Price competition in the top US domestic markets : revenues and yield premium

Abstract

Since 2000 the US airline industry has gone through a severe crisis which initiated important changes in the competitive environment of the industry. The economic downturn, the fierce competition between Legacy carriers, the rapid expansion of Low Cost carriers, the soaring fuel prices and the 9/11 attacks are some of the reasons that put many US airlines into a financial crisis. Many of the traditional major US airlines were forced into bankruptcy during the first five years of the decade. That forced Legacy airlines to change their pricing strategies to better match their LCC competitors and stimulate demand. This thesis concentrates on the pricing and competition between Legacy and low cost carriers in the US domestic markets by analyzing the Top 1000 US domestic markets. A new metric is introduced, the yield index, that compares fares among airlines in specific markets in order to quantify the fares collected by major airlines with respect to their competitors in different segments of the domestic market. Furthermore a quantitative analysis of competition is performed to identify important changes during the years of the crisis. The average fare gap between Legacy carriers and LCCs that existed in 2000 was shrinking until 2005. The traffic and revenue losses of Legacy carriers combined with the rapid expansion of LCCs have also mitigated the market share difference and revenue difference between Legacy and LCC carriers. Legacy carriers were forced out of numerous domestic markets by new competition. Overall, the average number of competitors in domestic markets has dropped from above three in 2000 to below three in 2006 but the average number of LCCs has increased. Only four out of six Legacy carriers have held an average yield premium in the Top US domestic markets.

(cont.) On the other hand all Legacy carriers maintained a yield premium in the local markets of their hubs. It was observed however that the yield premium in hub markets decreased during the crisis, and the most financially distressed airlines have had the lowest yield premiums.