestic fare fell from $441.69 in 1979 to $266.82 in 2012. Including reservation change fees and bag fees, the average round-trip domestic journey price fell from $442.88 in 1979 to $283.97 in 2012”.Addison_2When looking at the tradeoff in terms of public policy it appears to us that the airline industry deserves a break.  It has had to suffer tremendous capital destruction – both in financial terms and human terms.  Taking a job with an airline is not the attractive option it once was.  The US airline industry has been hampered with taxes unlike any other industry as well – politicians see as a well that never empties.  Much as airlines are an unending source of jokes, the reality is that this industry has been hammered for decades.

Public policy is not being served by denying the AA/US merger.  Fares would need rise by over 200% to get back to 1980 levels.  That is hardly a big fear. But there are thousands of people who could use a job.

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