testimony

 

Before The U.S. Department Of Transportation

Aviation In The 21st Century—Beyond Open Skies Ministerial

December 7, 1999

Secretary Slater, thank you for including the perspective of the corporate customer in this momentous gathering of the world’s aviation leaders to consider air transport public policy in the 21st century.  In my written statement, I would like to focus on global alliances.  My verbal presentation will expand upon the need to seek a more rational air transport trade regime between the EU and U.S., and the opportunity to use such a regime as a fulcrum for true global trade liberalization of air services.  I will emphasize the importance of bringing major corporate buyers of the air transport system from Europe and the U.S. into the process.

ALLIANCE BACKGROUND

It has been six years since the first true global airline alliance was implemented.  Since the KLM - Northwest Airlines combination, the alliance phenomenon has been characterized by explosive growth and instability.  Today, it is said there are some 400 airline alliances comprising 188 airlines.  On average, an airline remains a partner in a particular alliance for just 2.5 years.  What is driving this phenomenon?

Some airlines assert that "consumer demand" is dictating these linkups.  However, more credible rationale states that the proliferation of airline alliances--particularly in the last three years--is a consequence of an industry poised for globalization and growth, but restricted by issues of foreign ownership, cabotage and foreign market rights. 

Indeed, innovative U.S. DOT policy linking approvals of antitrust-immunized alliances to more open foreign aviation markets has been a powerful and masterfully used tool.  The opportunity to code share with a U.S. carrier is an incentive for foreign carriers to lobby their governments for expanded access to U.S. markets.  What foreign carrier would not want virtually free access to feeder traffic from the U.S.--the world's largest aviation market?

Pressure for global airline growth and issues regarding sovereignty of nations are real.  However, some alliances--and many would contend the majority--simply represent defensive reactions to the marketing advantage of "first-in" alliances like KLM - Northwest.  In fact, Mr. Donald Carty, CEO of American Airlines recently stated, "…so long as there is a perception that staying 'on-line' is a good thing, it's going to be a competitive necessity to be in an alliance."

Still, other alliances appear to be primarily driven by an opportunity to extract higher prices from consumers by circumventing computer reservation system (CRS) rules and manipulating information which travel agents use to access airlines' flight schedules on behalf of consumers.

For example, code share alliances permit connecting flights between partners to be viewed in the CRS as "online"-as if they were one airline.  These flights are also listed twice, once for each airline.  As such, and because of CRS rules, the code share flight is listed early on travel agents' computer screens (twice)--for example, on page one instead of page twelve.  In contrast, with an interline flight, segments are listed separately for each airline and much further down in agents' screens.  Consequently, many consumers are never offered less expensive options, and new entrants are discriminated against.

CUSTOMER INTERESTS AND CONCERNS

The interest of corporate purchasers in global alliances stems from the fact that business travel costs are a factor of production.  Through various taxes, corporations have invested billions of dollars in global air transport infrastructure.  Corporations want to guard against those assets being used to frustrate new entrant competition.  Naturally, no business wants to find itself at a cost disadvantage because of locally diminishing competition levels vis-à-vis its competitors in distant cities with greater air transport competition.

BTC is not at present advocating renunciation of immunized alliances as some industry participants are--despite concerns over the anti-competitive consequences of immunization, particularly in non-stop markets.  BTC recognizes airlines' need for growth and applauds the leadership and balance provided by the U.S. DOT in opening markets through Open Skies agreements. 

However, BTC questions whether it is not time to move beyond the current policy model, and with support from large corporate purchasers of air transport services from around the globe, aggressively address the core issues of truly liberalizing air transport on par with other trade sectors.

BTC has other concerns with global alliances such as safety records of alliance partners, customers service levels, passengers' legal rights and the regime for corporate purchasers of air transport services.  However, I would like to focus my comments in just a few areas, and especially on competition issues.

1.      Deception.  Mr. Robert Crandall, former Chairman of American Airlines once said, "Code sharing is based on misleading consumers into believing they are buying one thing while selling them another."   Indeed, an IATA survey found that 45% of travelers felt confused or angry when they arrived at an airport to find a different airline than they expected would take them on their journey. 

2.      Pricing. BTC is unaware of any conclusive studies that show lower prices for business travelers in non-stop markets resulting from alliances.  Moreover, what Consumer Reports Travel Letter documented is increasingly a problem for travelers.  The publication called Delta Air Lines for information on a trip from Atlanta to Zurich and were quoted a round trip fare of $1,243.  Consumer Reports then called Swissair and were quoted a fare of $758 for the same seat on the same flight.  An unsuspecting consumer would have paid a 64% premium.

3.      Competition.  With alliances, competition first can be reduced by two competitors becoming one, followed by a third competitor withdrawing from a market.  For example, American Airlines withdrew from the Miami to Frankfurt market when it could not maintain sufficient interline feed at Frankfurt in the aftermath of the United - Lufthansa alliance.  Once remaining partners rationalize routes and capacity, we can often have less competition, fewer flights and significantly higher business airfares.

Central to maintaining pricing discipline is new entry.  However, barriers to entry can increase with global alliances.  In addition to the CRS issue described above, potential investors in start-up airlines must consider other entry barriers and exclusionary practices which place their funds at enormous risk including:

- Refusal by alliance partners to interline or participate in joint fares with new entrants.

- Inadequate access to takeoff and landing time-slots.

- Lack of availability of airport gates and other essential facilities.

- Alliance response to new entry with targeted bonus loyalty program points and increased travel agent commissions.

- Alliance response to new entry with the dumping of tens of thousands of cheap seat into a market.

- Pressure on travel agencies to become exclusive "Dealerships" wherein the interests of only one global airline alliance is represented.

Numerous U.S. DOT and GAO analyses document competition problems in the domestic U.S. market today that are nearly identical to those found in global markets.  Of particular concern is that the DOT has determined that over the past couple of years, major airlines have largely avoided competing with each other in domestic U.S. markets.  Indeed, DOT has found that it is not competition per se that really matters in disciplining pricing, but rather, it is low-fare, new entrant competition that lowers air fares for consumers.

As Mr. John McCaffrey, Senior Director For External Relations at IATA points out, "Competition between alliances will increase as we get more of them.  But smaller carriers, the ones who provide the choice, may get eaten up."

GOVERNMENT POLICY TO DATE

Global airline alliances are anchored in an outdated trade regime of bilateral agreements, which is out of step with other liberalized trade sectors.  Consequently, alliances have become a surrogate for mergers and acquisitions, whose competitive impact would normally face a higher level of regulatory scrutiny.

When U.S. or European authorities attempt to formulate competition policy analysis around these alliances, especially immunized ones, the marketplace can become distorted.  For example, in response to competition concerns regulators often attempt to impose remedies on alliances such as the U.S. practice of "carve outs" in gateway to gateway markets, or the EC’s proposed blocking of integrated traveler loyalty programs. 

The problem with these remedies is that we do not know if they work, and many industry observers think that with every new remedy we are complicating the analysis.  In effect, regulators are addressing potential competitive symptoms of alliances and not the systemic problem of closed markets in the U.S., Europe and elsewhere.

OUTLOOK AND RECOMMENDATION

BTC believes the short-term outlook is somewhat unsettling.  Major network airlines, by their own acknowledgements, have carved up the U.S. market.  Any attempt by regulators or legislators to address this concern is swiftly met with well funded public relations attacks discrediting solutions as "re-regulation." 

Unless addressed, global alliances may lead to a similar result on a larger scale.  At a certain point it may be too late to undo government policies, industry structure and airline marketing practices that can conspire against the interests of competition and consumers.

In the longer term, BTC believes that we need to solve the systemic problem and construct a fully liberalized air transport sector trade regime between the Americas and Europe.  Such a regime should be underpinned by an agreed upon framework for consistent national competition policies.  If accomplished, other countries and trading blocks would likely follow.  This will obviously take great energies and some time, but the payoff could be substantial for all parties.

In the shorter term, BTC recommends that government policy emphasize increasing freedom of market entry and ensuring the existence of a level competitive playing field for new entrants.  As Mr. Graham Atkinson, United Airlines' Vice President for the Atlantic Division has voiced, "Without that watchdog check, alliances could be bad for the consumer." 

Governments might consider the following when deliberating policy with respect to global airline alliances for the short term.

1.      Relaxing foreign ownership and cabotage laws.  For example, U.S. corporations would provide Mr. Richard Branson a hero's welcome should he be permitted to introduce "Virgin America" to the U.S. market.   

2.      Disallowing portions of future alliances (or reauthorizations) where the proposed alliance does not face competition from another alliance, i.e. gateway-to-gateway non-stop markets.

3.      Guaranteeing takeoff and landing time-slots to new entrants--which are public property--sufficient to mount a credible competitive alternative to incumbent carriers.

4.      Changing CRS rules to prevent the kinds of anti-competitive effects discussed earlier.

5.     Monitoring incumbent airlines' responses to new entrants with their traveler loyalty programs, travel agency bonus commissions and capacity increases, and strongly encouraging alliances to police themselves--or face government intervention.

6.      Requiring alliances to interline with non-alliance airlines.

Government intervention in the marketplace is anathema to the business philosophies of the corporations BTC represents.  What is important to us is that the sudden and exponential growth of alliances--with potentially significant aggregate exclusionary powers--needs to be urgently and thoroughly understood from a global competition policy perspective.  Above all, competition must be preserved.