Let Them In
By David Henderson
Yesterday, over at our sister site, “Library of Law and Liberty,” Northwestern University law professor John O. McGinnis had an interesting post. It’s titled “The Obama Administration is Helping Raise Your Airfares.” In it, Professor McGinnis makes the case that the U.S. airline industry “has become an entrenched oligopoly.” He writes:
It is the Obama administration that is accountable. Two years ago, they permitted the merger of American Airlines and US Airways, two of the biggest airlines. I generally favor a relatively relaxed merger policy, because new entry can keep even large companies from restricting output and raising prices. But it is very difficult to enter the airline industry, because the take off and landing slots are limited at airports. And zoning and environmental regulations make expanding existing airports or building new ones almost impossible If you see persistent prices above the competitive level, search for the government regulation that causes them.
But antitrust authorities need to recognize when regulation impedes new entry and count such a regulatory structure against permitting such mergers. My suspicion is that the Obama administration did not do this sufficiently, because the powerful unions in the industry stood to benefit from a more oligopolistic structure. If airlines become few enough to coordinate on price, individual airlines would face less pressure to cut labor costs. If a merger is permitted when the economics suggests it should not, search for the powerful interest groups.
Fortunately, there’s a solution other than his solution of forcibly preventing mergers–and it involves less regulation, not more.
But wait. Didn’t I just quote him saying that it’s hard to expand existing airports or build new ones? Yes. So I’m advocating letting existing airports expand and allowing new ones, instead of adding regulation to make up for existing bad regulation.
But there’s another solution that doesn’t require any of this: allow foreign airlines to fly from one U.S. point to another. In other words, imitate Europe and get rid of the restrictions on cabotage that European governments abolished in 1997. Their results were great. Competition increased and airfares fell. Think Ryanair and easyJet.
You might argue that that competition wouldn’t matter because the bottleneck constraints that Professor McGinnis identified are binding. In other words, goes the argument, another airline entering wouldn’t matter because there wouldn’t be access to gates.
But there are two problems with that argument in this context. First, if it’s true, then preventing mergers wouldn’t matter either because the constraint is not the number of airlines but the number of gates. We know from his post that Professor McGinnis doesn’t buy that argument. Neither do I.
Second, we can’t know whether it’s true without allowing the new airlines in. If allowing foreign airlines into U.S. domestic markets wouldn’t reduce fares, we’re no worse off. But if allowing foreign airlines in would reduce fares, then we’re better off. And it’s easy to show that in that case, the gains to U.S. consumers would exceed the loss to U.S. airlines.
And I’m pretty sure that allowing more competitors would increase competition.
For more on this, see Fred L. Smith, Jr. and Braden Cox, “Airline Deregulation,” in David R. Henderson, ed., The Concise Encyclopedia of Economics.
HT to Francois Melese.