A methodology for determining the relationship between air transportation demand and the level of service

Abstract

Introduction: Within the last ten years significant advances in the state-of-the art in air travel demand analysis stimulated researchers in the domestic air transportation field. Among these advances, researchers in academia, industry, and government have investigated the relationship between observed demand and general level of economic activity such as GNP on the one hand and general passenger-perceived characteristics such as fare on the other hand. Advanced econometric techniques have been used to develop these relationships. However, to date very little effort has been devoted to investigating the impact of a change in the supply of air transportation service on the demand for air transportation. Thus, for all practical purposes, there are no analytical economic models which show the complex interrelationship between the supply of and the demand for air transportation. This research report is an attempt to begin to understand these complex interrelationships. During the sixties the demand for air transportation services experienced substantial growth rates due to the fact that fares (in constant dollars) were continually declining (because of increasing productivity of transport aircraft) and partly due to the fact that the level of service offered was continuously increasing, again the result of improvements in technology. However, at the beginning of the current decade the growth in the demand for air transportation services began to exhibit radical and unforeseen changes. These changes were caused by a reversal of the impact of the two factors mentioned earlier, namely that the fares were now increasing (due to rapidly increasing costs, particularly with respect to the price of fuel) and the level of service was decreasing, particularly evidenced by fewer total flights and fewer direct flights. The demand models developed in the sixties were adequate to caution airline managers on the impact of changes in the general state of the economy and changes in fare level. However, since these models did not adequately incorporate the factors relating to the supply of air transportation services, very few analysts were able to predict the impact of a change in the level of service. As a result, the industry was quite surprised to observe suppressed traffic growth rates when the level of service offered was changed as a result of a general recession in the economy and shortage of fuel. Due to the deterioration in the financial position, the carriers began to cut costs by reducing further the level of service offered. However, instead of improving the profitability of the carriers, this strategy further suppressed traffic and hence revenue, resulting in even lower profits. On the basis of evidence from the above discussion, there is now a critical need for the development of economic models that simultaneously incorporate the factors effecting both the demand and the supply of air transportation services. In order to begin to fulfill this need, the Aeronautical Systems Office of Ames Research Center at NASA funded a research project to investigate how the supply related variables (particularly those related directly to technology) contribute to the determination of the demand for air transportation. The research was divided into two parts. The first part, mostly exploratory in nature, was designed to determine whether sophisticated economic models incorporating supply and demand factors can be developed given the state-of-the-art in econometric modeling and the limitations of the existing data. During this phase the thrust of the research effort was first to analyze the existing data, second to analyze the components of the levels of service and third to develop simple models which serve merely to generate avenues of pursuit for further research in the second phase. This report presents the results of the initial exploratory phase of the research project and contains directions for research in the second phase to be carried out in 1976. During the first phase, research efforts were directed at investigating single equation models incorporating a level of service index in addition to the usual fare and socioeconomic terms. The models were calibrated using data from fifty-eight region pairs over a sixteen year period. The level of service index developed in this report represents an improvement over the one incorporated in past models (namely flight frequency). The new level of service index is a nondimensional generalized trip time scaled from zero to one, which takes into account not only the number of flights, but also number of intermediate stops, direct or connecting service, speed of aircraft and most important, the matching of the departure schedules to time variability of demand. Based upon the preliminary results, it appears that the level of service is a more appropriate explanatory variable in the demand model than just frequency. The significant results of the demand models developed in this exploratory stage of the research will be discussed in the following sections of this report. Section 2 describes the reasons for calibrating the models based upon region pair data rather than city pair data. Section 3 differentiates between the supply and demand components of air travel and elaborates upon the development of the level of service index. Section 4 discusses the sampling procedures used in determining the region pairs. Section 5 contains the specification of the single equation models and presents the empirical results. The final section of this report outlines the plans for future research in Phase II of this project.