The Airline Industry

One of the major industries affected by the September 11 attacks had been the airline industry. Aside from security improvements were put in place as a response to the hijacking of four commercial aircraft, the industry as a whole lost a total of $42 billion from 2001 to 2005.The president of the Air Transport Association has called the current situation of the airline industry as a â€Å"perfect storm of adversity†. Two of the largest commercial carriers are currently under bankruptcy protection and two others have gone in and out of bankruptcy court in the years after 9/11.These losses could be attributed to lower passenger traffic in the wake of the terrorist attacks. The price for jet fuel has also been rising since 2001 which adds to the costs incurred by the carriers.   Jet fuel price in 2006 was up 168% from pre-2001 levels (Isidore, 2006).While the US air industry is slowing down, there has been an increase in global air passenger numbers. Most of these increases are coming from developing economies in Asia and Europe.Airlines in Asia grew at a rate of 20% annually while airlines in the middle east grew 11%. Similarly, air routes linking the US with Asia and Europe are also expected to see an increase in passengers (Shriner, 1994).Demand and Supply ElasticityWhile these changes could be directly attributed to the 2001 attacks and their repercussions, some changes in the airline industry has emanated from the industry itself. The older legacy airlines had to face numerous new entries in the form of low cost, low frills carriers.These new low cost carriers have kept the price of airlines travel low over the past few years. Passengers now had more choices and as a result, total air traffic had been increasing while average fares have not kept pace. Legacy airlines with larger operational costs could not compete with the lower fares.As a result, they had to streamline their operations by cutting excess manpower and retiring older, less fuel efficie nt aircraft in their fleets. The fleets of the legacy carriers have shrunk by 23% since 2001 and their workforce has dropped 38% during the same amount of time (Isidore, 2006).The proliferation of low cost carriers since 2001 has essentially increased the price elasticity of demand for air travel. While all airlines serve the same purpose – air travel – each airline can still be differentiated from one another.Low cost carriers may not offer the same kind of quality service found in legacy carriers. In effect, when passengers book a flight, they are choosing between goods from airline A, airline B etc. Since passengers have more choices due to the introduction of low cost carriers, their substitution between airlines has become easier.This relatively high elasticity is reflected in the increasing passenger counts at a relatively constant fare (price) schedule.Externalities of the Airline IndustryAirlines, whether legacy or low cost are now keen on improving their fuel efficiency due to the rising costs of jet fuel. Fuel costs account for 10-12% of annual airline operating costs. One way that airlines are trying to improve fuel efficiency is by retiring older aircraft with poor fuel efficiency (May, 2003).One industry that is intrinsically linked with the airline industry is the aircraft manufacturing industry. The US is a world leader in aircraft manufacturing with US aircraft manufacturers delivering 71% of new aircraft in the early years of the 1990s.Even with the boom in airline travel in the developing world, US airlines still account for roughly 25% of aircraft orders from US aircraft manufacturers like Boeing and McDonnell Douglas   (Shriner, 1994). Clearly, an increase in income by the airline industry will translate to more orders of aircraft. In that case, the airline industry exerts positive externalities on the aircraft manufacturing industry.The positive externalities do not end with increased production by US jet manufacturers. As airlines keep pushing for more fuel efficient and modern aircraft, they are providing an incentive for technology development in the aircraft sector.The increasing prices for jet fuel are even pushing this new technology development even further in the direction of making air travel more fuel efficient. An example of such technology development is in the new Boeing 787 Dreamliner aircraft which is due to enter service next year.Being made out of composite materials, it is much lighter and thus uses up 20% less fuel than similarly sized jets. An offshoot of using composite materials is a more comfortable flight experience as the cabin air does not need to be so dry (humidity causes metal to corrode) and the air pressure can be made much higher in order to make breathing easier.The use of metal precluded using higher cabin pressure as it may accelerate metal fatigue (The Economist, 2007). It is important to note that this externality does not end at Boeing. Advances that Boeing are ma king are sometimes tied to and sometimes preceded by fundamental R&D performed at universities (Shriner, 1994).We can therefore see how the airline industry promotes R&D and helps maintain the dominance of the US in aircraft technology.Even though new aircraft like the Dreamliner might reduce fuel consumption, it still does not change the fact that the airline industry has a huge externality in the form of pollution. Aviation is responsible for 2% of anthropogenic carbon dioxide production. Aircraft also release other noxious gases such as nitrogen oxides, soot and water vapor.However, the polluting effects of airlines are magnified since these gases are released directly into the upper atmosphere where they form condensation trails and cirrus clouds. The fact that air pollution from aircraft is released at a high altitude may have the effect of double the same amount of carbon dioxide released at ground level (The Economist, 2007).