The planes and the bees

Marie Force, the archives manager at Delta Air Lines, posts fascinating historical items at Delta’s blog Under the Wing. Today she notes the anniversary of the death of one of Delta’s founders, C. E. Woolman, who had a quotation worth sharing here: “Running an airline is like having a baby: fun to conceive, but hell to deliver.”

Delta’s Founder and First CEO: C. E. Woolman [Under the Wing]

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Deregulation “clearly, definitely” a good idea: an interview with Alfred Kahn

Sorry for the light posting around here. I’ve been working on some major writing projects that will appear over the next few months. In the course of one of them, I had occasion to chat with Alfred Kahn, the chairman of the Civil Aeronautics Board in the late ’70s and the “father of airline deregulation” (although when deregulation’s record was questioned he would later joke that he wanted a paternity test). Here are a few highlights from our conversation.

Looking back, was airline deregulation a good idea? “It clearly, definitely was,” Kahn said, “even though circumstances have now changed abruptly and the response of the market to changed circumstances . . . are in a sense wiping out henceforward many of the benefits that flowed during the past 30 years.”

Why was it so successful? The answer, he said, is that it “sparked an enormous increase in competition and air travel affordable to people from a much wider spectrum of income than before . . . made possible by filling seats in the previous decade that had gone empty.” Furthermore, he added, airlines are providing the service demanded: “I don’t see any evidence even now that the industry is failing to provide service that is economically viable.”

Notwithstanding the high fuel costs that many analysts say will drive most airlines into bankruptcy and force an industry transformation, Kahn insists that introducing competition into the industry was a good thing to do. “That’s no reason for denying the benefits from competition.” There is nothing inconsistent to say that there was a $5-10 billion per year benefit to consumers and that today’s energy situation may be reversing those benefits. Furthermore, changes the airlines made in the past thirty years due to competitive pressures may help them in today’s climate: “The increase in competition clearly forced them to improve their productivity; I don’t see that those [gains] are being wiped out.” All industries are to some extent exposed to losses due to high energy prices, Kahn said, so “nor would it be desirable for [airlines] to be sheltered from the change in our energy situation.”

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Who says airlines can’t make a profit?

One of the most-voiced complaints about deregulation is that airlines have been consistently unprofitable since deregulation. That’s not true, according to this handy chart from a 2006 Government Accountability Office report [PDF].

As you can see, airlines were only narrowly profitable in the era of regulation. After regulation, they became exposed to economic forces, making them — like most other industries — profitable during good economic times and less so during recessions. The airline bottom line was hit by the 1980, 1981-82, 1990-91, and 2001 recessions. The final one’s impact was exacerbated by 9/11. Even with the current challenges of the industry, it’s not possible to say that airlines simply can’t make money in a deregulated environment. Those who propose some measure of reregulation should make clear what they want: for airlines to be protected from the economic cycles and competitive pressures that almost every other industry faces.

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Should airlines be regulated like a public utility?

Yesterday, several outlets reported on former American Airlines CEO Robert Crandall’s speech at the Wings Club (full text here). Crandall, who ran AA during the process of deregulation and made it an industry leader in the post-deregulation era, opposed deregulation in the late 1970s, and his opinions haven’t changed: “We have failed to confront the reality that unfettered competition just doesn’t work very well in certain industries, as aptly demonstrated by our airline experience and by the adverse outcomes associated with various state efforts to deregulate electricity rates. It’s time to acknowledge that airlines look and are more like utilities than ordinary businesses.”

Because Crandall is such a legend in the airline world, I’d like to go through his remarks seriously and respectfully. The key question: should airlines be operated like public utilities? Public utilities arise from natural monopolies, in which it is most efficient for a single firm than multiple, competitive firms to provide a service. Natural monopolies usually result in infrastructure- and capital-intensive industries. Classic examples include electricity transmission or public transportation: it’s too costly for competing firms to maintain multiple networks of power lines or subway tunnels. A utility is often created because it is the only way to ensure crucial infrastructure investments are made; if multiple firms are competing, they may not be able to afford to upgrade their systems over time. Economists have been doing important work exploring whether such utilities are really natural monopolies. Back in the 1970s, a consensus was reached that airlines did not constitute such a monopoly.

Indeed, certain elements of the infrastructure of the airline industry may be natural monopolies. Would it be more efficient to have multiple air traffic control firms competing? Not likely. And communities in which there is one major airport may find that a natural monopoly. (But regions with multiple, competitive airports, like London or New York, have great potential for airline competition. BAA, the owner/operator of London’s three largest airports, was set up as a sort of private utility with so much market power because only such a structure was thought to allow sufficient investment in infrastructure. As it turns out, BAA’s common ownership in a competitive environment has retarded investment.)

But airlines themselves are no longer thought of as a utility. Why were they ever?

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When regulators can’t keep up

The Civil Aeronautics Board, which regulated interstate air fares and routes until its statutory demise from 1978 to 1985, was by the early ’70s a hidebound agency with little interest in serving consumers. It declined to approve new route authorities, frequently offered antitrust immunity to airlines when they colluded on scheduling, and generally opposed any effort to reduce fares — even as the technological barriers to lower fares were falling in the jet age. “As the CAB’s regulation of the industry grew more ham-handed, an airline nderground sprang up,” write Barbara Sturken Peterson and James Glab in Rapid Descent: Deregulation and the Shakeout in the Airlines.

Travelers banded together in phony groups that existed only to charter a flight. Authorities became suspicious when organizations like the Czechoslovakian Radio Hour Friendship Club started showing an unlikely interest in globetrotting. The CAB assigned gumshoes to stand at airports and check charter passengers’ IDs. The campaign reached hilarious heights in 1971, when the government’s air fare police raided a plane carrying members of the “Left Handed Club,” a group they accurately suspected included many right-handed passengers in search of inexpensive air travel.

The sad thing was that the CAB did not have to act this way. Congress deregulated the industry in response to the CAB’s relentless refusal to adapt to the changing environment of aviation. I think there’s a lesson here today. The chief regulatory agency in the U.S. aviation world, the FAA, has failed to keep up with increasing and evolving demand for air travel, leaving us with congestion problems that can only be “solved” by external shocks like 9/11 (in 2001) or a recession (very soon). When the regulator can’t keep up, Congress needs to reform it.

The CAB’s lack of interest in promoting competition in the airline industry eventually became so outrageous that it drew Ted Kennedy, Ralph Nader, and free-market economists into the same camp. How bad will our current situation get before similar change will come to pass?

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Shame as a public policy tool

Today I’m reading Grounded: Frank Lorenzo and the Destruction of Eastern Airlines, an on-the-ground account written in 1990 by reporter Aaron Bernstein about the events surrounding Lorenzo’s ill-fated ownership of Eastern in the ’80s. (FYI: Bernstein takes a clear pro-labor angle that should be noted.) In his discussion of military man, former astronaut, and Eastern CEO Frank Borman’s actions preceding the sale, many of those whom Bernstein interviews thought that Borman was too proud to let his airline go into bankruptcy or sell it to corporate suitor Frank Lorenzo. “Borman had no desire to sell the company,” writes Bernstein. “Failure would be a bitter end to what had been a successful climb to the top of the corporate ladder.” But Borman ends up running to Lorenzo instead of buckling to union pressure.

Lorenzo seemed to have no such scruples, which led him to sell off most of Eastern’s most profitable assets, wage a demoralizing battle with the airline’s unions, leading to a disastrous strike and eventual shutdown in 1991. Lorenzo dragged capitalism through the mud, wrote William F. Buckley at the time, but “[t]here is no way a law could be written, to the effect that chief executives ought not to profiteer from the distress of companies they manage.” What remedy is left? “Some general manifestation of disdain for the abusers of capitalism is appropriate,” Buckley writes. That is to say, we should shame corporate officers who behave this way. Shame once might have been an effective tool for penalizing actually corrupt businessmen — which Lorenzo was not — but in the airline world, passengers seem not to care about honorable behavior by executives as long as they get a cheap flight. Rare is the instance in which an executive resigns in disgrace, as American Airlines’ Donald Carty did in 2003 during an attempt to extract concessions from flight attendants while offering top executives cash bonuses. (Carty did not leave the industry; he is currently chairman of Virgin America.)

I’ve written before about the decreasing stigma of bankruptcy. If the law is too heavy a cudgel to ensure upright behavior by airline bosses, and if bankruptcy judges see fit to allow airlines to shred contracts under what Herb Kelleher calls the “health spa” of Chapter 11, then we will have no choice but to shame the executives into doing the right thing. Does the American public have the moral stamina?

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Quote of the day

Maybe it’s sex appeal, but there’s something about an airline that drives investors crazy.

–Alfred Kahn

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Southwest’s Kelleher gives Lindbergh Lecture

Herb Kelleher, the legendary founder of Southwest Airlines, proponent of low fares, and friend of deregulation, delivered the Charles A. Lindbergh Memorial Lecture tonight at the National Air and Space Museum in Washington, D.C. He reflected on his long career in aviation, on the fundamentals of Southwest, and offered a few comments about the future of the airline industry. As usual, Kelleher’s lecture was full of humor — most of it at his own expense.

Kelleher recounted a number of critical moments in Southwest’s history, from the four years of litigation just to get started to the fight to operate out of Dallas’s Love Field. When Southwest launched with $26 fares, its competitors undercut the price by half. Kelleher said that he would still offer the same fare, but that every customer would get a bottle of whiskey. “We became the largest liquor distributor in the state of Texas!” he chuckled.

Even though almost all the major airlines opposed deregulation, and although observers thought Southwest would get stomped in a competitive environment, Kelleher said, “Southwest Airlines supported deregulation of the airline industry throughout the 1970s.” A sign of deregulation’s success? When Southwest launched, only 15 percent of American adults had been on a commercial airline flight. Today, 85 percent have, although this is not only due to lower fares but also a growing economy and general better standards of living.

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1978, 2008

[Alfred] Kahn and the [Civil Aeronautics Board] were facing not just one but three airline mergers in the summer of 1978. In addition to the battle for National, Continental Airlines and Western Air Lines had filed for approval to merge, and two local service carriers — North Central Airlines and Southern Airways — also wanted to combine forces.

Kahn was deeply troubled by all this merger activity. After all, the CAB has in practice given carriers virtual carte blanche to serve any domestic markets they wanted. “This is the last time in the world anyone needs to merge to gain new routes,” the CAB chairman told a reporter later that summer. “We are strongly motivated to let anyone fly wherever they want. But instead of grasping the opportunities we’re offering, this disease, this psychology, is getting abroad that airlines ought to merge.”

— Barbara Sturken Peterson and James Glab, Rapid Descent: Deregulation and the Shakeout in the Airlines (New York: Simon and Schuster, 1994).

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Airline regulation revisionists face the wrath of Kahn

Alfred Kahn, the eminent economist and chairman of the Civil Aeronautics Board who oversaw airline deregulation in the 1970s, has published a fascinating new working paper on the AEI Reg-Markets Center site. He addresses the difference between “liberal” and “progressive” views on economic policy and regulation, and he argues that “progressivism” as defined by those who claim its mantle today is not truly progressive — in fact, that it runs against the mainstream liberalism of the mid-twentieth century and its signature economic reforms, such as airline deregulation.

What does Kahn hold up as liberalism? (He is himself a proud liberal, appointed to the CAB by Jimmy Carter and later serving as Carter’s inflation adviser.) “Liberals . . . have historically advocated an open market—private, free enterprise, free trade—economy, with consumers best served by competition among producers and sellers, both internationally and domestically,” he writes. Thus, liberalism in the nineteenth and early twentieth centuries consisted of fighting Republican tariffs, using antitrust laws to break apart monopolies, and supporting free public education and other social services designed to break down heightened income inequality. If this sounds suspiciously like the “progressive” movement of the late nineteenth and early twentieth centuries, you’re not wrong. Kahn argues that liberalism is progressive but that the label “progressive” has been hijacked by radical populists:

As I will argue, partly on the basis of my own experience as a regulator, deregulator, and advisor on inflation to a liberal President, there is nothing either “progressive,” “liberal” or desirable about—successively—populist protectionism, xenophobia, competition-suppressing regulatory cartelization, repression of energy prices, recourse to price controls as a remedy or preventive of inflation or a rush to rein in or hamper the dynamic market processes of technological change—the major areas in which authentic liberals will continue to clash with latter-day “Progressives”.

How does this apply to aviation policy?

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